By now, nearly every American should know that a “credit report” and a “credit score” represent a measure of our personal financial integrity. Those reports and scores, for individuals, are kept and computed by a select number of large companies (like Equifax, TransUnion, FICO and Experian). Even though most of us have had little if any direct contact with these companies, the fact is that they are keeping files on us and that the reports and scores they generate have a major impact on the availability and cost of individual debt. One bad score can double the cost of a mortgage, triple the rate on a car loan, or, worst of all, prevent us from getting either of them.
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Here’s what you may not know: just as the credit reporting agencies keep tabs on you, there are a dozen or so companies that keep tabs on corporations and governments. You’ve probably heard of them because they get a great deal of ink, since in perfect analogue to the situation of an individual, a bad credit rating can dramatically increase the rate of interest that a corporation or government must pay to borrow, usually by issuing bonds. The U.S. government officially approves these companies to issue these ratings, and thus they carry a great deal of weight with investors and analysts worldwide.
The best known of these rating agencies is Standard & Poor’s (S&P), which in addition to rating corporations, also rates particular bond issuances of these corporations, their bank debt, and even debt issued by governments, such as U.S. Treasury bills. In other words, when a company or the government decides to borrow money from the public to fund a particular project or initiative, S&P tells the world whether they think it’s a good investment.
Of course, like your credit reports, they’re not always accurate. For example, in the months and years leading up to the financial meltdown of 2008, many ratings agencies gave “AAA” ratings to mortgage backed securities that were anything but “AAA.” These officially “blessed,” sliced, diced and neatly packaged economic time-bombs were aggressively marketed by Wall Street and voraciously gobbled up by a huge swath of investors ranging from Pension Funds, to Main Street, to Scandinavian fishing villages. Because of bad investments in this exciting new investment vehicle, icons like Bear Stearns and Lehman Brothers imploded, seriously damaging the financial integrity of scores of multinational organizations and destroying the financial futures of millions of Americans and countless Danish fishermen.
Well, a funny thing happened on April 18th. S&P decided to issue a warning on U.S. government debt. A “warning” is not the same as a “downgrading;” U.S. government debt is still rated AAA—the highest rating available. However, in very blunt terms, S&P took the position that government borrowing is out of hand and thus changed its quite famous “Outlook” from stable to negative. U.S. government debt now totals approximately 94% of gross domestic product (GDP), making America No. 12 on the list of countries with the highest level of borrowing. Unfortunately, this year’s projected deficit will certainly take the debt total over 100% of GDP.
What precipitated S&P’s gloom are the recent, unusually mordant budget debates in Congress, and the upcoming brawl that is certain to occur over the expansion of the “debt ceiling.” Ever since 1917, Congress has mandated that government borrowing cannot exceed an amount set by statute. Sometime around July 8 of this year, federal borrowing will break through the current ceiling (a paltry $14.3 trillion dollars or, to put it another way, $14,300,000,000,000.00). Thus, the ceiling needs to be lifted or there is a possibility of truly catastrophic consequences. Recently, Treasury Secretary Tim Geithner said that if the ceiling is not lifted in a timely manner, the result would be a true depression that would make the meltdown of 2008 look “tame.” The government will have to pay more of our money to borrow money, which will lead to higher deficits, a stillborn recovery, higher unemployment and higher rates for consumers and businesses if we want to borrow money, and so on, and so on, and so on. Nothing more, nothing less than an economic death spiral.
In fact, when S&P made its announcement the Dow Jones (another creation of S&P) dropped about 250 points but recovered somewhat before the session ended. The price of gold, which tends to rise in tandem with economic uncertainty, approached $1,500 an ounce. Markets around the world tumbled in sympathy and there was a glimpse of what the reaction would be if the United States—the most reliable borrower in history—actually defaulted on its debt. Lending credence to the once unthinkable thought that the U.S. would not pay its bills is the fact that a large group of fractious freshmen congressmen have indicated, in no uncertain terms, that they are against lifting the ceiling.