A truly scary warning from Moody’s Investor Services was issued yesterday, but if the credit rating service hoped to end the brinkmanship over the U.S. debt ceiling, it appears so far to have succeeded only in provoking deeper heel-digging in Congress. Moody's said June 2 that “if there is no progress on increasing the statutory debt limit in coming weeks, it expects to place the U.S. government's rating under review for possible downgrade, due to the very small but rising risk of a short-lived default.” Moody’s said the nation’s sterling triple-A debt rating will be maintained if the debt ceiling is raised, as Treasury Secretary Tim Geithner has implored Congress, “and default avoided.”
Commenting on the lack of progress in Congress on the debt ceiling, Moody’s dryly noted that it “fully expected political wrangling prior to an increase in the statutory debt limit,” but “the degree of entrenchment into conflicting positions has exceeded expectations.” Moody’s said, “The heightened polarization over the debt limit has increased the odds of a short-lived default. If this situation remains unchanged in coming weeks, Moody's will place the rating under review.”
After performing some remarkable fiscal sleights-of-hand (by not paying into federal pension plans, among other maneuvers) to put off the day of reckoning on the debt (now delayed until Aug. 2), Geithner has warned that even a “technical default” on U.S. debt would be catastrophic for the U.S. and perhaps the global economy. Greece crisis, forget about it. We’re talking about Atlas really shrugging here.
Moody’s, perhaps eager to make up for its part in the housing market debacle when it continued to issue smiley-face ratings on mortgage-backed securities even as the housing market blew-out in 2007, has telegraphed its intentions in the event of a default. Many in the G.O.P. had been suggesting that a government shutdown and technical default would not have significant repercussions. The service's assessment backs-up Secretary’s Geithner's Cassandra-ing (sorry, seem to be having my own Greece crisis). Any default, it warned, would mean a downgrade on U.S. debt to an Aa rating. Moody’s said it would be poised to restore the Aaa-rating in anticipation of a hastily resolved default. But if the government shuts down, as some suggest, for weeks or months, who knows where the nation and its credit rating could end up? Dublin, Athens, Madrid, Lisbon are some possible relocation sites. We live in fragile and trigger-happy economic times. The uncertainty engendered by a downgrade and the jolt to U.S. credibility and presumed solvency it represents could have a devastating impact on the ability of the United States to borrow the dough that keeps what’s left of the economy on the go.
Democrats have predictably seized on the warning to denounce the Republican intransigence on the debt ceiling, but Republicans, also predictably, found legitimacy in Moody's analysis for their position that an increase in the debt ceiling needs to be accompanied by budget cuts. Moody’s in fact assures: “If the debt limit is raised and default avoided, the Aaa rating will be maintained." It adds, however, its rating outlook will depend on the outcome of negotiations on deficit reduction. Says Moody's: "A credible agreement on substantial deficit reduction would support a continued stable outlook; lack of such an agreement could prompt Moody's to change its outlook to negative on the Aaa rating.” In other words even if we get past the debt ceiling crisis without doing too much long-term damage, rating services are going to continue to cast a cold eye on U.S. borrowing unless a credible plan to deal with the deficit and national debt is forthcoming soon.
Note that Moody’s, like the U.S. bishops, is not trying to define the nature of that "credible" deficit reduction plan, that is, it endorses neither shock-therapy style cutbacks or glide-path deficit-spending back to something approaching solvency. But Moody’s does call for “substantial and credible long-term deficit reduction,” adding, “such reduction would imply stabilization within a few years and ultimately a decline in the government's debt ratios, including the ratio of debt to GDP.”
That appears to be the goal on both sides of the aisle. How precisely we get there will be in hot dispute, likely right up to the July deadline on a rating reassessment specified by Moody’s. Even as the unemployment numbers continue their march of gloom and the housing markets double-dips, some are still arguing for a deficit reduction plan that will look a lot like German and U.K. style austerity. For economists like Paul Krugman, however, that approach only portends a great deal more short-term pain for the jobless, poor and middle class and the possibility of catapulting the fragile two-year-old recovery into renewed recession or worse.
It appears we are playing a game of chicken not just with the debt ceiling, but with two contending theories over how best to throttle up the U.S. economy—creating jobs and restoring something that looks more like prosperity in America—without driving ourselves over the edge. Personally I would prefer not living in a time that future economists will be comparing to 1937 when F.D.R. took his foot off the floor too soon. Much is riding on the folks in Washington getting this right. It's probably unfortunate that we teeter on the edge of a renewed economic crisis just as the presidential election circus rolls into Washington. Grandstanding and playing to respective bases may hamper serious discussions aimed at unraveling the debt crisis and putting more Americans back to work. Over the past year President Obama has been balancing calls for more stimulus and arguments for austerity. He may not be able to ride these negotiations out in the middle.