The firestorm in Washington over the deficit and raising the debt ceiling to avert a default is concerning, even nerve-wracking, but the financial community apparently remains more confident than not that an 11th hour deal will be reached and an unprecedented downgrading of U.S. credit avoided.
Conversations with financial analysts and industry insiders suggest a hesitant optimism — certainly not the kind of nonchalance Republican Tea Party types, who seem to think it wouldn’t be that big of a deal, are showing about the prospect of default — coupled with dismay at an “unfathomable” prospect: U.S. businesses having a credit rating lower than that of the country they call home.
“I think you have to assume, I certainly assume, that Tim Geithner, secretary of Treasury, as well as maybe the president himself has spoken with the head of the ratings agencies and said: ‘Make as much noise as you want, but don’t even think about downgrading our debt.’ The implications are huge; if our cost of borrowing increased, it’d dramatically worsen the chances for us to get out of the place we’re in. That’d be a suicide mission for the rating agencies,” said Matthew Andrews, director of research at Private Capitol Advisors, a wealth management firm in New York.
He said the ratings agencies are talking a big game but risk further damaging their already weakened reputations by following newcomer Egan-Jones in dropping the United States’ credit rating to AA from AAA.
“The risk is that they’re making a colossal call; they’ve been attacked for so long for being on the wrong side. They missed the housing crisis, they missed Lehman. If they were premature on making this call, you’ve got so many investors and companies involved in this decision, it’s not just the credit call of some specific company. You’re opening up a can of worms; everybody knows how much debt is outstanding. So to prematurely say you can’t borrow, to be the guys who go out in front, the repercussions are unimaginable.”
We’ve seen market volatility but not a crash like that of the fall of 2008 because the major credit agencies have kept their powder dry thus far.
“Is it possible for a company to have a higher debt rating than the country it’s located in? If the answer is no, you have a spiral effect, a vicious cycle. The companies in this country that have relied on their credit quality to borrow at very low rates would be jeopardized by a rating agency that questioned the state of the largest global economy based on a legal borrowing limit. This isn’t Greece or Italy, this is the United States of America. When you create that kind of uncertainty that’s when the market goes down.”
An investment analyst at a boutique firm who asked to be kept anonymous added that “[e]xcluding the fact that I work in the finance industry, as an American, the implications of a U.S. default whether it’s political or solvency related, are concerning as a consumer, for what it means for my dollars, what it means for my assets held in dollars, and interest rates. The implications are dire.”
“The implications [of a default] are unfathomable. It would be a Black Swan event. Like Lehman Brothers. The repercussions would be felt deep and wide.”
That being said, he indicated that many, including himself, were glad the country was having a serious discussion about the structural budget deficit.
“This has been a drawn-out, unnerving process, but [at least] we’re having a real conversation that will end with them raising the limit, and we will have gotten everybody on the record talking about the debt, talking about how we’re over-leveraged as a nation.
Negotations over raising the Treasury Department’s borrowing authority remain stuck in neutral in Washington, with Senate Majority Leader Harry Reid (D-NV) and Speaker of the House John Boehner (R-Ohio) pushing forward with very different debt ceiling plans this week. The nonpartisan Congressional Budget Office liked Reid’s more, saying it cut deficits by $2.2 trillion through 2021, almost three times the $850 billion Boehner’s bill would achieve. This is mostly accomplished by capping future war spending, something Republicans say isn’t legitimate but many hope will be part of the deficit conversation when the U.S. continues to outspend the rest of the world combined on its military.
But Standard and Poor’s, one of the louder voices among the rating agencies lately, has called for some $4 trillion in deficit reduction and assurances “that such an agreement would be enacted and maintained throughout the decade,” a lot to ask from the least productive Congress in memory, though the firm backed away from that hardline stance in testimony before Congress late Wednesday afternoon.
And some are arguing that the very threat of a default has effectively downgraded the United States’ credit already.
“Everyone already knows that the U.S. has lost its AAA status….The investment world knows that the U.S. is not AAA,” Jim Rogers, the analyst and investor who regularly appears on television to discuss the market, told the Wall Street Journal.
If a downgrade is worrisome, a default is positively terrifying, even if people in the orbit of finance try to stay optimistic.
“Our top priority is ensuring the debt ceiling is increased,” said Blair Latoff, director of communications at the Chamber of Commerce, the nationwide business lobbying organization that vociferously opposed Barack Obama’s healthcare overhaul.
“From a market perspective, I would argue that the [financial community, even at this late stage] still doesn’t believe the Republicans and Democrats are dumb enough to let a default happen,” Andrews concluded.
Copyright 2011 The National Memo