Arthur I. Cyr
“I am shocked, shocked to find … gambling …”
This famous statement from cynical Capt. Renault in the classic film “Casablanca” applies to analysis of government debt. Those most righteous are suspect. Context is important when evaluating debt.
Last month marked the 10th anniversary of the dramatic downgrade of the U.S. government debt by influential ratings agency Standard & Poor’s in 2011. Solemnly, the self-appointed guardians of fiscal probity reduced the U.S. from the prized AAA rating.
Yet little note has been taken of this decade’s benchmark. That is partly because S&P is declining in influence.
In February 2015, the company announced payment of $1.38 billion to settle federal fraud charges regarding ratings of mortgage-backed investments. Collapse of these securities triggered the global financial meltdown that began in 2007.
The agreement came two years after the U.S. Justice Department began the prosecution. Authorities focused from March to October 2007, just before the market failed. The indictment alleged warnings from the industry’s own analysts were ignored for at least three years.
When S&P was charged, primed company attorney Floyd Abrams responded immediately that the Feds singled out his company. He argued S&P was only guilty of optimism, along with other firms and indeed the U.S. Treasury.
Simultaneously, S&P was aggressively trying to preempt, including the rating downgrade. Meanwhile, global demand for U.S. government bonds increased.
The Feds declined to bring criminal charges against S&P. In Casablanca terms, the company caught a break.
Company officials declared ending AAA reflected high and growing deficit and debt levels of the U.S. government, and doubts about capacity and will to correct the situation. Solemnly, the credit calculators announced the U.S. was becoming a less worthy borrower.
An NPR interviewer at the time asked S&P representatives about their shocking lapses in evaluating businesses. One executive responded that another section of the company handled those matters. In “Casablanca” vernacular, the S&P front man played dumb and passed the buck.
Which brings us to President Harry Truman, who displayed a sign on his desk in the Oval Office stating “The Buck Stops Here.” Truman and other Allied leaders of that time faced seemingly endless challenges, including World War II, the Cold War that began soon after defeat of the Axis powers, the Korean War and a U.S. debt greater than today’s.
New federal programs to aid the retired and unemployed, educate millions of returning veterans, and regulate labor and management were uncertain. Yet S&P did not downgrade the United States at that time.
Because equating the U.S. national government, which commands vast actual and potential assets, with the balance sheets of even enormous commercial corporations is absurd.
In that turbulent earlier time, national unity was essential, and big business was suspect. No credit ratings company dared “downgrade” our government.
S&P publications of that era reveal a Wall Street cheerleader, constantly exhorting people to buy stocks, described as undervalued. Yet the public remained unconvinced.
For years after the Great Depression, credit ratings firms were widely regarded as shills for Wall Street. Stock prices did not rise to levels predating the 1929 crash until 1954.
Since the severe international financial recession of 2007-2009, financial services firms have fought re-regulation by Washington. Instead, they should aggressively clean house.
The enormous growth in government spending because of the pandemic provides opportunities for honest risk analysis. A market correction is coming.
Arthur I. Cyr is the author of “After the Cold War” (NYU Press and Palgrave/Macmillan), “Liberal Politics in Britain” and other books. He is the Clausen Distinguished Professor at Carthage College in Kenosha, Wisc. Contact him at firstname.lastname@example.org