What Does It Mean That the S&P Downgraded the U.S. Credit Outlook to Negative?

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Yesterday, for the first time since Pearl Harbor, Standard & Poor’s lowered its confidence in America’s ability to pay back its debt. According to the S&P’s magic 8-ball, the budget impasse between Republicans and Democrats was likely to keep the U.S. from addressing its budget deficits and mounting debt. The downgrade from “stable” to “negative” wreaked havoc on the stock market and sent politicians scrambling to use the news to advance their agendas. But is a “negative” outlook really as bad as it sounds?

The Atlantic’s Clive Crook thought there should be scare quotes around the S&P’s “bombshell”:

This Can’t Be Happening’s Dave Lindorff wondered if the S&P just wanted to run “interference” for the GOP’s efforts to “crush social security and Medicare.”

At least one economist burst out laughing on hearing about the S&P announcement. “They did what?” exclaimed James Galbraith, a professor of economics at the University of Texas in Austin, who formerly served as executive director of the Congressional Joint Economic Committee. “This is remarkable! It certainly will confirm the suspicions of those who have questioned S&P’s competence after its performance on the mortgage debacle.”

Although major U.S. creditors like Japan, South Korea, and India seem unperturbed, China has yet to weigh in:

The Washington Post’s Ezra Klein says “S&P got seriously scooped” on the news that Congress was paralyzed with gridlock.

Bradford DeLong pointed out that the dollar actually strengthened after the announcement and reclassified the downgrade as a piece of “political news”

My guess — which might well be wrong — is that we saw the price pattern we saw because Ms Market views the S&P announcement as a political move. Congress, she may be thinking, is like a mule: it only moves when hit with a whip. Normally the whip to get a deficit-reduction deal is fear of the bond market’s producing a spike in interest rates and borrowing costs, but perhaps a fear of a ratings downgrade will do instead. And my guess — which might well be wrong — is that the dominant view of Ms Market is that this will harm equity holders not so much by loading more of the burden of balancing the budget on corporate and capital gains taxes but, rather, by slowing recovery and raising the risk of a double dip.


Related: S&P on U.S. Credit Outlook: Prognosis Negative