David McClough: Credit rating groups should downgrade U.S.

Due to the failure of the House Speaker and the President to negotiate a debt ceiling increase that would allow the government to pay its bills, in particular principal and interest on the nearly $31.5 trillion debt, the credit rating agency Fitch placed the United States credit on negative watch.

Fitch is one of three credit agencies that market participants look to for insight regarding the riskiness of debt. Announcing that the U.S. credit is now on negative watch is a step prior to downgrading the credit-worthiness of the U.S.

While no one knows exactly what the consequences of failing to raise the debt ceiling will be, it is universally agreed that global markets will be disrupted and that the cost to finance ongoing debt obligations will increase because the U.S. debt will no longer be perceived as riskless. With the Secretary of the Treasury, Janet Yellen, reiterating that the U.S. will run out of money June 1, the question is why haven’t all three agencies already raised flags by downgrading the U.S. credit? Isn’t U.S. debt necessarily riskier than it was prior to the political game of chicken?

Meaningful credit ratings precede defaults. Downgrading the credit of the U.S. after the fact is not a service. More to the point, downgrading U.S. credit a day or two days before the default when negotiations break down is not helpful either because everyone already knows what will happen before the three credit agencies draft the media release announcing the downgrade and press the send button. Meaningful credit ratings inform market participants and reflect changes in the risk profile of borrowers. To be sure, the U.S. is fully able to meet its obligation, but only if it is permitted to borrow from willing lenders. In short, there is no economic or financial basis for concern. The credit risk is entirely due to politics.

To maintain the highest credit rating implies that there is near certainty that obligations will be met. Unless the credit agencies have representatives in the room listening to the negotiations advance toward resolution, the credit rating should reflect the possibility that the political gamesmanship will result in a negative outcome for lenders. Extending this logic, I am inclined to encourage the credit agencies to downgrade U.S. credit and maintain the downgrade even if a deal resolves the current “crisis” as an indication that U.S. politicians repeatedly create these moments that necessarily mean that the riskiness of holding U.S. debt is higher than it was previously.

As ridiculous as the credit ceiling is, the failure of credit agencies to impose any sort of consequences on the U.S. politicians who toy with the global capital markets approaches absurdity. After the humiliating reprimands following the failure to downgrade “toxic” assets leading to the financial crisis of 2007-08, it is disappointing that not one rating agency is willing to act the part to establish creditability in credit rating.

David McClough is an associate professor of economics for the James F. Dicke College of Business at Ohio Northern University. His column does not necessarily reflect the opinion of The Lima News editorial board or AIM Media, owner of The Lima News.