Why are people now saying that without spending cuts our credit rating will drop?
Moody's and Standard & Poor's threatened to drop our credit rating in the event a default either happens or becomes imminent. As long as interest rates remain low, there is no danger of defaulting simply because of a high debt or deficit. Greece is in that kind of danger because they have had increasingly difficult times borrowing money, which in turn drove up their interest rates to about 30%. Our interest rates are close to zero, historic lows. As important a long-term problem as the debt and deficit are, it simply isn't a short-term threat to our fiscal solvency. The only tangible danger of seeing a dramatic rise in interest rates is if we default or get so close to it that the credit rating agencies think we will default.
It's like the difference between a flood and a tsunami. For a flood you build a levy, open flood plains, secure your home, and have an orderly evacuation. For a tsunami, you seek higher ground immediately, regardless of what you have to leave behind. If you run from a flood, you'll lose everything you own when you could protect it. If you don't run from a tsunami, you will die. It seems by insisting on a grand bargain we are treating a flood like it's a tsunami and a tsunami like it's a flood, trying to prepare for a possible default by slashing spending as fast and recklessly as possible.
I've seen Obama make this statement in the last few days, since Moody's threatened to cut our credit rating if we get too close to default. It seems like he is saying that to justify his goal of a grand bargain, arguing against the McConnell/Reid plan (which is a plan that I don't like at all, but it's probably the best deal we're going to get at this point, now that Obama has botched the negotiations so badly, though granted even that plan may not be able to get through right now). More recently, I've started to see reporters, including on NPR where they should know better, making this same statement.
Has anyone seen any credible economists explaining this short-term threat (or can anyone explain it themselves)? Am I missing something here? Or are they conflating the short-term debt ceiling crisis with the long-term debt crisis unnecessarily?
(NOTE: I understand that the two are related, in case that's not clear, but one is an immediate problem that we have to deal with now or risk the enormous consequences of default and the other is longer-term problem that periodically leads to the threat of these short-term problems, along with other issues.)
Thanks BadWolf. That's the fastest I've ever gotten a good answer to my question. I'll give you Best Answer once enough time has passed that I'm allowed (unless someone else has a better one).
I hadn't seen that threat. A credit rating agency making a threat like that when US interest rates are close to zero and the bond market has shown no sign of losing it's appetite for American debt is rather suspicious. Our debt hasn't suddenly changed, nor have the difficulties of Congress to make grand bargains. What is different now, though, is that the new regulations in Dodd-Frank that credit rating agencies oppose because it makes them liable in Court for negligence in their ratings (since their negligence is part of why junk credit default swaps were traded like they were solid gold).
The credit rating agencies do important work, but there has been a lot of questions lately about their inner workings and biases toward their own bottom lines. It makes me wonder if this threat, which doesn'
...doesn't seem to have any real bearing on our credit worthiness at this time, is a threat to try to get the government to quietly de-fund Dodd-Frank as part of a grand bargain, a goal the Republicans have stated repeatedly.
From the same article you cited:
"Even if they were unconnected, S&P and the ratings agencies have taken this opportunity to tie (major deficit reduction and raising the debt limit) together," said Adam Ozimek, an economist at Econsult in Philadelphia who co-writes the popular Modeled Behavior blog on economics.
They are tying them together because of Congress' "game of chicken", but I wonder if that is just a cover that allows them to make the threat because of their own bottom line. Nothing about Congress' inability to cut the deficit is new and they know that. This is gamesmanship.