The Bishop and the Butterfly: Murder, Politics, and the End of the Jazz Age
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    Idiocy and Ratings Agencies

    By Michael Maiello on Fri, 01/13/2012 - 9:21pm | Politics

    In August, Standard & Poor's downgraded U.S. Treasury debt, judging our political system broken enough to create some miniscule risk of default, whereas their previous rating judged our political system a smidgen competent enough to likely avoid a miniscule risk of default.

    Bondholders knew that S&P was all wet and bid up the prices of Treasuries so long as stocks looked risky.  That's what happens when you're a sovereign that controls your own currency and controls a currency that the world uses as it's reserve.

    One of the many things that made no sense about the S&P downgrade was this: how can France and Germany, both countries with debt-to-GDP ratios north of 85%, be AAA when the U.S. was not?  The U.S. controls its own currency.  It can always print the dollars to pay its debts.  That might cause inflation, yes, but a bond only entitles you to dollars, not to inflation-proof dollars (Treasury Inflation Protected Securities being a notable exception).  The bargain behind a Treasury is this -- you will get your principal plus promised interest, in dollars.  What those dollars are worth when you get them is the risk you're taking (it's one of the reasons you get interest in the first place).

    The deal with a French or German bond is much the same.  You will get your principal and interest in euros.  But, here's the thing... France and Germany do not control the number of euros available to the world at any given time.  They have influence, but not control.  If their debts come due and there are not enough euros to pay them, Germany and France can't do anything about it.

    Solvency is about getting what you'te promised.  If I borrow two bricks of gold from you for five years, your are entitled to two bricks of gold when the debt comes due.  If gold is $3,000 an ounce when I give your bars back, you're happy.  If it's $200 an ounce, I am.  But either way, the debt is paid when the bars are returned.  Doesn't matter what they're worth.

    It strikes me as odd that S&P felt comfortable downgrading the U.S., which can always provide dollars for its debts, months before downgrading France, and without downgrading Germany.  Today's market movement is proof of irrationality in the system, at the highest levels.

     

    Topics: 
    Politics

    Comments

    Yeah, like I'm going to lend you two bricks of gold! I'm not falling for that again.


    by acanuck on Fri, 01/13/2012 - 10:19pm

    Dude. Habs. WTF?


    by Qnonymous (not verified) on Fri, 01/13/2012 - 10:32pm

    I know, I know.


    by acanuck on Sat, 01/14/2012 - 12:52am

    I heard a few weeks ago that there was an investigation into some of the S & P principals.  Have you heard anything more lately?

    I agree with your post - this action seems a bit, at the least, 'heavy-handed'.  But, if so, why?  Any thoughts, opinions? 


    by Aunt Sam on Fri, 01/13/2012 - 10:25pm

    To me, all of the actions seem heavy handed, starting with downgrading the U.S.

    I suspect that this is largely about image.  The U.S.government made itself vulnerable by having a year-long, idiotic debate about the debt ceiling.  When people say that the U.S., because it controls its own dollar, can "never default," they really mean, "can never default unless the system breaks so badly that it would do something stupid like default voluntarily, which is what a failure to raise the debt ceiling would have been.

    So, S&P's analysts saw a reasonable opening to make history by downgrading the United States.  And... they took it.

    But, they didn't take it in context.  France and Germany have similar debt problems and don't control the currency that they owe in.  So, logic would suggest that they be downgraded first, or that all be downgraded at once.  They didn't follow logic.

    If you, as an investor, had followed S&P's logic, you would have sold all of your Treasuries in August and bought French bonds.  Investors, apparently, are smarter than that and did the opposite.

    But, I notice that the media has been largely silent about what Mel Brooks might have called "The French Mistake."


    by Michael Maiello on Fri, 01/13/2012 - 10:41pm

     


    by Richard Day on Sat, 01/14/2012 - 3:04pm


    by Michael Maiello on Sat, 01/14/2012 - 3:16pm

     

     


    by Verified Atheist on Sun, 01/15/2012 - 9:35am