Downgrading USA: S&P Bites the Hand That Feeds It

Dan Alpert is a founding Managing Partner of Westwood Capital. He has more than 30 years of international merchant banking and investment banking experience, including a wide variety of work-out and bankruptcy related restructuring experience. Dan’s experience in providing financial advisory services and structured finance execution has extended Westwood’s reach beyond the U.S. domestic corporate finance market to East Asia, the Middle East and Eastern Europe. In addition to his structured finance expertise, Dan has extensive experience advising on mergers, acquisitions and private equity financings. He has additional expertise in evaluating and maximizing the recoveries from failed financing vehicles affiliated with a common borrower/issuer.


Standard & Poor’s – a private company – designated, but not regulated by the Securities and Exchange Commission of the United States as a Nationally Recognized Statistical Rating Agency (NRSRO) – downgraded the government that provides the rating agency with its entire franchise. Perhaps the most incredible example of biting the hand that feeds you ever seen in financial history.

There is great debate among financial experts and economists regarding the propriety of rating agencies’ providing sovereign ratings to begin with. After all, it places unregulated, and – given recent history – demonstrably fallible companies in a position to enter and influence the political process of countries by affecting their access to, and cost of, debt financing. Because a wide spectrum of institutions that hold government debt buy, hold and price it based on the ratings assigned thereto by otherwise unaccountable “publishers” of opinion (as they fancy themselves) the ratings agencies are now in the thick of the fiscal austerity frenzy and regional debt bailouts that have dominated the developed world.

Put aside for the moment the fact that buyers and holders of government bonds – especially in this world of free and available information (after all, the World Bank and IMF spend billions amassing sovereign data) – should not be relinquishing their sovereign debt underwriting responsibilities to unaccountable entities.

But the question of what relevance the agencies’ assessment of credit of the world’s largest economy and – de facto issuer of the international reserve currency (the dollar is, by the way, also a credit instrument – a promise by the Federal Reserve Bank to pay) – has in the first place, needs to be asked.

The short answer is none at all. The size of the U.S. economy, the wealth of its inhabitants and the assets of the sovereign entity itself, are unquestionably more than adequate to repay, with interest, all of the $14 trillion or so of the nation’s debt (much of which, by the way, is owed to itself)…and then some. Anyone with a rudimentary understanding of finance and economics can figure that out.

Moreover, as the “owner of the printing press” of the world’s reserve currency, the U.S. has ample ability to monetize its own debt pretty much any time it chooses. And, in fact, the country has been doing just that during years of quantitative easing policy.

No, the issue of ability of the United States to pay its debts is unquestionable by even Standard & Poor’s. And the propensity or willingness to pay its debts, despite the recent political debate, must be assessed relative to the entire history of the Republic. The federal government of the United States has always paid its obligations – for hundreds of years.

So what’s all the fuss?

The fact of the matter amounts to nothing more or less than that a private company elected to deliver a verbal spanking to the congress, executive and – by extension – the people of the U.S. for the messiness of its political process and its confused electorate. Effectively – the S&P pronouncement last evening amounted to not much more than a guest in your house telling your children to clean up their rooms “or else.” I don’t know about you, but in my case, at least, I would ask such a guest to apologize or leave.

I’m all for first amendment rights, but there is the issue of appropriateness of speech. And having a company that nearly blew up the financial world with its miss-assessments of private mortgage backed, CDO and other obligations telling the U.S. to clean up its room or else is not only inappropriate, it is – in many respects – the pot calling the kettle black.

That the congress and executive of the U.S. suffers from an absence of sufficient adult leadership is beside the point. That Americans elect people who regularly pander to their constituents and promise them popular government services without assessing sufficient taxes to pay for such services is beyond debate.

Similarly, there is no doubt that the U.S. economy – together with the economies of the entire developed world – is in deep need of internal restructuring of its banking system, its tax system and its households’ balance sheets and its own budget.

But there is a world of difference between a dysfunctional congress and nervous executive, or even a massively overleveraged private sector and a deficit that will require additional revenues to plug, and the federal government’s defaulting on its obligations to the holders of its debt.

Our federal and other governmental entities will ultimately be forced to raise revenue and our banks and other holders of private capital investments (other than federal debt) will be forced to take substantial losses and recapitalize. It will be ugly and uncomfortable – but it amounts to nothing more than the reallocation of wealth within the world’s largest economy and, yes, the destruction of a few more trillions of dollars of private capital.

The federal government of the United States has tried everything to avoid the truing up of accounts and the remaining re-pricing of assets in the private sector in the name of economic stability. It has, by many measures, failed in that task (an unwinnable war in any event). But it has not defaulted, and will not have to default, to its general creditors.

And backing its promise to creditors is the value of all the considerable property of the government and all of powers of the government afforded to it under the Constitution of the United States. The latter include powers of the executive to act to protect the country’s credit if need be – powers that would be exercised reluctantly but with deliberateness by any president should the need arise (plenty of time to fight about it in the courts after the fact).

Notwithstanding the fact that S&P is predominantly comprised of people who I am reasonably certain are good, patriotic Americans – they seem not to understand the nature of their own government and its processes. In the United States – as Churchill so profoundly put it – we always do the right thing….after trying everything else.

Our government is clearly populated with numerous politicians who act like petulant children rather than getting together to lead. But we will spank our own children for their misbehavior; it’s not the job of ratings agencies to do so.

And, by the way Standard & Poor’s, before you go about decrying the messiness of your country’s legislative houses, clean up your own house.

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