Wednesday, September 12, 2012

Who Cares What Ratings Agencies Say?

Fairly quick post today, I just wanted to make a point about ratings agencies. It always seems popular for commentators and pundits to crow about the importance of a nation's credit rating, as determined by the three ratings agencies. Well, I may be among the minority here, but I personally don't care what the ratings agencies say. It just doesn't matter very much. 

Let me be clear, when I say that a rating change doesn't matter, I mean that it won't change a nation's creditworthiness. To be sure, when S & P downgraded the United States in 2011, a lot of things happened, most notably among them being a large decline in the stock market. But, if you'll all recall, a sovereign credit rating is intended to describe the riskiness of a nation's debt. The riskiness of a nation's debt is represented by its borrowing costs, that is, the lower the interest it pays on its debt, the less risky a nation's debt is seen to be by credit markets. In the U.S. right now, we pay 1.625% interest on a ten-year bond. Those are historic lows.

Now, when S&P announced their big credit downgrade on August 5, 2011, here's what happened to Treasury yields (borrowing costs) over the next month:



Yields plummeted. So investors saw U.S. debt as less risky, not more. S&P really is the prognosticator of prognosticators.

There are those of you who might say that the Fed is buying up our debt, and that's why interest rates remain so low for the U.S. Well, that's demonstrably false. By that logic, interest rates would spike if the Fed stopped buying bonds up, right? Well, lucky for me, they did just that in 2011. Here's what happened:



Yields stayed low regardless. So I don't think the Fed has a lot to do with it, to be honest. But back to the ratings agencies.

Now, the ultimate unimportance of the 2011 downgrade isn't the only reason I don't much care what the ratings agencies say. They already have a reputation for shoddy work, as they proved a mere four years ago. You see, I am of the view that the financial crisis, in large part, would not have happened if not for the ratings agencies. They told the world that mortgage-backed securities were AAA-rated, when in fact there is every indication that they knew the assets were complete trash. Had they been rated appropriately, no one would have bought them. Crisis averted. 

In any case, the only thing that brought this tirade up was the fact that I saw this article, in which Moody's is apparently threatening a U.S. credit downgrade. I'm not the type who usually makes predictions, but I'm calling it right now: if the U.S. credit rating is downgraded by Moody's, our borrowing costs likely won't go up.