12:42pm

Mon April 18, 2011
It's All Politics

S&P U.S. Debt Warning A Boost For Washington Compromisers

Remember Rodney King whose beating by police triggered the 1992 Los Angeles riots and who later tried to calm the waters with his plaintive "Can't we all just get along?"

Wall Street issued its own plea for greater cooperation, too. But it played the part of King and the police, since it also delivered the beatdown as well.

The cudgeling took the form of a warning, which came in the form of the queasiness-inducing, if not totally surprising, news that the Standard & Poors has changed its outlook on U.S. debt to "negative" from "stable."

S&P said U.S. Treasury securities maintained top ratings, for the time being, because of the underlying strengths of the U.S. economy. But the shift in outlook reflected its relative lack of confidence in the ability of U.S. policymakers to get past their partisan differences to change the nation's fiscal course with the urgency global investors are seeking.

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Here's some of what S&P said in a news release meant to help Washington gain that degree of hyperfocus which Samuel Johnson once said one gets when he knows he's about to be executed in the morning.

"Although we believe these strengths currently outweigh what we consider to be the U.S.'s meaningful economic and fiscal risks and large external debtor position, we now believe that they might not fully offset the credit risks over the next two years at the 'AAA' level," said Standard & Poor's credit analyst Nikola G. Swann.

"More than two years after the beginning of the recent crisis, U.S.
policymakers have still not agreed on how to reverse recent fiscal
deterioration or address longer-term fiscal pressures," Mr. Swann added...

... We view President Obama's and Congressman Ryan's proposals as the starting point of a process aimed at broader engagement, which could result in substantial and lasting U.S. government fiscal consolidation. That said, we see the path to agreement as challenging because the gap between the parties remains wide. We believe there is a significant risk that Congressional negotiations could result in no agreement on a medium-term fiscal strategy until after the fall 2012 Congressional and Presidential elections. If so, the first budget proposal that could include related measures would be Budget 2014 (for the fiscal year beginning Oct. 1, 2013), and we believe a delay beyond that time is possible.

Standard & Poor's takes no position on the mix of spending and revenue measures the Congress and the Administration might conclude are appropriate. But for any plan to be credible, we believe that it would need to secure support from a cross-section of leaders in both political parties.

If U.S. policymakers do agree on a fiscal consolidation strategy, we
believe the experience of other countries highlights that implementation could take time. It could also generate significant political controversy, not just within Congress or between Congress and the Administration, but throughout the country. We therefore think that, assuming an agreement between Congress and
the President, there is a reasonable chance that it would still take a number of years before the government reaches a fiscal position that stabilizes its debt burden. In addition, even if such measures are eventually put in place, the initiating policymakers or subsequently elected ones could decide to at least partially reverse fiscal consolidation...

"Our negative outlook on our rating on the U.S. sovereign signals that we believe there is at least a one-in-three likelihood that we could lower our long-term rating on the U.S. within two years," Mr. Swann said. "The outlook reflects our view of the increased risk that the political negotiations over when and how to address both the medium- and long-term fiscal challenges will persist until at least after national elections in 2012."

Some compromise that achieves agreement on a comprehensive budgetary consolidation program--containing deficit-reduction measures in amounts near those recently proposed, and combined with meaningful steps toward implementation by 2013--is our baseline assumption and could lead us to revise the outlook back to stable. Alternatively, the lack of such an agreement or a significant further fiscal deterioration for any reason could lead us to lower the rating.

The message of the S&P statement couldn't be clearer this week heading into Easter holiday: Blessed be the compromisers for they shall help the nation keep its vaunted credit rating.

Also, the implications of S&P warning couldn't be harder to miss. The longer the Obama Administration and Congress wait to reach a compromise deficit-reduction plan that Wall Street finds credible, the closer the U.S. skirts with the fiscal disaster that could come from a downgrade of its debt.

The conventional wisdom in Washington has been to predict policy gridlock between now and the November 2012 elections as both parties angle for political advantage.

But S&P is clearly telling Washington policymakers that they will be playing with fire if they choose that route.

By asking lawmakers to find their inner Henry Clay, and become our era's great compromisers, S&P was saying only that could lead to the kind of agreements that will give global investors confidence in the U.S.' ability to reduce its deficits.

S&P's actions were a boost to those in Washington willing to accommodate ideas from the other side, like the Senate's Gang of Six who are attempting to reach a deficit-reduction compromise.

President Obama and House Speaker John Boehner likely gained some more leverage which they can use to overcome those in their respective parties who see compromise as a dirty word.

There's probably nothing like the specter of the U.S. having to pay higher interest rates on trillions of dollars of debt if S&P downgrades its debt to make compromise seem more acceptable.

The upcoming negotiations over raising the debt limit will be the next big test of whether policymakers got S&P's message and the ratings agency probably helped the compromisers there, too.

The losers, then, would seem to be the non-compromisers in both parties. Included among those would be many of the new GOP freshmen and more even some veteran lawmakers who have insisted in deep spending cuts alone and no tax increases and liberals who have insisted that entitlement spending be left untouched.

The S&P news came with Congress just starting its spring recess so lawmakers were scattered to the four winds so reaction was delayed.

But the Treasury Department was out with a reaction. If Treasury officials were feeling a little more anxious Monday, they did a good job of concealing it in their statement, which is what you'd expect.

The last thing the administration wanted to do was send more jitters through the financial markets which were already reeling from the S&P announcement. So Treasury made sure to point to a report by a competing ratings agency, Moody's, which called the shift in the U.S. budget debate "positive."

"This morning, S&P affirmed the AAA rating of the U.S., but emphasized the importance of timely bipartisan cooperation and action on fiscal reform. In addition, Moody's commented today that 'we view the changed parameters of the debate, with broadly similar goals as to government debt levels, as a turning point that is positive for the long-term fiscal position of the U.S. federal government.'

"As the President said last week, addressing the current fiscal situation is well within our capacity as a country. He has initiated a bipartisan process that will allow us to make progress on a balanced approach to restoring fiscal responsibility. The U.S. economy is strengthening as it emerges from the recent recession. Both political parties now agree that it is time to begin bringing down deficits as a share of GDP.

"S&P assumes that the U.S. will enact 'a comprehensive budgetary consolidation program – combined with meaningful steps toward implementation by 2013,' but we believe S&P's negative outlook underestimates the ability of America's leaders to come together to address the difficult fiscal challenges facing the nation."

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