Peter Smith

Rating rating agencies

Standard & Poor’s hit top spot

Standard & Poor’s (S&P) has just taken top spot on the economic illiteracy league table. While this will not last long, there are so many illiterates vying for top spot, it is an achievement worth noting.

There has been a scramble going on in recent times among non-economists to push Keynesian economists off the top spot in the economic illiteracy league table. That’s fair enough, I suppose, after all numbers of economists are jousting for top spot on the corresponding climate table.

Kevin Rudd tried to obtain the title in 2009 with a very long essay on the evils of capitalism and neo-liberalism. You may recall Ken Henry hitting back with his version of the Magic Pudding mining tax. The more you tax the better it gets. In a delayed reaction, Wayne Swan, not to be outdone by the man he undid, has just written his own long essay on the history of the application of Keynesian economics in Australia. We can be sure that Wayne has only a rudimentary understanding of Keynesian economics but, then again, does it matter. Ken Henry understood Keynesian economics well. Both levels of understanding produce the same miserable and misguided policy.

Specious economics infects public policy to such a degree that it is endemic and for the most part goes unchallenged. President Obama, for example, can build his policy of reducing the budget deficit and debt around taxing the rich. He can do this without taking into account the decline in private saving and investment, and therefore economic growth and taxation revenue that will be lost through such a policy. He and his advisors are economic illiterates but among so many it is not noticeable and probably won’t get him to the top of the league table.

The US deficit and debt did, however, provide a platform for S&P to leap to the top of the table. S&P has just reaffirmed its triple-A credit rating on US government debt. Well and good. However, at the same time, it issued an accompanying wayward and toothless warning that its rating could fall if political agreement were not reached, and meaningful action begun, on reducing the budget deficit by 2013. Under no imaginable circumstances would S&P be justified in reducing the credit rating on US government securities; and, presumably, it would not be so dense as to ever do it. Of course that didn’t stop commentators from chattering about it and investment markets from predictable diving. The senseless news was certainly highly sensitive from a market point of view and perhaps should be looked at.

What exactly is meant by reducing the rating on the world’s reserve currency? It makes no sense. The US government can “print” money to pay its debt denominated in US dollars. It will never renege on its debt. The situation is quite different for other countries whose debt is denominated in US dollars. They can’t print them. They have to buy them.

The job of S&P and other rating agencies is to assess and score how likely it is that investors in particular securities will get their money back. Investors in US government (US dollar) securities will always get their money back. And that is the only thing S&P should concern itself with.

Objections may be made to my temporarily placing S&P on the top of the table because rating agencies have the advantage of proven incompetence, which perhaps gives them an unfair advantage in the economics illiteracy stakes.

I recall the ex-CEO of NAB John Stewart in 2008 during the GFC plaintively saying, in mitigation, that the worthless mortgage-backed securities his bank had unwisely purchased were triple-A rated. Leaving aside the fact that dunderheads could do banking if the only thing to it was purchasing triple-A rated securities, the experience of the GFC illustrated the inadequacy of relying on rating agencies knowing that something is wrong even when it is only thinly disguised. Judged on the number of well-rated securities of companies that have eventually gone belly up, it is best to have limited faith in their competence in spotting dogs, unless they are rabidly foaming at the mouth and veering from side to side across a well-lit public street. After all, they gave Enron an investment grade, four days before it went bankrupt.

Maybe S&P wanted to generate some publicity for itself even at the cost of being silly. Some people may argue that it might have the side benefit of adding to the pressure on the US Congress and Obama to cut spending. That is equally silly. Pelosi, Reid and Obama will not be cowed by S&P. They can withstand withering economic logic, common sense and $14 trillion of debt without flinching.

In the end result, either the US government will get its act together and control its profligate spending or, failing that, confidence in the US dollar will collapse and the US will suffer a massive inflation. This undoubtedly would lead to another severe world recession, if not worse. But that is not S&P’s business. The US government would still pay its debt, albeit in devalued dollars.

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