There are “bond market vigilantes”, and then there are “adorabel children wearing their underpants outside their trousers”

by Daniel on April 19, 2011

… It was pretty silly when Standard & Poor’s started wagging the finger at the UK and expecting to be taken seriously. Trying to do the same thing with respect to the USA is pretty much the definition of tugging on Superman’s cape.

At least one economist burst out laughing on hearing about the S&P announcement. “They did what?” exclaimed James Galbraith, a professor of economics at the University of Texas in Austin, who formerly served as executive director of the Congressional Joint Economic Committee. “This is remarkable! It certainly will confirm the suspicions of those who have questioned S&P’s competence after its performance on the mortgage debacle.”

I can confirm that although it was “at least one” economist that burst out laughing, it was not “at most one”.

{ 315 comments }

1

Metatone 04.19.11 at 11:00 am

Krugman is having fun posting graphs about the effect S&P’s rating had on Japan’s borrowing costs and the effects on the US so far…

Still, as comedic as the action may seem from that point of view, it fits the internal logic of the ratings agencies. Throughout this crisis they’ve been publishing PR piece after PR piece about how they are not merely instruments of US power. This is a logical piece of that campaign.

Reason for the campaign, to avoid being written out of international regulations that they’ve made plenty of money off… (e.g. pension funds must hold X% AAA, and so on down the line…)

2

Brett Bellmore 04.19.11 at 11:02 am

Yeah, it’s pretty silly expecting sovereign governments to actually pay attention when bond rating agencies warn them that they’re headed towards a fall if they don’t do something. But it’s more a “Shouting warnings at the deaf guy.” type silliness, or maybe telling Bernie Madoff that his math doesn’t work out silliness, rather than “Annoying the invincible superhero.” type silliness.

I mean, is there any better sign that you’re headed for a downfall, than your being absolutely convinced that a downfall is impossible?

3

Cranky Observer 04.19.11 at 11:07 am

I clicked on an odd looking link in the Bloomberg story about the S&P “warning” yesterday and was taken to an article about how this is affecting the price of credit default swaps. Yes, credit default swaps on /US Treasury bonds/. Just amazing.

Cranky

4

Nababov 04.19.11 at 11:09 am

Adorable tyop in title.

“…to actually pay attention when bond rating agencies warn them that they’re headed towards a fall…”

Yes, we all saw the invaluable role their ratings played in the GFC.

5

dsquared 04.19.11 at 11:12 am

Yes, credit default swaps on /US Treasury bonds/

If you ever feel that you are suffering from a surfeit of will-to-live, try entering into the debate over what would consistute a trigger event for these CDS.

6

dsquared 04.19.11 at 11:13 am

I mean, is there any better sign that you’re headed for a downfall, than your being absolutely convinced that a downfall is impossible?

Being stuck in a bunker with your mistress while Allied troops march through your capital city?

7

Zamfir 04.19.11 at 11:34 am

Being stuck in a bunker with your mistress while Allied troops march through your capital city?
To be fair, he returned as prime minister in 1951. But I didn’t know he had a mistress?

8

Daniel Kuehn 04.19.11 at 11:35 am

This is officially the best title to a post on the S&P announcement thus far.

9

Boo Bear 04.19.11 at 12:26 pm

So, the USA is doing just fine financially?

Thanks for convincing me! Now I can stop reading tickerforum.

10

Rich 04.19.11 at 1:02 pm

I’m not sure if this post is making an intentional reference to the James Croce song, “You Don’t Mess Around with Jim”

“You don’t tug on Superman’s cape
You don’t spit into the wind
You don’t pull the mask off that old Lone Ranger
And you don’t mess around with Jim.”

It doesn’t turn out so well for Jim in the song. However, I suspect that this is not a tongue in cheek post about the hubris of the U.S. but really is a post about the follies of the S&P.

11

rea 04.19.11 at 1:04 pm

I’m not sure I understand why the S&P decision is regarded as risible–the Republicans are openly toying with putting the US into default. Downgrading the credit rating of a borrower who talks about choosing to default makes sense to me.

12

ScentOfViolets 04.19.11 at 1:09 pm

As someone may have mentioned on another thread, it’s all about the elections . . .

13

Factory 04.19.11 at 1:20 pm

From the article:
“the US being unable to issue debt to foreign investors, because they would no longer want to be left holding dollars, and the US would have to either drastically reduce its debt, or borrow in foreign-denominated debt–say Yen or Euros or Renminbi.”
Is that how it works? I would have thought that foreigners would just buy US bonds, but demand a much higher price for them?

14

Barry 04.19.11 at 1:21 pm

Brett: “I mean, is there any better sign that you’re headed for a downfall, than your being absolutely convinced that a downfall is impossible?”

The logic being that the markets themselves are saying the opposite of a downfall (US government long-term debt is priced extremely low), but somebody who was clearly lying and fraudulent says otherwise, so that we should worry about them being right for once?

15

Barry 04.19.11 at 1:26 pm

rea ” I’m not sure I understand why the S&P decision is regarded as risible—the Republicans are openly toying with putting the US into default. Downgrading the credit rating of a borrower who talks about choosing to default makes sense to me.”

And the Chamber of Commerce recently told the GOP to STFU about putting the US into default. In addition, putting the US into default would end the careers of almost every Senator and Rep. The Teabaggers will be put into a corner and told to behave.

16

Andrew 04.19.11 at 1:37 pm

I can’t say I find the negative outlook humorous.

To rehearse the obvious, the purpose of the outlook is to indicate the rough possibility of a change in the long-term credit rating of the obligor. Negative in this case means, according to S&P, a 1 in 3 chance that the US long-term credit rating will be downgraded in the next 2 years. This seems to be based on S&P’s read of the US political environment, but it underscores the importance of reaching a fiscally sustainable agreement.

What’s so funny about this?

dsquared: obligation acceleration, failure to pay on obligation, restructuring, and repudiation… no?

17

Jurgen Stizmuller 04.19.11 at 2:10 pm

“a 1 in 3 chance”

Actually, if you look at they’re model, it’s a 32.6543% chance. Oh, that’s right, there is no model. They pulled a number outta their glibbenschmutz.

18

Pete 04.19.11 at 2:16 pm

Andrew: it’s like insuring against a nuclear war, if the US does actually start defaulting on its debt it would destroy the entire US financial industry, including any CDS issuer.

19

rea 04.19.11 at 2:16 pm

The Teabaggers will be put into a corner and told to behave.

I’m glad you’re so confident, but that’s not what the House leadership is saying–Cantor is talking about extracting substantial concession, and Boehner, says different things depending on his audience.

20

JulesLt 04.19.11 at 2:33 pm

On the other hand, the UK Conservatives used the claims of the credit rating agencies (and the threat of having our rating downgraded) to justify their program of cuts.

(As opposed to the evidence from the markets themselves, that the UK was still a safe bet for lending).

21

christian_h 04.19.11 at 2:44 pm

Of course Boehner will extract concession… because the Democrats will let them. In other news, not raising the debt ceiling does NOT equal default.

22

mrearl 04.19.11 at 3:15 pm

The ten-year Treasury went up on the S&P news. Speaking of 11-dimensional chess, could this be a scheme to squeeze the shorts?

Yes, that’s a snarky comment on S&P’s credibility.

23

mpowell 04.19.11 at 3:17 pm

This would actually be reasonable if the justification was: Republicans in the House are threatening to play hardball with the debt ceiling negotiation and we think they just might be crazy enough that there is a small chance of default or a delay in payment.

But as it is, no. And its disappointing to hear that markets are actually responding to this. Can we please eliminate credit agencies from statutory bank and investment regulations already? They have repeatedly demonstrated that they are worthless.

24

tkn 04.19.11 at 3:27 pm

A stupid political play to give credence to GOP fearmongering about the deficit. A total joke.

And if the markets are reacting, it is a good time to buy…

25

mrearl 04.19.11 at 3:30 pm

Help, please. What’s the argument that failure to raise the debt ceiling=default? Does it depend on an assumption that debt service is one of the first spendings to stop, or are there numbers to back it up?

26

rea 04.19.11 at 3:41 pm

If your income is less than your spending, then you must either borrow more money or default on your obligations.

27

Pascal Leduc 04.19.11 at 3:44 pm

Or just print some money.

They can also just stop paying wages and expenses and use that money to pay debt interests.

28

chris 04.19.11 at 3:45 pm

If your income is less than your spending, then you must either borrow more money or default on your obligations.

This is one of those false analogies between a sovereign country in control of its own currency and a household, right? Is there anything stopping the Treasury from simply *printing* more money to pay the obligations?

In addition to creating political pressure to resolve the debt limit situation before inflation arrives, non-rightwingoverse economics also predicts that in the event of printing lots of extra money and pumping it into the economy, excess capacity will be soaked up *before* the increased money supply will actually create any inflation, i.e., it will help the economy and reduce unemployment, correct?

29

mpowell 04.19.11 at 3:50 pm

Chris @ 26: You make a good observation, but this takes us into different territory. A failure to raise the debt ceiling leads not just to default but also potentially a constitutional crisis. If the law says: “You must spend this money”. But then also says: “You cannot borrow money to spend this money” and there is no other money available, what happens? Some people think that if the legislature contradicts itself that opens the door for the executive to do whatever it wishes. Certainly no pedigree test of the law can be applied to test the legality of the executive’s actions, right? And so many possibilities may exist, including printing money, which would probably be more helpful than harmful at this juncture, in my opinion.

30

marcel 04.19.11 at 3:52 pm

Can we call some sort of triple-reverse Godwin on d-squared for this?

Being stuck in a bunker with your mistress while Allied troops march through your capital city?

And what is Zamfir referring to? I thought maybe Adenauer, but according to Wikipedia, he became chancellor of W. Germany in 1949, not 1951.

(The preview is showing this badly mangled, but I cannot see the problem, so I am going to press submit, and hope for the best. Maybe multiple attempts at posting to follow.

31

bert 04.19.11 at 3:52 pm

“the US would have to either drastically reduce its debt, or borrow in foreign-denominated debt—say Yen or Euros or Renminbi.”
Is that how it works?

There’s two types of risk being conflated here – default risk and exchange rate risk. And also an unhelpful either/or.
If the price of anything goes up, you can afford less of it. On that basis, America would have to reduce its debt, whether drastically or not. If at the same time the dollar becomes a less reliable store of value, through actual or projected depreciation against other major currencies, it may become comparatively cheaper to borrow in those other currencies, since lenders will be less worried about being paid back in devalued money. Nothing necessarily wrong with that, since on that basis America can afford more debt than it otherwise could. But it then means worrying about how movements in the exchange rate affect your debt position. Argentina learned all about this in the late 90s and early 00s. In the five minutes elapsing between exit from the euro and default on euro-denominated debts, Greece will experience the same discomfort.

32

bert 04.19.11 at 3:53 pm

Churchill, marcel

33

dsquared 04.19.11 at 4:03 pm

obligation acceleration, failure to pay on obligation, restructuring, and repudiation… no?

Yep, but since nobody is really considering an Ecuador situation for the USA, all the possible candidates are funny technical triggers related to debt ceilings and to entities guaranteed by the US sovereign which might or might not be “qualifying guarantees” …

34

Barry 04.19.11 at 4:13 pm

Andrew 04.19.11 at 1:37 pm
” What’s so funny about this?”

Do you seriously not remember the last few years? S&P, along with other rating agencies, cheerfully took money to rate junk securities as AAA. Then, when the chickens came home to roost, claimed that it was just their ‘opinion’.

It’s sort of like some neocon-man writing a column about how anybody not hopping on the lastest war bandwagon is evil, and will be sorry.

35

chrismealy 04.19.11 at 4:21 pm

NPR was gravely reporting the S&P announcement all Monday morning. I think the rating agencies should be required to end any statement with “and if you believe that, I’ve got some property in Las Vegas to sell you.”

I’ve been assuming that the debt ceiling talk was just bluster, given how much trouble it would cause the the right’s plutocratic masters, but teabaggers are not smart people. It could happen.

36

Myles 04.19.11 at 4:23 pm

Yes, credit default swaps on /US Treasury bonds/

They might make more sense if they are priced in euros, Swiss francs, or pounds sterling.

Speaking of which, some in my family are still stuck holding U.S. dollars. At current CAD/USD exchange rates. Yikes.

37

StevenAttewell 04.19.11 at 4:25 pm

In addition to the S&P et al’s failure on the junk securities, there’s also the persistent underrating of public sector debt compared to private sector debt (on national, state, and municipal levels) that is either a naked attempt to shear governments on extra interest or a statement of the ideological blinders of the ratings agencies.

Yet another reason we should have public ratings agencies to provide a yardstick.

38

StevenAttewell 04.19.11 at 4:26 pm

39

ScentOfViolets 04.19.11 at 4:33 pm

NPR was gravely reporting the S&P announcement all Monday morning. I think the rating agencies should be required to end any statement with “and if you believe that, I’ve got some property in Las Vegas to sell you.”

To elaborate on my earlier comment: S&P have been saying these sorts of things for several years now, in fact, since before the 2008 elections, IIRC. It is the media reporting on this non-story which to me signals “politics”. Look to see S&P’s “analysis” brought up as a talking point in the 2012 campaign. From the looks of it, it’s going to be a long one.

40

Glen Tomkins 04.19.11 at 4:39 pm

Shooting the Moon

Maybe S&P knows something we don’t. There is indeed one way that US budget politics would indeed make the US a bad credit risk in the near future — if the teahadists manage to get the Republican majority in the House to refuse to allow an increase in the debt ceiling.

I know that this possibility is widely discounted. I would have to agree that, to go for this plan, the House Republicans would have to behave with a lack of caution mostly atypical for recent US politicians. But I had to throw in that “mostly” because of events this year, in WI particularly, but take your pick of this crop of R governors in the Midwest and elsewhere. Is there a warming trend on risk-taking among R politicians that means we can’t discount the possibility that they will force a default?

Of course, the idea of even flirting with default, much less actually holding out on the debt ceiling rise long enough to actually cause default, may seem to be, not a risk, but certain political death with no upside. If that’s true, then no amount of tolerance for risk would make the Rs go for default. But is it true? Would a default be such a political catastrophe for those that caused it that it would outweigh any conceivable upside? Are we sure that the people who caused it would actually get the political blame — all of the blame, even most of the blame — for the consequences?

If you want to begin to doubt that “yes” is th safe answer to all these questions, and it has to be to dismiss the idea that the Rs might go for it, consider that finally awakening those hitherto mythical bond vigilantes would be the one-stop solution to both the long-term dreams and the short-term political problems of the party that wants to drown the US govt in the bathtub.

Bringing down the whole edifice cost Samson his life, admittedly, but the key thing is that it brought down the whole pagan edifice, and killed off the Philistine elite as well. In the aftermath of a default, even if the Rs can’t deflect blame and they are killed in the next election, will there be any alternative to whoever is in charge of the US govt instituting the hard Right policy solution of ending the welfare state? I mean, any alternative short of a socialist solution. If we continue to have bipartisan crony capitalism as our effective form of govt, I think it’s clear which counterparties the govt would make sure would be made whole in a default, vs who would get screwed. From a purely R partisan viewpoint, wouldn’t it be better to be out of power at the time when SocSec and Medicare are ended, have to be ended? Even if the trauma is so bad that it totally destroys the R brand, what does that matter to teahadists if whatever party is left to manage the rubble in the aftermath has no choice but implement teahadist policies?

And is it even true that causing default would get the Rs blamed for what comes after? After all, their side has been saying for years that the US can’t go on borrowing with abandon, that the bond vigilantes are out there just waiting to spring, that sooner or later there will be a reckoning. So they cause that day of reckoning, and all of their prophecies are fulfilled. What will stand out the most for the electorate, the fact that they caused it, or the fact that their prophecies came true, that we do indeed have a budget Armageddon?

Sure, to bring down the temple, the Rs have to stick together, and that will be hard to manage. But I think we have to rely on inertia and the force of habit to keep them from staying together over so bold a plan, because naked self-interest isn’t going to do it. People say that their party’s Malefactor of Great Wealth wing would veto any flirtation with default, because of the business and financial havoc that default would cause. But after how our crony capitalist system handled the events of 2008, why would anyone imagine that the Malefactors couldn’t make a profit off any disaster? It seems to me clearly outmoded thinking to attribute to these people any sort of actual conservatism. If the temple comes down, long-term they get the incubus of the welfare state off their backs forever, and short term they still get to socialize the risks. while exploiting new possibilities opened by the Shock Doctrine effects of the disaster. What’s not to love for them in this scenario?

Again, I’m not claiming any of this is likely. Institutional inertia and force of habit will probably save us by keeping them from implementing such a strategy. But we shouldn’t lose sight of the possibility that it is only inertia that stands in the way, that their side really would benefit from bringing down the temple, if only that were practicable. If they come to understand, as a group, across all the factions of their party, that the benefits outweigh the risks, the inertia might evaporate. and it would be practicable.

Given what we are seeing recently, the House passing the Ryan plan, and the inititatives in WI and elsewhere, is it certain that the inertia isn’t already evaporating? Have they already started their attempt to Shoot the Moon this year?

41

Joe Wickens 04.19.11 at 4:41 pm

“At least one economist burst out laughing…”

Can someone remind me what the basis of economists “expertise” is again? It appears that even the bond rating agencies have learned a thing or two since 2008.

42

piglet 04.19.11 at 4:45 pm

“tugging on Superman’s cape” is a curious choice of words when referring to the financial credibility of the USA. The US dollar is stabilized by fear and not by any trust in the economic saneness of the United States.

But Steven 35 is making an important observation. If that is true, how much of the fiscal squeeze at the municipal and state level can be attributed to it?

43

StevenAttewell 04.19.11 at 4:49 pm

Piglet – I don’t know, I haven’t run the numbers (it’s partially complicated by the nature of how state and local bonds are traded). A tricky thing might be the way that Goldman Sachs and others sold a lot of municipalities on all kinds of interest rate swaps and the like that left them holding the bag.

44

mds 04.19.11 at 4:55 pm

Can someone remind me what the basis of economists “expertise” is again?

Well, they go to graduate school for several years, and then some of them apparently get jobs at bond rating agencies.

It appears that even the bond rating agencies have learned a thing or two since 2008.

How to make scary-sounding pronouncements on the political scene of the moment, backed up by no data whatsoever? I hate to break it to you, but they already knew how to do that one.

45

piglet 04.19.11 at 4:59 pm

“Is there a warming trend on risk-taking among R politicians that means we can’t discount the possibility that they will force a default?”

IMHO it does matter that the current Republican leadership is the equivalent of a screaming lunatic with a chainsaw determined to massacre everybody within reach, and that so far there hasn’t been any effective response from the sane part of the political spectrum. The very assumption that Republicans can be counted on to ultimately behave rationally, at least as far as self-preservation goes, is baseless. As long as liberals don’t get this, they won’t be able to stop the chainsaw massacre. The Republican extremists now calling the shots in Washington are no-future-nihilists who don’t care about the consequences of their actions. They are willing to run the experiment of turning the country into a failed state just to prove their ideological point. They are fascists.

46

john c. halasz 04.19.11 at 5:01 pm

As to CDS on T-bonds, it’s ridiculous, but it exists, so it must be just a side-bet market on T-bond prices. If the price on a T-bond falls, the buyer of a CDS can re-sell the contract at a profit, thereby offsetting the liquidity risk if forced to sell the T-bond below par. Mr. Market must stick his greedy fingers into every pudding.

47

someguy 04.19.11 at 5:12 pm

chris,

At full employment there would still be a large deficit.

48

novakant 04.19.11 at 5:16 pm

Well, in the case of the US the game is rigged of course – but that’s part of the problem.

49

Steve LaBonne 04.19.11 at 5:22 pm

In related news, actual investors, as opposed to invisible bond vigilantes, remain resolutely unimpressed.

50

Gabriel 04.19.11 at 5:45 pm

Galbraith would do well in laughing less and reading more. The idea that the US can’t default because it issues debt in its own currency, which for some reason a lot of people believe, is completely wrong. There are plenty of examples of countries defaulting on their own currencies. Jamaica in 2010 was but the latest of a long series.

51

Gabriel 04.19.11 at 5:49 pm

Steven @35. That’s simply a market development since investors have traditionally wanted greater credit differentiation than would be provided with other scales. But, as you might know, it’s beginning to change.

52

mrearl 04.19.11 at 5:52 pm

Thanks for the help re rigid ceiling=default, given “mandatory” spending. But has anybody crunched the numbers to show that the ceiling “gap” (the needed headroom) exceeds discretionary spending, and by how much, and at what velocity the collision impends?

53

roac 04.19.11 at 5:58 pm

The Country Club wing of the Republican Party is scared to death that the rubes are going to refuse to raise the debt limit. The bankers from the Tea Party freshmen’s home districts are showing up on the Hill in such numbers that they can’t all find a spot to grab the Member’s arm so they can twist it. I suspect that S&P has been enlisted to join this campaign.

54

aaron 04.19.11 at 7:00 pm

Galbraith is pretty far outside the economic mainstream (so far outside it that he’s a prof. of Public Policy, not Economics). That’s not to criticize his views (he tends to be the most interesting speaker at Econ-themed events), just to protest his categorization in this article.

But what is comedic is that this is news that gets room on the websites of legitimate media companies such as the New York Times, and merits attention from elected officials. The S&P didn’t even tug on Superman’s cape, it just told him to “watch out for kryptonite” as though he didn’t know that already. The S&P issues a “negative outlook” warning that there was a 1 in 3 chance that in two years the US could lose its precious AAA rating. To borrow from another superhero film: “And I thought my jokes were bad.”

55

mds 04.19.11 at 7:06 pm

The idea that the US can’t default because it issues debt in its own currency, which for some reason a lot of people believe, is completely wrong. There are plenty of examples of countries defaulting on their own currencies. Jamaica in 2010 was but the latest of a long series.

Er, are you sure you considered Jamaica’s external debt (primarily foreign currency-denominated) as well as its domestic debt (primarily Jamaican dollar-denominated)? Because it’s not clear to me that Jamaica actually is a good counterexample to Galbraith’s claim about the US.

56

studentee 04.19.11 at 7:14 pm

if jamaica had debt denominated in a foreign currency, then it is not a counterexample to galbraith’s claim. i wouldn’t know where to find this, though

57

Gabriel 04.19.11 at 7:18 pm

mds,

Yes, I did consider it. In fact Jamaica purposefully defaulted on debt denominated 0n its own currency while continuing to pay foreign currency debt. The exact opposite of what Galbraith claimed. Unfortunately Galbraith simply doesn’t know what he’s talking about here.

studentee,

Jamaica had BOTH local and foreign currency debt but chose to default ONLY on its local currency debt.

58

Barry 04.19.11 at 7:22 pm

Gabriel, perhaps ‘outside the mainstream’ here is worth something in economics, considering it’s massive failures. And as I’ve said before to others, please have some friends fill you in on the events of 2007-09, particularly the rating agencies’ part.

59

studentee 04.19.11 at 7:23 pm

that’s where the pressure comes from, gabriel. it’s from the debt denominated in a foreign currency, that’s the leverage. they demand payment in a currency that the country can’t issue. the us will not face this situation

60

studentee 04.19.11 at 7:24 pm

bond vigilantes exist for jamaica, they do not exist for the us

61

mds 04.19.11 at 7:55 pm

they demand payment in a currency that the country can’t issue.

Also, if a country has a large external debt load denominated in foreign currency, it cannot print money even for domestic debt financing without digging a deeper hole on the external debt side due to currency devaluation. The US does not carry a large foreign-denominated debt. Jamaica does. That is Galbraith’s inexplicably-hard-to-understand point.

62

Gabriel 04.19.11 at 7:57 pm

studentee,

sigh, no, you are making stuff up. Jamaica defaulted on local currency debt something Galbraith said was impossible. Talk about “epistemological closure”!

Barry,

Have you ever read one of the sovereign default studies from the rating agencies? If not why are you even opining about this?

63

Walt 04.19.11 at 8:29 pm

Gabriel, you’re the one who doesn’t know what he’s talking about. The claim of the “Modern Monetary Theory” school (which Galbraith claims to be a member) is that a country that only has debt in its domestic currency will not default. Though the patronizing tone you bring to the discussion is something we can always use more of, here on the internet.

64

Gabriel 04.19.11 at 8:45 pm

Sorry Walt, but that’s not what Galbraith said. And even with that narrower definition, it is still wrong, for the same reason that Jamaica defaulted. And it’s that central banks are not willing to simply print money. Oh, yes, they might do that for a while and for a limited amount. But not forever and not at the risk of losing all market credibility. After all, if it were that easy, why wouldn’t the ECB have simply bought up all Greek debt the second this crisis started? It’s but a small part of the overall euro area monetary base, and it would have eliminated all contagion risk overnight. But they didn’t. And they won’t.

Same reason the Fed would never fully bail out the US Treasury. They would help, yes, for a while, but if the debt was high and private investors were unwilling to buy debt, then the Fed would let the US restructure (ie default). The Fed has no interest in becoming Argentina’s Central Bank. I’m sorry, but Galbraith laughs a lot but simply doesn’t understand this topic.

65

Substance McGravitas 04.19.11 at 8:55 pm

If I imagine Galbraith to be foolish on this topic am I obliged to think S&P are trustworthy?

66

Gabriel 04.19.11 at 9:01 pm

Substance,

If you want to judge S&P, or anyone else for that matter, you need to look at the relevant data. Claiming the ‘rating agencies got everything wrong’ is easy. Understanding that CDO criteria and sovereign ratings criteria are two very different things is not as easy. And reading the rating agency sovereign default studies, that are published every year and provide a quantitative analysis of whether they are right or wrong, seems to be beyond the capability of everyone that comments on this topic.

67

Alex 04.19.11 at 9:04 pm

D^2, we know StandardisPoor and friends suck. But you (and I) thought this whole issue was going to blow over a year ago and nothing much would change. The IMF/sound money/austerian/ratings lobby has succeeded in imposing world austerity so far. Everywhere they wanted “a bailout”^H^H^H massive and prolonged deflation they got one, and now they’re getting a second wave of deflation on top. We were both wrong.

68

zamfir 04.19.11 at 10:00 pm

seems to be beyond the capability of everyone that comments on this topic.

It also seems beyond the capabilities of the people who buy the stuff.

69

Substance McGravitas 04.19.11 at 10:30 pm

It’s diligence all the way down.

70

studentee 04.19.11 at 10:52 pm

“And it’s that central banks are not willing to simply print money. Oh, yes, they might do that for a while and for a limited amount. But not forever and not at the risk of losing all market credibility. After all, if it were that easy, why wouldn’t the ECB have simply bought up all Greek debt the second this crisis started? It’s but a small part of the overall euro area monetary base, and it would have eliminated all contagion risk overnight. But they didn’t. And they won’t.”

because the ecb isn’t a functionary of the greek govt. they don’t care about unemployment in greece. but i would love, love to see the Fed try to tell the Treasury that its check is no good. i really would, then we could shut the place down and subsume it into the treasury once and for all.

71

studentee 04.19.11 at 10:57 pm

“And reading the rating agency sovereign default studies, that are published every year and provide a quantitative analysis of whether they are right or wrong, seems to be beyond the capability of everyone that comments on this topic.”

your entire argument hinges on the Fed saying that it won’t clear the treasury’s checks. that’s what it boils down to. to me, this is absurd, and i don’t need to wade through any reports to know this

72

studentee 04.19.11 at 11:13 pm

“And even with that narrower definition, it is still wrong, for the same reason that Jamaica defaulted.”

did you read what i said about leverage, and what mds said about? do you think that the difference between domestic-currency denominated debt and foreign-currency denominated debt is trivial?

73

Gabriel 04.19.11 at 11:56 pm

studentee,

See now you’ve moved to the ridiculous. Of course the Fed would say no. Surely you know that it’s independent, right? And while the ECB might not care about unemployment it does care about financial crises. And if it were as simply as buying up all the debt, why would they not do it?

This is the problem studentee. You don’t really know much about this topic. Clearly you haven’t researched it nor do you work in this area. So you repeat things you heard elsewhere without ever thinking how they all fit together. Here’s a list of countries: Russia, Argentina, Cameroon, Dominica, Uruguay. Know what they have in common? They all defaulted on local currency debt.

Try to think this through. If issuing in your own currency meant you could never default, why bother taxing at all? According to you the Fed is willing to print an infinite amount of dollars, so why doesn’t Obama agree with the GOP to reduce all taxes to zero tomorrow?

74

studentee 04.20.11 at 12:42 am

talk to someone at the fed. ask if they would ever bounce a check written by the govt. the fed is only nominally independent. it’s our ‘bitch’, and if it steps too far out of line, it’s done. the fed passes on its profits and gains to the treasury. that’s not independence

“And while the ECB might not care about unemployment it does care about financial crises. And if it were as simply as buying up all the debt, why would they not do it?”

because there is a large and more powerful constituency of europeans nations (germany) who don’t want bailouts. they *should* be buying up the debt, probably not in its entirety, but according to some per capita ratio. but they won’t, because of germany, mostly.

“Here’s a list of countries: Russia, Argentina, Cameroon, Dominica, Uruguay. Know what they have in common? They all defaulted on local currency debt.”

every single one of those countries had a fixed exchange rate or debts denominated in a foreign currency. this changes the game completely. i understand the intellectual tradition galbraith is working in here, and he knows what the situation is. the us is fundamentally in a different situation than those countries you rattled off

“Try to think this through. If issuing in your own currency meant you could never default, why bother taxing at all? According to you the Fed is willing to print an infinite amount of dollars, so why doesn’t Obama agree with the GOP to reduce all taxes to zero tomorrow?”

i’ve moved to the ridiculous? you’ve moved the goalposts so far i can’t even see them. but! i’ll engage. the risk is of course not ‘default’ in your absurd scenario, it is hyperinflation. taxes are used, at the federal level, as a cooling mechanism for the economy. if the gov’t spends too much in relation to how much it taxes, demand-pull inflation pressures can set in. you don’t understand what risks your talking about, and you’ve pulled this fetid strawman argument out of nowhere

75

studentee 04.20.11 at 12:43 am

i’m not sure why i engaged you on the euro question. it’s so fundamentally dissimilar to the us situation that comparisons are meaningless

76

AB 04.20.11 at 12:53 am

Gabriel, can you name a country which borrowed only in its own currency, of which it was in full charge (i.e. not a member of a wider monetary union) and defaulted on that sovereign debt, and did not have any form of nominal anchor such as the gold standard that was beyond its control?

If not, I suggest that the presence of foreign currency denominated debt was indeed the critical factor in defaulting on either local or foreign debt. Hanging, sheep, lambs.

77

Gabriel 04.20.11 at 12:56 am

studentee,

I’m sorry, but you don’t know what you are talking about. There is no soft way of saying this.

You keep changing the goalposts. First the argument was that a country can’t default on local currency debt. When I proved that wrong it moved to countries that only have local currency debt. So, according to you, today the Fed would buy any US debt. But if the US government tomorrow decides to issue yen debt then the Fed will no longer buy US debt? Of course that makes no sense.

You come close to getting it when you realize why the fed can’t simply just print dollars. But you seem unable to take the next logical step. If there is a limit to what the Fed will do for the Treasury then it means there is a point at which the Fed would simply allow the Treasury to default. One is the logical consequence of the other.

It’s sad because so many on the left love to think they are open to the facts, and it’s the other side that is fact free. But as this discussion shows the problems are everywhere.

Talk to any central banker in any modern country and ask them if they would simply buy all government debt always, and they will laugh at you.

78

Gabriel 04.20.11 at 12:58 am

AB,

How does that work? Why would having foreign currency debt impact payment of local currency debt which, according to Galbraith, can be simply printed?

79

studentee 04.20.11 at 1:05 am

“You keep changing the goalposts. First the argument was that a country can’t default on local currency debt. When I proved that wrong it moved to countries that only have local currency debt.”

no. i was responding to the argument that galbraith was wrong to laugh at the us defaulting on its debt. that’s what the article was about. so if i was responding to the incorrect argument, then apologies. but you’ve been consistently wrong in your arguments since then.

“So, according to you, today the Fed would buy any US debt. But if the US government tomorrow decides to issue yen debt then the Fed will no longer buy US debt? Of course that makes no sense.”

do you understand why there is pressure on a country if it holds debt denominated in a foreign currency? do you understand why those countries you described were defaulting in situations that are fundamentally different than the one the us is currently in? can you offer an example that would satisfies commentator AB’s criteria? because those are the criteria that matter.

“It’s sad because so many on the left love to think they are open to the facts, and it’s the other side that is fact free. But as this discussion shows the problems are everywhere.”

what facts have i gotten wrong?

you think that the fed will bounce a check from the treasury. i think this is a dumb belief. this is what is comes down to. we’ll see i suppose.

80

Gabriel 04.20.11 at 1:08 am

By the way, it’s not only you who don’t get it. read this:

http://www.ft.com/cms/s/0/e8a3cc8c-a958-11df-a6f2-00144feabdc0.html#axzz1K0WUsG3K

The author, an economist at HSBC, writes that A “true sovereign” can issue freely in its own currency, has full taxing power over the population and ultimately, if required, can create more of its own money. So a “true sovereign”, as he defines it, can’t default.

Except that just a few months before he wrote that Jamaica, which could issue freely in its own currency, had full taxing power, and could create more currency if required, had decided to default! Same for all the other examples I gave. Yet they kept paying their foreign currency debt, so that was not the problem.

81

Gabriel 04.20.11 at 1:13 am

what facts have i gotten wrong?

I’ve told you several times. The empirical results contradict your view. Jamaica defaulted on its local currency debt even while it continued to pay its foreign currency debt.

do you understand why there is pressure on a country if it holds debt denominated in a foreign currency? do you understand why those countries you described were defaulting in situations that are fundamentally different than the one the us is currently in?

No, actually. As I just showed to you Jamaica continued to pay its foreign currency debt and yet defaulted on local currency debt. And, since they can simply print the money, what pressure would that place on foreign currency debt?

The thing is that Galbraith’s view is purely theoretical, but has been disproved by the facts many times.

82

studentee 04.20.11 at 1:16 am

“Why would having foreign currency debt impact payment of local currency debt which, according to Galbraith, can be simply printed?”

that’s the leverage right there. there are bond vigilantes in this situation. the domestic currency-denominated debt can always be paid off with printing money, but this can cause currency depreciation, and thus the foreign-denominated debt becomes increasingly relatively expensive, and less likely to be paid off in terms the foreign creditors accept. they won’t let this happen. it’s comparable to weimar. the imf was called in to help them sort it out, and it is the domestic bond-holders who will get the haircut

83

studentee 04.20.11 at 1:19 am

you’re just not listening. the reason they were forced to default on the domestic-denominated debt *was because of the existence of the foreign-denominated debt*

“The thing is that Galbraith’s view is purely theoretical, but has been disproved by the facts many times.”

no. answer AB’s call for an example of a country that defaulted without the presence of foreign-denominated date or convertible currencies. that will allow you to disprove galbraith. until then, you’ve no counterexample

84

Andrew 04.20.11 at 1:19 am

Local currency debt: a nation holding only debt in its local currency may nonetheless “default” in the relevant sense because the costs of simply creating money to pay may be higher than the costs of certain forms of default. And it’s easy to see why.

Barry @32 (and others): That the agencies got some important things wrong on various structured products doesn’t mean that all their opinions now lack expertise, or that we can shrug them off as silly.

I think S&P’s warning here is well-taken: if you do not come up with a decent plan, you’re going to be in significantly worse shape than your peer group, and that likely means an eventual downgrade.

Nothing funny about it, imho. I wish there were.

dsquared @31: off-topic: sure, Qualifying Guarantees can be tricky and make it hard to assess whether a Credit Event occurred, but my extremely basic understanding of Credit Events in the sovereign cds context is that the standard contract would limit to the possibilities above – no?

85

studentee 04.20.11 at 1:23 am

@andrew

“Local currency debt: a nation holding only debt in its local currency may nonetheless “default” in the relevant sense because the costs of simply creating money to pay may be higher than the costs of certain forms of default. And it’s easy to see why.”

example of this happening?

“I think S&P’s warning here is well-taken: if you do not come up with a decent plan, you’re going to be in significantly worse shape than your peer group, and that likely means an eventual downgrade.”

who cares if there is a downgrade? the us doesn’t need to issue debt to spend, it just does it because of operational inertia

86

Gabriel 04.20.11 at 1:24 am

well, at least Andrew gets it.

studentee, your almost there but can’t seem to make the final logical leap. The reason Galbraith is wrong, the reason Jamaica and so many other countries defaulted in local currency, is that at some point the cost of printing money becomes too high. Having foreign currency makes no difference. The key is at what point they simply don’t want to print anymore.

If the Fed simply bought all the debt it would lead to high, even possibly hyperinflation. They know that. And that’s why they would, at some point, say it’s enough. Modern central banks are very, very protective of their independence, even if that independence is not perfect.

87

Gabriel 04.20.11 at 1:25 am

the us doesn’t need to issue debt to spend, it just does it because of operational inertia

This is sheer nonsense.

88

studentee 04.20.11 at 1:30 am

“The reason Galbraith is wrong, the reason Jamaica and so many other countries defaulted in local currency, is that at some point the cost of printing money becomes too high. Having foreign currency makes no difference. The key is at what point they simply don’t want to print anymore.”

no. japan has a monstrous amount of debt right now and has so for the past 20 years. why is not struggling like jamaica did? because it a freely-floating exchange rate with no foreign-denominated debt. really, it’s up to you to find an example of a country that is in a similar situation to *japan* (because japan is like the us), and show that they have defaulted

it’s not clear to me that you understand why the foreign-denominated debt matters

“If the Fed simply bought all the debt it would lead to high, even possibly hyperinflation. They know that.”

when the Fed buys debt, it replaces them with reserve balances at the Fed. it’s not inflationary. the Fed has been buying debt constantly during qe2, where’s the inflation?

89

studentee 04.20.11 at 1:31 am

“This is sheer nonsense.”

sorry, you’re stuck in a fixed-exchange rate world. things changed in 1971

90

Gabriel 04.20.11 at 1:34 am

Sorry studentee, I thought you had some understanding. But if you are going to argue the US has no need to issue debt to spend, then lets leave it at that.

91

studentee 04.20.11 at 1:36 am

i’d love to argue it. let me ask you, where does the money to buy us debt come from?

92

Gabriel 04.20.11 at 1:40 am

sorry, I’m generally interested in online debate, but there has to be a minimum of rationality. Anyone who argues that the US has no need to issue debt in order to spend, or that thinks that the Fed will always buy all US government debt no matter the amount, doesn’t meet that threshold.

I work in this business (sovereign debt) and I was trying to give you some real life information. But you seem focused on these made up alternative realities. Enjoy them.

93

studentee 04.20.11 at 1:49 am

hint: it comes from previously spent money.

“I work in this business (sovereign debt) and I was trying to give you some real life information.”

you should tell your boss to stop wasting time looking at the us, britain, and japan, and concentrate on europe. that’s where the action is. if he wishes his firm to retain any relevance, that is

94

Gabriel 04.20.11 at 1:52 am

Sure, whatever. I’m sure people in the financial world are dying to hear from someone that thinks the US doesn’t need to issue debt. Enjoy your fantasies.

95

studentee 04.20.11 at 1:53 am

why does the us issue debt?

96

Andrew 04.20.11 at 2:17 am

studentee, here, if you scroll down to Table 4 on page 12, you’ll find a good listing of sovereign defaults on local currency and foreign currency debt.

I don’t really understand your comment that the US doesn’t need to borrow to spend. Are you suggesting that the US can simply create money in lieu of issuing debt to meet its borrowing needs without massively adverse economic consequences?

97

AB 04.20.11 at 2:53 am

@Gabriel

What studentee says in comment 80. Presence of foreign debt changes the situation for both foreign and domestic debt. This is why the answer to my previous question is, AFAIK, “none”, unless you count some very special cases such as the US’s abrogation of the Gold Clause in the 1930s – but that related to the debt having a separate link to gold to that existing for the cash currency itself, so the main point stands.

As for the independence of central banks, Congress could repeal or amend the 1977 Federal Reserve Act really quite quickly if it felt the need. Note that the Bank of England’s deflationary-liquidationatist lunacy during the Depression deservedly meant it lost independence after WW2 until 1997.

98

StevenAttewell 04.20.11 at 2:58 am

Gabriel at 51 – not really, I see it as a classic market failure, brought on by the reliance of ratings agencies on private companies who make up the bulk of their clients, combines with a monopoly position on access to the bond markets.

Given their godawful track record, what actual innovation are we seeing here?

(Or were you not replying to me? Bit confusing.)

Regarding the U.S printing currency – of course it can. The question is how much it can without creating ruinous inflation. The chartalists here would argue that as long as you don’t have foreign denominated debt, the question is how much the government takes in as taxes and uses as a buffer stock.

But if we are going to have rational debate here, let’s see some estimates on how much money can be printed before you get hyperinflation.

99

Gabriel 04.20.11 at 3:07 am

AB,

You haven’t explained why it changes the situation. The whole argument of no default is based on the idea of unlimited support from the central bank which has no modern empirical support anywhere. Even in Argentina the Central Bank is not willing to simply print money and the Fed would do much, much less than what Argentina’s CB has done.

The problem with your theory is that it’s just that, a theory, with no empirical support. And all the evidence we do have, not just of other countries that defaulted but of how the Fed and the ECB have acted in this crisis, shows there is a clear limit beyond which a modern central bank won’t go. You and Galbraith and all the others ignore this and resort to creating the myth of Fed willing to print unlimited dollars, something no Fed watcher believes and something that has no support in any Fed action of the past.

Remember, for Galbraith’s argument to make sense, it’s not enough that the Fed support the Treasury in a time of need. After all the ECB has strongly supported the Greks (buying their debt in the secondary market, providing repo facilities on Greek debt to EU banks, etc..). It must go beyond that. It must make it unequivocally clear that they will simply buy all US Treasury debt the market chooses to not buy or at rates the market won’t lend (or both). This is ridiculous. Even if Bernanke was willing to do this, which I doubt, he would be overruled. And the idea that Congress, which could be in the hands of the opposition, would ‘take over’ the Fed is equally ludicrous.

100

Gabriel 04.20.11 at 3:12 am

Steven,

If you work in the market you know that for years the rating agencies have talked to investors about aligning the muni rating scale with the other asset classes but there was strong resistance from investors since they wanted more differentiation. But already some rating agencies are moving to newer scales, more easily comparable across asset classes.

Also, what ‘godwaful record’ are we talking about? Have you ever read their default studies?

101

AB 04.20.11 at 3:26 am

@Gabriel 1. And the idea that Congress, which could be in the hands of the opposition, would ‘take over’ the Fed is equally ludicrous.
2. The problem with your theory is that it’s just that, a theory, with no empirical support.

1. This is in fact essentially what happened between 1942 and 1951: the Fed agreed to maintain a ceiling on yields on T-Bills and, in effect, Treasuries, through market operations, under threat from Congress. And, as I noted before, it’s what happened to the BoE for half a century.
2. Since you haven’t produced a single example of a local currency-only country defaulting, the circumstantial evidence is on my side.

102

Gabriel 04.20.11 at 3:33 am

You are comparing a ceiling on yields during wartime with the unlimited printing of dollars? Doesn’t make much sense.

As for the circumstantial evidence, no it does not support your side. I’ve already shown you the many, many cases of local currency defaults. It may be that one of those was in a country with no foreign currency debt, I will have to check that further. But even just the evidence we do have does not help your side.

Your counterargument is that having foreign currency debt somehow reduces the ability of a central bank to print money, yet you never explain why. By magic?

Meanwhile, in this pretty brutal crisis, with still very high unemployment and almost non-existent inflation, several Fed monetary policy members have hinted at the need of raising rates soon. Yet you think the Fed would provide unlimited support to the Treasury!

103

studentee 04.20.11 at 3:34 am

“It must make it unequivocally clear that they will simply buy all US Treasury debt the market chooses to not buy or at rates the market won’t lend (or both). This is ridiculous. Even if Bernanke was willing to do this, which I doubt, he would be overruled. And the idea that Congress, which could be in the hands of the opposition, would ‘take over’ the Fed is equally ludicrous.”

see, i don’t find that ludicrous. the us has had varying amounts of debt since the fed was established, not once has there been any talk of the fed bouncing a check from the us govt. has the bank of japan ever denied the japanese govt? ever? and their debt to gdp ratio is much, much larger than the us’s. the fed exists at the behest of the us govt

i also think it’s curious that you, someone who works for sovereign debt rating entity, doesn’t understand why the existence of foreign-denominated debt changes the situation

104

Gabriel 04.20.11 at 3:39 am

The Fed hasn’t bounced any checks because the Treasury has always had the dollars to pay. Your argument is that if need be the Fed would print unlimited dollars for the Treasury, which would make people at the Fed laugh if you suggested that.

105

Gabriel 04.20.11 at 3:42 am

In any case all this is a moot point. No one at the Fed or the Treasury or in the markets believes this theory of unlimited Fed support. So it will never happen. If the US ever finds itself in a crisis like Greece (meaning a sudden or quasi sudden capital stop for its debt) it will have to adjust like any other country. The people in Treasury know this. Obama knows this. That’s why they are all talking about what steps to take to make sure market confidence is always there.

106

studentee 04.20.11 at 3:47 am

“But if we are going to have rational debate here, let’s see some estimates on how much money can be printed before you get hyperinflation.”

let’s look at the situation where the government wishes to purchase something from the private sector. the us can always simply create its own currency, as it is the monopoly issuer of a nonconvertible currency. so bonds do not serve as a source of ‘revenue’ for the currency issuer; they aren’t necessary to for the actual operational act of purchasing the private sector thingie

the next argument is that issuing bonds reduces inflation because it takes spending power out of the economy. this needn’t be true either. the turnover on gov’t securities is massive, they are the most liquid financial assets there are. no entity is ever constrained from investing or consuming because of the existence of a tsy on its balance sheet. there is no loss of purchasing power because money is being held as bonds rather than cash, or whatever. in fact, since bonds can be used for credit creation, and because say, reserve balances cannot be, there’s an argument to be made that issuing bonds is more inflationary than simply printing. plus bonds pay interest, and that’s added to an economy

107

studentee 04.20.11 at 3:50 am

“No one at the Fed or the Treasury or in the markets believes this theory of unlimited Fed support. So it will never happen.”

i think otherwise. you’ve got a citation of fed officials talking about bouncing a check from the treasury? ever? you think that the people at the fed are willing to stop payments to the military, to government employees, etc., just because of whatever queer reason they can think up?

“If the US ever finds itself in a crisis like Greece (meaning a sudden or quasi sudden capital stop for its debt) it will have to adjust like any other country.”

once again, greece and the us are uncomparable

108

studentee 04.20.11 at 3:51 am

“It may be that one of those was in a country with no foreign currency debt, I will have to check that further.”

you won’t find one

109

studentee 04.20.11 at 3:55 am

“Your counterargument is that having foreign currency debt somehow reduces the ability of a central bank to print money, yet you never explain why.”

yes, in fact we did address this. this is where the devaluation of the local currency comes into play, the bond vigilantes enter the equation, and the imf has sway. you just aren’t reading very closely

110

Gabriel 04.20.11 at 3:55 am

studentee, whatever makes you feel good is OK by me. I work in the markets and no one buys your rationale. If they did Obama would not be talking of reducing the debt, after all they could just rely on the Fed. Luckily for all of us Galbraith’s ideas have no relevance in the real world. Even Krugman has backed away from Galbraith’s wacky ideas explaining that while he (Krugman) does not support belt tightening in the middle of a crisis afterwards we will have to adjust. Which, according to you and Galbraith, is not needed!

111

Gabriel 04.20.11 at 3:57 am

yes, in fact we did address this. this is where the devaluation of the local currency comes into play, the bond vigilantes enter the equation, and the imf has sway. you just aren’t reading very closely

You think this is an explanation? Some mumbo jumbo about the IMF and bond vigilantes? Sigh, you really are a student somewhere, right?

112

studentee 04.20.11 at 4:07 am

“I work in the markets and no one buys your rationale.”

some people do. and i work in ‘the markets’ as well…

“If they did Obama would not be talking of reducing the debt, after all they could just rely on the Fed.”

the appeals to authority are a real good look, and they are definitely helping you boost your case

“You think this is an explanation? Some mumbo jumbo about the IMF and bond vigilantes? Sigh, you really are a student somewhere, right?”

it’s really surprising you don’t understand why this matters. if everyone working at the credit agencies have your level of knowledge, it makes sense then why they are consistently wrong and consistently irrelevant. do you understand why weimar defaulted on its debt? do you understand why a gold standard matters, why a fixed exchange regime matters, versus a floating? anyway, scroll up a bit and you’ll find the explanation.

113

Gabriel 04.20.11 at 4:10 am

My mistake, never a good idea to debate a student. Listen, let’s leave it at that. You don’t get this and it’s waste of time trying to discuss with you. The only good news in all of this, as I mentioned above, is that it’s all moot. So you are free to believe what you want.

114

StevenAttewell 04.20.11 at 4:14 am

Gabriel -
In terms of the muni story, Randall Dodd of the Financial Policy Forum tells a very different story.

In terms of a godawful record: AIG, Lehman Brothers, Bear Stearns all got glowing ratings, above that given to California. That’s a pretty glaring failure in my eyes.

115

studentee 04.20.11 at 4:14 am

how about this guy, he works in markets:

http://english.themarker.com/warren-buffett-the-u-s-is-moving-toward-plutocracy-1.351236

on whether having foreign-denominated debt matters:

“I don’t like policies that lead to that number [size of debt] increasing and I have written about it, but let’s not get into that. Everything that we have is denominated in our own currency, and that’s a tremendous advantage.”

116

studentee 04.20.11 at 4:16 am

“My mistake, never a good idea to debate a student. Listen, let’s leave it at that. You don’t get this and it’s waste of time trying to discuss with you. The only good news in all of this, as I mentioned above, is that it’s all moot. So you are free to believe what you want.”

do let me know if you find an example of a relevant default! you probably have access to bigger databases than i do

117

Gabriel 04.20.11 at 4:19 am

Steven,

You are mixing a bunch of stuff there. I thought you were talking about the muni scale. AIG, Lehmann Bros and Bear are (in some cases used to be) financial institutions, a completely different story.

Also, ratings are probabilities so you can’t judge them by looking at individual cases, you need to do a cohort analysis.

118

dsquared 04.20.11 at 6:30 am

Gabriel – the Jamaica Debt Exchange (I presume that’s what you’re talking about?) did include domestic USD-denominated bonds. It didn’t include external debt, but Jamaica had quite a material amount of USD-denominated and USD-linked domestic debt.

119

Martin Wisse 04.20.11 at 6:47 am

Gee, that was a quite promising thread hijacked by the dumbest of trolls; haven’t people not learned yet that anybody who persists with a ludricous argument like old Gabe had here isn’t arguing in good faith?

Or just too dumb to live of course, but in either case, once you explained two times that there are a few slight differences between Jamaica and the US that make his argument worthless, why persist in wrestling pigs?

120

Walt 04.20.11 at 7:08 am

Because this time we’re going to pin that pig.

Somehow I think that’s psychologically difficult to resist, which is why trolling so effective. Gabriel’s argument is just so stupid, for example, that it’s hard not to say something. I’m not sure what the psychological impulse is, but people like Gabriel are effective in exploiting it.

121

Henri Vieuxtemps 04.20.11 at 7:28 am

It’s true that the US only has USD-denominated debt, yes, but the US is, nevertheless, involved in international trade. Which, I reckon, is pretty much the same thing as having non-USD-denominated debt, because Canadian oil workers are paid in Canadian dollars, not USD. So, if (or when) it comes to the choice of defaulting vs paying a zillion dollars for a barrel of oil, the government (not the fed refusing to clear a check, but the government, politicians, representing US-based multinational corporations) may very well decide to go for the default. Am I wrong?

Or, to put it in a different way, if it’s true that the explanation (74) for the situation in Greece is that “there is a large and more powerful constituency of europeans nations (germany) who don’t want bailouts“, then who’s to say that there is no powerful constituency in the US that doesn’t want bailouts? In fact, it seems pretty clear that this constituency does exist, with TP being its manifestation.

122

studentee 04.20.11 at 8:23 am

“Or, to put it in a different way, if it’s true that the explanation (74) for the situation in Greece is that “there is a large and more powerful constituency of europeans nations (germany) who don’t want bailouts“, then who’s to say that there is no powerful constituency in the US that doesn’t want bailouts? In fact, it seems pretty clear that this constituency does exist, with TP being its manifestation.”

when i wrote this, i wasn’t actually sure what kind political pressures were being brought upon the ECB and why it was doing what it was doing. so the dynamics i outlined could be incorrect. it was just an example i used to talk about how the eurozone faces different pressures than those states like the us or uk would. i’m drunk, but they seem incomparable. california could be like greece

123

dsquared 04.20.11 at 8:23 am

I do not agree that Gabriel was a troll; he clearly does have specialist knowledge, and lots of people (including Brad DeLong and Paul Krugman and Dean Baker) make basically the same argument about USD debt in corner cases – James Galbraith is actually quite unusual in being prepared to take that view all the way. The argument got unnecessarily personal and bogged down in side issues, but that’s IMO due to more a kind of self-organising criticality than anything that can be blamed on either side.

124

studentee 04.20.11 at 8:27 am

sorry if i bogarted the thread a bit, dude was an asshole, smug

125

dsquared 04.20.11 at 8:29 am

btw, I will rescue Alex’s comment at #67 from our template’s “unique” way of presenting superscripts:

D2, we know StandardisPoor and friends suck. But you (and I) thought this whole issue was going to blow over a year ago and nothing much would change. The IMF/sound money/austerian/ratings lobby has succeeded in imposing world austerity so far. Everywhere they wanted “a bailout”HHH massive and prolonged deflation they got one, and now they’re getting a second wave of deflation on top. We were both wrong.

I don’t necessarily agree with this, for reasons that are complicated to get into and would involve me in more talking-my-book than I’m comfortable with. I do agree that the pointless pain caucus have more power and influence than they should, but I am hoping that this marks the point at which they over-reached themselves – you can make a career in Very Seriousness by always talking portentously about Bad Things To Come, but when you start being pinned with the reputation of “that guy who thinks the USA is going to default”, sooner or later someone is going to point out that the emperor has a bare arse.

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Alex 04.20.11 at 8:34 am

D^2, what is actually your view on the MMTers? They always sound like they might have a point, if they weren’t far too close to something-for-nothing magical thinking.

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Daniel 04.20.11 at 8:53 am

I identified MMT as a time-sink of potentially career-destroying proportions, and currently have a small department of my subconscious devoted to stopping me from thinking about it, right next to the small department that usually manages to stop me thinking about John Prescott’s affair with his scretary.

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Daniel 04.20.11 at 9:14 am

(oh go on then – using my “lazy man’s algorithm” of assuming that there is a bloody big world out there, and that it is almost always more trouble to consider and understand a complicated theoretical argument than to scout around for a real-world example, I give you the unsung hero of Modern Monetary Theory, Gideon Gono. Since it seems to be common ground that the vital case for the MMT view is a situation in which money is literally printed to finance the primary deficit leading to Zimbabwe-style hyperinflation, and since it is a fact that the Government of Zimbabwe has not defaulted on Zimbabwean Dollar-denominated treasury bills, I call this one for MMT).

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Walt 04.20.11 at 11:14 am

I’m sure Gabriel has some specialist knowledge, but he didn’t write like someone interested in arguing a point, but someone who’s interested in disrupting the thread to get all of the attention. I mean, he accused somebody of “epistemic closure” because they argued that maybe the example of Jamaica is not relevant to whether the US is going to default. Obviously it’s not literally true that it’s impossible for a country to default on debt denominated in its own currency, and if Galbraith is literally saying that it’s false, but if you’re going to issue pointless nitpickery in that volume, then you’re just here to crap all over the thread.

Based on my extensive reading of MMT (fifteen minutes of blog browsing, plus reading one whole PDF), I think they already view Zimbabwe proving their theories. Governments face a budget constraint in terms of foreign-currency debt, but don’t face a budget constraint in domestic-currency debt (since they can monetize). If the first budget constraint binds, then they will have to take advantage of the lack of a second budget constraint, and inflate.

I find it hard to believe that they’re arguing that there’s literally no constraint. If I buy debt, I’m interested in the real return, and at some point the government is going to have to worry about inflation expectations. I find them a little hard to understand on this point, because MMT has the problem of all economic heterodoxies, which is that they aim their arguments at the orthodoxy of the day they became heterodox. For example, they emphasize stock-flow consistency because the macroeconomics of the day was not stock-flow consistent. Rational-expectations macroeconomics (whatever its other flaws) is stock-flow consistent, so it’s no longer an important difference with the mainstream. I think their argument is not that literally there is no constraint and that Japan can have debt of 300,000% of GDP, but that there is no constraint that prevents the government from achieving full employment, and the fact that Japan has already borrowed a lot in the past doesn’t constrain the Japanese government from borrowing now.

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Andrew 04.20.11 at 12:07 pm

I think Daniel’s comment was tongue in cheek, Walt.

Agree with D^2 that Gabriel isn’t a troll, but the conversation did become personal and poorly designed.

AB @101: Standard and Poors at Table 4, page 12-13, provides ample examples of countries defaulting on both local-currency and foreign-currency debt.

The theory you endorsed above seems to predict that local-currency debt will be defaulted on only in cases where holders of foreign-currency debt force it. As you can see from Table 4, that’s just not the case. Nor would that theory comport with how local and foreign currency debt tend to be rated.

Aside from these dubious (imho) arguments that the US can happily monetize debt, and the occasional “dude, these NRSROs didn’t even get easy things like synthetic cdo squareds right, they’re worthless” (more dubious), I haven’t seen any good reason to take S&P’s action as humorous.

In fact, it’s rather ominous, like the mushy flight controls and slight buffeting that warn you of an impending stall. Take action now, and it’s easy to correct. Wait, and the recovery will require considerably greater skill.

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Daniel 04.20.11 at 1:01 pm

In fact, it’s rather ominous, like the mushy flight controls and slight buffeting that warn you of an impending stall

It is more like a panicky knobber shouting “we’re going to crash! we’re going to crash!” during an utterly normal takeoff.

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Walt 04.20.11 at 1:01 pm

I don’t endorse the theory. Apparently Galbraith does. (I don’t even know if my summary is accurate.)

The warning is humorous because what does S&P know about the credit-worthiness that a well-informed investor doesn’t? Nothing. The only way you can argue they know something we don’t is if they have superior ability in analyzing public data, which is why people bring up their highlights from the Great Analyst Failures in History reel.

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Walt 04.20.11 at 1:02 pm

I like to shout “we’re going to crash” on every flight, because I know one of these days I’m going to be right, and won’t I look smart to the other passengers then.

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ScentOfViolets 04.20.11 at 1:14 pm

Based on my extensive reading of MMT (fifteen minutes of blog browsing, plus reading one whole PDF), I think they already view Zimbabwe proving their theories. Governments face a budget constraint in terms of foreign-currency debt, but don’t face a budget constraint in domestic-currency debt (since they can monetize). If the first budget constraint binds, then they will have to take advantage of the lack of a second budget constraint, and inflate.

Yet another linear programming problem. Which, to a first approximation, all economics theorizing reduces to. ;-)

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Gabriel 04.20.11 at 1:33 pm

Sorry guys, did not mean to take over the thread. But read back and see how this all got personal. Galbraith made a ridiculous assertion, that to even consider that the US could default was laughable. OK? That was the starting point. And all he offered as an explanation was that countries with debt in their own currency can’t default. And I offered plenty of counterexamples.

Note that my argument and Galbraith’s (and studentee’s) are not symmetrical. I happen to think that the idea that the US Fed will follow Zimbabwe’s example is bonkers. But my argument does not depend on that possibility being zero. Yet Galbraith’s argument is that the possibility of the US Fed not providing unlimited dollars is zero. He allows no room for alternative explanations.

And here is where the epistemological closure steps in. Look at memeorandum and you find a whole bunch of bloggers all agreeing with each other that S&P’s step was laughable. And the next step, of course, was to surmise some secret conspiracy behind all of this. It reminds me of conservatives and climate change.

The bottom line is that, yes, the US could default, although that is highly unlikely today. And I would argue that Galbraith’s laughter tells us more about himself than about actual default probabilities.

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Gabriel 04.20.11 at 1:39 pm

Daniel, Walt:

Ratings are simply a rank ordering of credit risk. By placing the AAA on a negative outlook S&P is not saying “we are going to crash”. It’s simply saying that when you look at all the countries in the world that are rated it ma be the case that the US is not among the very, very top in terms of credit. A move to AA+ would still leave an almost zero probability of default but would indicate that it was not as good as Singapore, say. To use the airplane analogy it’s saying that this might no longer be the safest flight in the world. although it is still very, very safe.

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Daniel 04.20.11 at 2:03 pm

Galbraith made a ridiculous assertion, that to even consider that the US could default was laughable. OK?

It is laughable though. It involves a set of affairs in which the USA has a worse political and economic outcome than Zimbabwe. When pressed on the matter, btw, JG and Dean Baker both do agree that in a Zimbabwe-like situation the USA would most likely default, due to the complete political collapse that would have had to have taken place. But but but … there’s a nonzero probability that everyone is lying and Obama was born in Kenya – does that mean that Birtherism isn’t laughable? The USA’s main intelligence organisation has, as a matter of fact, actively considered the possibility of killing its own citizens in a false flag operation – does that mean we need to take Truthers seriously? I mean, look at your next …

Ratings are simply a rank ordering of credit risk […] A move to AA+ would still leave an almost zero probability of default but would indicate that it was not as good as Singapore, say

Which is a clearly crazy rank ordering. Singapore has loads more failure modes than the USA does (if only because it isn’t the world’s greatest military power), roughly the same debt/GDP ratio and a much more open economy (so devaluation of the S$ would cause more political problems quicker). There is a track record of S&P screwing this up by the way; Japan lost its AAA in 1998, while Ireland was raised to AAA in 2001. In fact, between 1998 and last year, S&P rated Ireland less likely to default than Japan.

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ajay 04.20.11 at 2:10 pm

137: shorter dsquared: just because something has a nonzero probability of being true does not mean it isn’t laughable.

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chris 04.20.11 at 2:11 pm

Galbraith made a ridiculous assertion, that to even consider that the US could default was laughable.

I smell straw.

Galbraith said the US can’t be forced to default because it can monetize, and predicted that it won’t default even in the event of debt ceiling shenanigans because monetizing is obviously less bad. He might be wrong about the latter (monetizing IS obviously less bad but it doesn’t necessarily follow that the US will do it), but it’s not ridiculous.

The fact that you have to rewrite Galbraith’s argument to make it look ridiculous suggests that you don’t have a counter to Galbraith’s real argument. The fact that you’re *willing* to rewrite Galbraith’s argument and argue against straw-Galbraith instead suggests that you’re not worth engaging with.

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Daniel 04.20.11 at 2:18 pm

Actually, “to even consider” the situations in which the US could default isn’t particularly laughable, but having considered them, the result should be “no, I won’t publish a piece of research with my name on it saying that I think the USA might default, that will damage my credibility at a time when it is not very well placed to stand the knock. Maybe instead of that I’ll spend the time trying to make sure that I don’t accidentally give Iceland a better credit rating than India”.

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Tim Wilkinson 04.20.11 at 2:18 pm

Gabriel: here is where the epistemological closure steps in. Look at memeorandum and you find a whole bunch of bloggers all agreeing with each other that S&P’s step was laughable. And the next step, of course, was to surmise some secret conspiracy behind all of this

Can you elaborate on why you consider that the progression to conspiracy theory was a matter of course?

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ejh 04.20.11 at 2:24 pm

there’s a nonzero probability that everyone is lying and Obama was born in Kenya

Can we properly talk of probabilities in relation to past events, which have either happened or have not?

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Walt 04.20.11 at 2:27 pm

Gabriel, assuming good faith on your part, you should assume good faith on our part. Nobody woke up this morning and said “Today I will defend Galbraith, or die trying.” In so far as you can find a ridiculous statement by Galbraith, no one wants to defend that statement. The argument that your interlocutors want to have is on whether the US is among the most credit-worthy countries in the world, and why.

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Tim Wilkinson 04.20.11 at 2:42 pm

Can we properly talk of probabilities in relation to past events, which have either happened or have not?

Yes, if we are willing to use 1 and 0 OR more importantly if we are talking about epistemic/subjective/relative probability (very roughly, probability relative to an info set in which not all truths – or not all truths about the past – are included). Incidentally, I would suggest that in fact objective probability is definable as a special case of this kind of probability – probability relative to all facts about the past (and timeless facts like laws of nature).

The way the question is phrased seems to rule out the possibility facts about the past might actually change, which is fair enough.

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Daniel 04.20.11 at 2:47 pm

Can we properly talk of probabilities in relation to past events, which have either happened or have not?

Pete & Berni’s Philosophy Steakhouse is closed for the evening, I’m afraid … I don’t see why not really, in mathematical terms; it seems like a useful thing to be able to do. If it bothers you, then I can an implicit “that we discover at some future date that there is compelling evidence to believe that X happened in the past” to clean it up.

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Gabriel 04.20.11 at 3:11 pm

Daniel,

The fact that you have a different rank ordering in mind does not mean that S&P should agree with you. Sorry, but I know you know economics but I doubt you’ve done the hard work of rank ordering 100+ countries and trying to balance wildly different political, economic, and financial situations. You think Singapore is always better than the US as a credit. Great. Others will have a different view. Note that not even all the rating agencies agree among themselves. But pretending that those that have a different rank ordering are laughable is, well, laughable. Sorry for that pun.

As for India vs Iceland, or any other such comparison, recall that ratings are probabilities and so can’t be proven right or wrong based on a single case. Look at the historical default studies published by the rating agencies. You might be surprised at how good they are at rank ordering sovereign risk.

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James Wimberley 04.20.11 at 3:15 pm

To go back to the question: why should hitting the debt ceiling (instant pay-as-you-go budget balancing) lead rapidly to debt default (not paying the interest and redemptions on debt)? I assume the former means that the budget spending authorisations are moot, and the executive acquires total discretion where to spend the receipts than come in, day to day. Aren’t they going to close down Medicare and military contracts, starting with Republican districts, before they default on the debt? I would expect a political and social crisis before a financial one. Not clear why Geithner hasn’t yet shown Congressmen the instruments.

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Barry 04.20.11 at 3:28 pm

Andrew 04.20.11 at 1:19 am

“Barry @32 (and others): That the agencies got some important things wrong on various structured products doesn’t mean that all their opinions now lack expertise, or that we can shrug them off as silly.”

‘Some things wrong’ = how many hundreds of billions of $US of AAA securities turned out to be junk bonds? As for expertise, I don’t dimiss that, or shrug them off as silly.

They were clearly committing fraud on a collossal scale in returns for payments from Wall St. It’s not their expertise I dismiss, but their honesty.

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Sev 04.20.11 at 3:31 pm

“It’s not their expertise I dismiss, but their honesty.”
And which seems at issue in the present case as well.

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Oliver 04.20.11 at 3:38 pm

Why does it matter to an investor whether the US defaults or inflates away the debt? You either get a haircut or are payed with greatly diminished dollars. Either risk I’d like to be warned about as an investor.

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Gabriel 04.20.11 at 3:41 pm

Walt,

I’m willing to assume good faith but I have to see it. Galbraith said something patently ridiculous. He didn’t say he had himself rank ordered all countries by risk and reached the conclusion that the US should be at the top of the heap. He simply asserted that the US should always be AAA and that to even consider something different was laughable. and then, in this thread here, when i pointed out the many examples that contradicted Galbraith’s point I kept getting increasingly weirder responses, culminating in the idea that the US Fed would somehow behave like Zimbabwe.

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Henri Vieuxtemps 04.20.11 at 3:43 pm

Singapore has loads more failure modes than the USA does (if only because it isn’t the world’s greatest military power)

But Singapore is politically stable, while the US is all fucked up; shouldn’t it count for something too? The USSR was a great military power too, shooting mujahideen in Afghanistan from helicopters like fish in a barrel too, and then, one day, just like that…poof…it was gone.

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Gabriel 04.20.11 at 3:46 pm

Tim,

Once the possibility that S&P reached its conclusion through proper analytical means was ruled out by bloggers it meant they had to be either stupid or evil. Given ideological preferences most bloggers that commented on this appear to have opted for them being evil, and part of a conspiracy.

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Daniel 04.20.11 at 3:46 pm

It needs to be emphasised, by the way, that the USA credit rating is an unsolicited rating. Since the USA doesn’t borrow material amounts on the international markets (other people come to the USA for the privilege of buying its debt), and since nobody in their right mind has any question of the creditworthiness of the USA, they’ve never really seen the value in paying S&P a fee to have their credit rated. S&P’s decision to issue a rating nevertheless is intended as a publicity stunt, to bolster their credibility by demonstrating their analytical prowess to the world.

Of course it only works if people care more about S&P’s opinion than their lying eyes (ie, if S&P moves the market, or if people regard S&P as having better information or analysis than the market in general). For that reason, the massive MBS/CDO failure, and the massive Ireland and Iceland failures, and the scandal of the muni/corporate rating inconsistency, do actually make a difference in assessing the credibility of the USA outlook change. This would have been a very questionable move even if it had some effect and the T-Bond yield had risen – given what actually happened it’s a painful embarrassment.

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Daniel 04.20.11 at 3:50 pm

to have opted for them being evil, and part of a conspiracy.

Gabriel, would you mind moderating the language a bit? Words like “evil” and “conspiracy” invariably generate more heat than light and absolutely invite accusations of arguing against straw men.

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Gabriel 04.20.11 at 3:52 pm

Unsolicited simply means that the country doesn’t pay for the ratings, not that they see no value in them.

To measure how good ratings are you need to look at historical default and transition studies, not single cases however much in the press they may be. And the studies show the rating agencies have a pretty good record in rank ordering sovereign credit risk.

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Walt 04.20.11 at 3:56 pm

Gabriel, if you really want to argue with Galbraith, I suggest you email him or something.

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Gabriel 04.20.11 at 3:58 pm

Gabriel, would you mind moderating the language a bit? Words like “evil” and “conspiracy” invariably generate more heat than light and absolutely invite accusations of arguing against straw men.

Sure, I was just responding to Tim’s question. A quick look a bunch of blogs and their comments shows that a lot of people think this is part of a conspiracy. Dean Baker, for one, floated the idea that S&P did this in hopes of influencing the Franken amendment. I was already beginning to discount the CEPR due to Weisbrot’s writings on Argentina and Venezuela, but this just adds to that particular fire.

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Gabriel 04.20.11 at 3:59 pm

Gabriel, if you really want to argue with Galbraith, I suggest you email him or something.

Er, No. This is an open blog and I was responding to the post.

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Daniel 04.20.11 at 4:07 pm

Perhaps so, but we’re not talking about “how good ratings are” (in which case I’d point out that “a pretty good record in rank ordering sovereign credit risk” is retropicked from the agency coverage universe – they had “a pretty good record in rank ordering credit risk” in general before the CDO disaster destroyed it). We’re talking about this specific case – whether it would make any sense to have any rating other than AAA on the United States of America.

I’d also note that “the historical track record” seems to be a nonstationary series here; however good the ratings agencies were in the Asian crisis of 1997, they have had massive migration failures in Iceland and Ireland and not much better outcomes in Greece , combined with a no less embarrassing period of irrelevance in Japan.

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Walt 04.20.11 at 4:09 pm

Right, the post uncritically endorses everything Galbraith has ever said on the subject. I need to learn to read more carefully.

For the non-Gabriel members of the commentariat: isn’t the idea that the ratings agencies are somewhat corrupt a fairly-common view on Wall Street? I’ve met multiple people who thought it well before the financial crisis. It doesn’t even require a conspiracy theory, just the idea that ratings agencies respond to incentives. Certainly, nothing we’ve learned over the crisis mitigates against this view.

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Daniel 04.20.11 at 4:09 pm

Dean Baker, for one, floated the idea that S&P did this in hopes of influencing the Franken amendment

The idea that a company might attempt to influence a piece of legislation that would hugely damage their business is hardly an accusation of “evil” or a “conspiracy theory”. If you think that to entertain the possibility that the USA will default is serious, but that to entertain the possibility that a media company might slant its coverage politically for very large commercial gain is laughable, you’ve got an odd sense of humour.

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chris 04.20.11 at 4:15 pm

Why does it matter to an investor whether the US defaults or inflates away the debt? You either get a haircut or are payed with greatly diminished dollars.

IANA economist, but my understanding is that monetizing the deficit would increase the money supply, but that wouldn’t necessarily lead to inflation in the context of a zero-lower-bound economy with significant unused productive capacity.

To extend the “crying fire in Noah’s flood” analogy, it would be like setting fire to waterlogged wood; the heat will go first into drying out the wood, and only then will it catch fire. Things that would be a fire hazard in a dry-wood environment are much less of a fire hazard, or not one at all, when all the wood is wet.

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Gabriel 04.20.11 at 4:18 pm

Daniel,

Not sure about my sense of humor. But I do know that the people in a rating agency that care about the Franken amendment (ie senior management) and the people that decide the rating are two completely different groups. So forgive me, but I think Dean Baker has gone off the deep end on this one.

As for the particular case of the US, well other rating agencies have kept them at AAA. And many market participants, quoted by the FT, think the US should have lost its AAA a long time ago. So there are plenty of varying opinions.

Walt,

Corrupt? Ask any investor how much they would pay if they could get advance warning of rating changes, ahead of the market. And then try to find out how many rating agency analysts have been accused, much less found guilty, of insider trading. Compare with other financial institutions.

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Daniel 04.20.11 at 4:28 pm

But I do know that the people in a rating agency that care about the Franken amendment (ie senior management) and the people that decide the rating are two completely different groups

If you’re asserting the independence of agency analysts, then I really do think that the CDO ratings scandal has been officially brought on topic.

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chrismealy 04.20.11 at 4:28 pm

Daniel, you got me into Paul Davidson and PK a couple of years ago, and since then I’ve been waiting for your judgment on MMT. Actually I gave up on MMT about a month ago after Bill Mitchell wrote the exact same post 100 times in a row (I’ve moved on to Steve Keen’s neo-Leontiefism). The MMT crowd are all tedious as hell and I don’t care if they’re right anymore (this doesn’t include Galbraith, he’s a great writer and full of surprises). I only with you’d announced your perfectly sensible position on MMT a year ago and saved me the trouble.

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Gabriel 04.20.11 at 4:35 pm

If you’re asserting the independence of agency analysts, then I really do think that the CDO ratings scandal has been officially brought on topic.

Wait a second, now we are mixing apples and oranges. It’s one thing to talk about how close CDO analysts got to the market. We can have that debate if you want but you’d have to explain why monolines behaved the way they did. But it’s quite another to claim that the analysts that cover sovereigns decided to send a message to the US government, as Dean Baker implies. That’s just silly, and it shows Dean Baker has no inside knowledge of how this works. If Dean Baker and the CEPR want to create their own rank ordering, by all means they should do so. Although after what Weisbrot wrote on Argentina defaulting it tells me they have a lot to learn.

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ajay 04.20.11 at 4:42 pm

I do know that the people in a rating agency that care about the Franken amendment (ie senior management) and the people that decide the rating are two completely different groups. So forgive me, but I think Dean Baker has gone off the deep end on this one.

Not to get unnecessarily aggressive, but if your argument is that S&P senior management clearly has no ability to dictate or even influence what more junior S&P employees do in the course of their jobs, then I know who’s gone off the deep end here and it’s not Baker.

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Daniel 04.20.11 at 4:46 pm

Gabriel, you’re saying that it’s “one thing” to talk about how CDO analysts got captured and pressured into shaping their rating judgements because of conflicts of interest, but it’s “quite another thing” to talk about how sovereign analysts working for the same firm might have been so pressured. This isn’t mixing apples and oranges; it’s mixing oranges with particularly large tangerines.

As it happens, I know a couple of people who went into the sovereign ratings departments at about the time I went into stockbroking, and I do agree that there is a somewhat different culture among sovereign credit analysts – also they don’t have the same production-line pressures that structured finance did. I personally think that the USA outlook change was just a silly bit of hubris from an organisation that still massively overestimates its own importance.

But to say that this is an absolutely crazy hypothesis? In the context of your defending the view that the USA might default on its debt as a reasonable speculation?

Brass tacks here, man. How much of your own money would you bet, at market odds, on the proposition “No evidence will ever come to light that inappropriate pressure was put on the S&P sovereign rating analysts for political reasons?”. And is it more or less than you would bet on “The United States of America will not default on its debt at any time in the next fifty years?”. If you’re prepared to agree to a reasonable collateral servicing agreement, we might have a trade here.

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Alex 04.20.11 at 5:35 pm

Regarding whether something with a nonzero probability of truth can be laughable, surely the point here is that there’s a hell of a lot of probability space before you actually get to zero. The probability of all the atoms in my laptop suddenly moving in the same direction is not zero. It can be treated as such for all practical and most theoretical purposes, and anyone who thought I should be worried about it would be laughable.

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Paul 04.20.11 at 7:34 pm

@Gabriel

see http://www.minneapolisfed.org/publications_papers/pub_display.cfm?id=3629

Pay particular attention starting with the third paragraph.

Paul

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AB 04.20.11 at 7:36 pm

@Gabriel 102 Your counterargument is that having foreign currency debt somehow reduces the ability of a central bank to print money, yet you never explain why

@Andrew 130 The theory you endorsed above seems to predict that local-currency debt will be defaulted on only in cases where holders of foreign-currency debt force it

I know this part of the debate now seems to date from an earlier, gentler time, when living came easy and neighbors were friends, but here goes. I suggested neither of the arguments above. My point is that where monetizing the debt is not possible, because a substantial proportion of it is foreign currency-denominated, a government is very much more likely to default. At this point it faces the question whether to default on local, foreign or both. Its choice will depend on how it thinks the domestic and foreign investor base will react and how much it needs them.

Thus it is quite possible that it will default on local currency debt and not on foreign, because it considers local investors captive and wants to prioritise foreign currency creditworthiness. And yet its decision to default on *someone* was driven by the existence of foreign-denominated debt. It could not simply have monetised domestic debt because that would risk driving down the exchange rate and hence increasing the value of foreign currency debt to the point where the sovereign was insolvent. The presence of foreign debt doesn’t prevent the central bank printing money, but it does prevent it escaping the debt problem by so doing.

The circumstantial evidence in favour of this argument is that, AFAIK (and if Gabriel has been looking, he hasn’t found one yet) there are no examples of a country that borrows only in its local currency defaulting on that sovereign debt. I will desist from entertaining further discussion on this topic until someone can find one.

(BTW: DD raises the interesting case of debt that is written in local law but denominated in a foreign currency. Thus, for example, although Greece has only minimal control over the currency in which its debt is denominated, over 90 per cent of it is written under Greek law and could simply be amended by legislation if required, though obviously this would raise the odd eyebrow in Frankfurt.)

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Paul 04.20.11 at 7:42 pm

Oh hell, he may not share…

bq. Let me begin with a nation’s sovereign credit rating. When there is confidence in the integrity of government, monetary authorities—the central bank and the finance ministry—can issue unlimited claims denominated in their own currencies and can guarantee or stand ready to guarantee the obligations of private issuers as they see fit. This power has profound implications for both good and ill for our economies.

bq. Central banks can issue currency, a noninterest-bearing claim on the government, effectively without limit. They can discount loans and other assets of banks or other private depository institutions, thereby converting potentially illiquid private assets into riskless claims on the government in the form of deposits at the central bank.
That all of these claims on government are readily accepted reflects the fact that a government cannot become insolvent with respect to obligations in its own currency. A fiat money system, like the ones we have today, can produce such claims without limit. To be sure, if a central bank produces too many, inflation will inexorably rise as will interest rates, and economic activity will inevitably be constrained by the misallocation of resources induced by inflation. If it produces too few, the economy’s expansion also will presumably be constrained by a shortage of the necessary lubricant for transactions. Authorities must struggle continuously to find the proper balance.”

Alan Greenspan, Economic Symposium sponsored by the Federal Reserve Bank of Kansas City in Jackson Hole, Wyo., Aug. 29, 1997

Paul

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Pete 04.20.11 at 8:01 pm

You don’t think anyone might have an interest in talking up the default risk to increase bond yields from their current barely-better-than-cash level?

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Gabriel 04.20.11 at 8:11 pm

Daniel,

First, I don’t buy that CDO analysts got captured. It was much more complex than that. Glad to have that debate if you want. But sovereign ratings went through no such problems. Contrary to what Dean Baker and others claim the actual historical record of sovereign ratings is pretty good. If Baker thinks he can do a better job, I’d love to see him try. Sniping from the sidelines is always easier. And given the sheer nonsense the CEPR has written about Argentina and default I think he will find it harder than he expects.

If you have friends who do sovereign ratings, ask them what pressures they have. I suspect they will tell you the opposite of what Baker claims, that if anything the pressure has been not to downgrade.

In the end Baker and Galbraith made fools of themselves, and you should not be defending them. Either they claim that the US can never default (silly) or they find it impossible to believe there is any analytical reasoning behind this so there must be some type of pressure or conspiracy (sillier, and paranoid to boot).

The answer is much simpler. Rank ordering credit risk is not easy and it’s not hard science. The people that do this take a lot of stuff into account and then offer their opinion. You can disagree with them and you can ignore them. But what shouldn’t happen is the sheer making stuff up or wild accusations that Baker and others have thrown around.

The problem is that people like Baker now respond to an ecosystem, no different than those that write for the National Review although with a different ideological bias. They know they have to keep the home crowd happy. And that’s what they do.

If Baker wanted to be taken seriously, or if he wanted to level a serious accusation against S&P, he needed to do the hard work of comparing the US to the other AAA countries as well as the AA1 countries (which is where the US would end up if downgraded) and explain why the US clearly belonged in one group and not the other. Did he do that? Did he go though the numbers, and the qualitative factors comparing all these countries and explain this to the world? No, too much work. Much easier to talk about conspiracies.

176

Morb 04.20.11 at 8:51 pm

“I can confirm that although it was “at least one” economist that burst out laughing, it was not “at most one”.”

Since economists have hardly enrobed themselves with glory during the past crisis, perhaps it is laughable that one should think it important that economists burst out laughing about anything?

“since nobody in their right mind has any question of the creditworthiness of the USA”

Nonsense.

““No evidence will ever come to light that inappropriate pressure was put on the S&P sovereign rating analysts for political reasons?”. And is it more or less than you would bet on “The United States of America will not default on its debt at any time in the next fifty years?””

It’s likely that the US would have downgraded much sooner had not the US Congress had legislative power over the ratings agencies. It’s also likely that SP lowered its rating now only because it had assurances from a certain party in Congress that there would be no retaliation. The fact that such an event is more likely than the US will not default on its debt at any time in the next fifty years, is hardly comforting.

177

Tim Wilkinson 04.20.11 at 8:52 pm

Gabriel, thanks for your earlier answer. Can you explain why you think it is paranoid to posit an ulterior motive in this case?

178

Gabriel 04.20.11 at 8:55 pm

Tim,

I find resort to conspiracy explanations, absent clear evidence, lazy and paranoid. It could be just me.

On top of that, for anyone who knows how this particular world works, the idea that a rating agency would decide to send the US government a message on legislation via a change in outlook is ludicrous. But, again, your mileage may vary.

179

Morb 04.20.11 at 9:00 pm

“I will desist from entertaining further discussion on this topic until someone can find one.”

The British defaulted on perpetual bonds in the 1930s by unilaterally lowering the interest rate.

180

john c. halasz 04.20.11 at 9:04 pm

Just to clear up a point, Jamie Galbraith the the MMTers aren’t claiming that a sovereign currency issuer can’t default on debt issued in its own currency. Of course, it can and there are numerous instances of such. But they’re saying that it’s a political decision, not an economic necessity: a sovereign currency issue needn’t ever default. The constraint isn’t default, but rather inflation. So they are claiming that such a government can always deficit spend, if necessary monetizing the debt, in order to generate maximal AD to provide genuine full employment. And when full employment is reached and AD tends to overshoot into inflation? No problem, because the government can simply raise taxes to drain out excess currency. Full employment and increased taxes, after all, will dynamically drive the debt/GDP ratio lower, rather than leading to runaway deficits.

Now the sober moderates amongst you might find this account politically naive and implausible, And, indeed, there are some legal conventions in force, such as the silly notion of a legislated debt ceiling and certain restrictions on the relations between the Fed and the Treasury. But the point is that all this deficit hawkery is political superstition, not economic necessity, (and from the point of view of the working-class populace, horrible policy). The inter-temporal budget constraint based on comp. stat. analysis is fallacious, because it ignores actual dynamics. (And there’s some negative evidence for that claim, in that 10 year budget projections are almost always wildly wrong). Besides which the Fed is de facto monetizing debt, though in largely ineffective ways.

I myself have some problems with what the MMTers say with respect to CA deficits and floating FX rates, but at least one should accurately quote what they say.

181

Gabriel 04.20.11 at 9:08 pm

John,

That’s all very interesting and I may even agree with parts of the theory (although I find it pie-in-the-sky type theorizing). But that’s not what Galbraith said to the journalist that called him. He didn’t say ” Well, in the end it’s just a political decision and I have a different view than S&P”. He just laughed out loud, as if it should be clear to anyone that the US can onlyt be AAA. And that’s where this whole debate started.

182

ScentOfViolets 04.20.11 at 9:22 pm

The fact that you have a different rank ordering in mind does not mean that S&P should agree with you. Sorry, but I know you know economics but I doubt you’ve done the hard work of rank ordering 100+ countries and trying to balance wildly different political, economic, and financial situations.

The structure of your phrasing does not indicate good faith, nor does it indicate that you have a grasp of the issues. A common tell for the former is to cast a dispute as “they just don’t agree with you.” That statement is contentless, and worse, is phrased as if it’s some sort of substantive reply rather than just baldly repeating an observation. Yes, we already know S&P don’t agree. We don’t have to have this pointed out again and again and again.

The other point is this – we already know that S&P missed the boat on perfectly obvious predictions, and to the extent they made any predictions at all, were often wildly wrong. Worse, not only were people with less training, less resources and less money often right where S&P were wrong, this is supposedly S&P’s core expertise.

Iow, we already know that these people, er, underperformed when they supposedly had every incentive not to do so.

So why are you calling into questions Danie’s judgments? Maybe I’ve missed something, but unless you’ve got some evidence of him making mistakes of the magnitude and cost that were the sin qua non of bad financial judgment by top players in the last decade, you’ve got the shoe on the wrong foot.

So the burden of proof is on you to show that they’re better at the prediction business – and when I say “burden”, that means that you can’t simply state this, you’ve got to provide cites and links – than Daniel. In fact, given their track record, you’ve got to show that their considered analysis is worth anything as analysis at all. The fact that you haven’t done so, and give every indication that this has never even entered your mind, calls into serious question your own expertise and scholarship. Sorry, but from where I sit, you don’t look like you have much of that in any department. You certainly haven’t shown it (though you’ve certainly said it.)

You think Singapore is always better than the US as a credit. Great. Others will have a different view. Note that not even all the rating agencies agree among themselves. But pretending that those that have a different rank ordering are laughable is, well, laughable.

Let’s try this one again with slightly different subject to show just how ridiculous a form of argument this is: “You think evolution is an established fact. Great. Others will have a different view. Note that not even all the creation scientists agree among themselves. But pretending that those who have a different idea of how modern life arose one Earth are laughable is, well, laughable.

Hmmm. Seems like a pretty laughable form of argument if you ask me. One last thing you might want to consider: you sound to my ear as if you are rather . . . young.

183

Gabriel 04.20.11 at 9:24 pm

scent my friend, I can only wish I was that young!

184

Walt 04.20.11 at 9:29 pm

Didn’t you laugh when you heard the news? I know I did. Because it’s funny. Honestly, the idea S&P is deliberately inserting themselves into the political process is the more flattering explanation.

185

john c. halasz 04.20.11 at 9:32 pm

2177:

Galbraith wasn’t the only one that “laughed”. Lot’s of informed people did, mostly not MMTers, (e.g. Krugman). Because they don’t think an agency’s ratings are of much, if any, relevance, to the “solvency” of U.S. government debt or the interest rates paid on it.

186

ScentOfViolets 04.20.11 at 9:36 pm

If it bothers you, then I can an implicit “that we discover at some future date that there is compelling evidence to believe that X happened in the past” to clean it up.

Caving in to the Bayesians, eh? And here I thought you were a Frequentist in good standing.

Somewhat more seriously, often times the question is not about the events that have already occurred, it is what they reveal about the underlying probability distribution: flip a coin twenty times it comes up heads twenty times. Is this evidence against a binomial distribution and for something else?[1] Or to give it a little more context: “Justbecause the Players were wrong the last 20 times and the DFH’s were right the last 20 times doesn’t mean the latter are more competent; they just right by accident. The Very Serious People were wrong, but they were right to be wrong.

Where have I heard that before ;-)

[1]I know you know this, of course, and I’m guessing that most other commenters do as well. I’m just making the notion explicit.

187

Gabriel 04.20.11 at 9:38 pm

Lots of people may have laughed. Whether they are informed, well, that’s open for debate. But these are mostly people in the periphery of the action. Those in the markets or working for the government did not laugh.

Krugman and Galbraith may not care what S&P says and that’s OK. But plenty others do.
But what’s important, especially for professors, is not to make things up, like claiming that the US can only be AAA. Or wild conspiracies like Baker is spouting.

Saddest part? I suspect, based on personal experience, that if you ask people like Galbraith to define what a rating is they don’t even know how to.

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ScentOfViolets 04.20.11 at 9:41 pm

scent my friend, I can only wish I was that young!

Shrug. Most of the people I know stopped making rookie mistakes of the sort you’ve been making here before they entered grad school. Doesn’t mean you aren’t seventy and you just don’t know better. But the effect is to make you seem a bit on the young side.

In any event, where’s your evidence that S&P performs as well as Daniel when it comes to this sort of prediction? That much-needed evidence seems awfully thin on the ground, and I think it behooves you to supply some.

189

Gabriel 04.20.11 at 9:42 pm

scent, look up the default and transition studies. You’ll learn a lot.

190

john c. halasz 04.20.11 at 9:43 pm

191

Gabriel 04.20.11 at 9:48 pm

192

ScentOfViolets 04.20.11 at 9:52 pm

scent, look up the default and transition studies. You’ll learn a lot.

Rookie mistake. You actually have to supply some evidence, not dare me to go look it up. Now, I’ve quoted you once already, but I have no problem doing so again:

The fact that you have a different rank ordering in mind does not mean that S&P should agree with you. Sorry, but I know you know economics but I doubt you’ve done the hard work of rank ordering 100+ countries and trying to balance wildly different political, economic, and financial situations.

I repeat: where is your evidence that Daniel performs as poorly as we already know S&P has? And, don’t take this personally, but what does doing “the hard work of rank ordering 100+ countries and trying to balance wildly different political, economic, and financial situations. ” have to do with anything? I’ve had my students do lot’s of hard work on the problems I’ve assigned them. They’re to be lauded for that; but merely doing hard work doesn’t mean that their work is correct. In fact, far from it. So where is your evidence that all this “hard work” is actually worth anything, as opposed to being fraught with error?

Or are we supposed to implicitly assume (as apparently you want us to) that this hard, hard work is beyond question or reproach?

193

Jonathan Hopkin 04.20.11 at 9:55 pm

Ratings agencies are incompetent, US Treasuries still have buyers, the Fed is as independent as you can be from the people who appointed you, the US doesn’t have an imminent inflation problem, the US doesn’t have any foreign-denominated debt, nor is it likely to have any.

As far as I can see these are uncontroversial statements, and reasonable grounds for laughing at S & P, if you’re in a good mood.

194

Gabriel 04.20.11 at 9:55 pm

scent, Daniel doesn’t do sovereign risk ratings, so there’s no way to compare him to S&P. or if he does them he doesn’t publish them.

195

David 04.20.11 at 10:00 pm

I don’t see how this isn’t trolling. The repeated “but weisbrot Argentina nonsense!” interjections seem like the definition of trolling. As is the “but he laughed!” repetition. And the repeated assertions of expertise. It’s patented trolling, I say,

196

dsquared 04.20.11 at 10:39 pm

Look, this is the sort of thing Taleb wrote about. Trying to rank order the default risk of the USA versus UK versus Singapore isn’t a “difficult” task for which people should be given credit. It’s a “ridiculously pointless” exercise, for which people should be roundly mocked in the hope that they’ll stop running around with their mothers’ stockings on their heads pretending to be Bond Market Vigilantes. On all the relevant points of economics, Galbraith and Baker are right, and so Gabriel’s objection seems to be that “well, some Black Swan might happen, so S&P might turn out right, so their prediction should be taken seriously”. But the whole point of Black Swans is that you can’t say anything sensible about their likelihood, so this is still a laughable exercise.

On the one occasion I have ventured into country risk analysis, I said that Ireland was heading for a property crisis. I was hardly alone in saying so at the time (2006 I think), but Ireland was AAA at the time so I am 1 for 1 in head to head matches.

I agree that the jibes at Mark Weisbrot (who is neither on topic nor here to defend himself) and the “conspiracy theory” designation (which I have already asked you to quit) are tiresome, and I am now formally asking you to knock it off with respect to both of them.

197

Gabriel 04.21.11 at 12:02 am

Trying to rank order the default risk of the USA versus UK versus Singapore isn’t a “difficult” task for which people should be given credit. It’s a “ridiculously pointless” exercise, for which people should be roundly mocked

Hmm.. you should have said this at the beginning, would have saved a lot of time. Rank ordering default risk is a big enterprise, something all major financial institutions do, as do central banks and investors, and something that is baked into financial regulations. Rating agencies are but a small part of this effort (even though they are very visible). But you think it’s all ridiculously pointless! Given that, debating whether the US is AAA or AAA with a negative outlook is pointless, no?

198

ScentOfViolets 04.21.11 at 12:29 am

scent, Daniel doesn’t do sovereign risk ratings, so there’s no way to compare him to S&P. or if he does them he doesn’t publish them.

Excuse me? There’s no way to compare him to S&P? You have, repeatedly. In fact, that’s where I popped up. Here, I’ll quote you again:

The fact that you have a different rank ordering in mind does not mean that S&P should agree with you. Sorry, but I know you know economics but I doubt you’ve done the hard work of rank ordering 100+ countries and trying to balance wildly different political, economic, and financial situations.

Looks like you’re saying he’s just not as competent as the august business you’re defending because he hasn’t done all that hard, hard work.

That just doesn’t follow. And while I don’t particularly care how much hard work (or how little) someone puts into a problem; I do tend to be rather more concerned that they’ve come with a good solution to the problem itself.

Please, don’t tell me you really didn’t know this. Or that your standard is “hard work” instead of “being right”.

So let me ask again, since you keep ducking: what evidence do you have that Daniel’s predictions are worse than S&P’s? Having known him for a number of years (or at least, followed what he’s written) he tends to be right a lot more often than he isn’t when doing this type of analysis. He also – cough! – is pretty good about providing cites and documentation for his arguments without prompting. He does the proper scholarship thing, Iow. You, quite frankly, have not.

199

Gabriel 04.21.11 at 12:31 am

scent, given #192 it’s all kind of moot. Maybe we should talk about the weather?

:)

200

Puzzled 04.21.11 at 12:35 am

I have a slightly different question, although I think it’s on topic. The Constitution says (article 4 of the 12th Amendment):

“4. The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned. But neither the United States nor any State shall assume or pay any debt or obligation incurred in aid of insurrection or rebellion against the United States, or any claim for the loss or emancipation of any slave; but all such debts, obligations and claims shall be held illegal and void.”

Is everyone assuming this is irrelevant, perhaps because it’s unenforceable?

201

James B. Shearer 04.21.11 at 12:54 am

136

Ratings are simply a rank ordering of credit risk. …

So why aren’t they given in that form? As I advocate here

202

ScentOfViolets 04.21.11 at 12:57 am

Well, no, it’s not moot. You made some rather dicey claims that also went against accepted evidentiary standards . . . and contradicted yourself to boot.

Would it be too much to ask to just admit that you had absolutely no evidence for those claims I quoted you on? Given your claims of expertise and professionalism, I’d think you’d be very quick to say that this is the case.

See, yet another marker for bad faith and or trolling is the hide-bound determination to never give ground or acknowledge a loss (or whatever competitive metaphor is uppermost in the malefactors mind) or error in the greatly mistaken belief that adds stature or credibility. Whereas every real professional knows that such behaviour just makes him look . . . unprofessional.

So. Are you going to retract those claims about Daniel’s relative competence as compared to S&P? Or are you going to keep foolishly insisting that “it’s a draw.” Your prerogative, of course.

Incidentally, you’re making yet another mistake vis a vis Daniel’s claims that indicates to me that you have no statistical training: he didn’t say such activities or ratings are necessarily incorrect. He said they’re pointless. There’s a good reason for that terminology. Read my response to D^2 where I mention the underlying probability distributions.

203

Gabriel 04.21.11 at 1:14 am

James,

Not sure I follow you, ratings are reported as a rank ordering.

204

Andrew 04.21.11 at 2:12 am

Let’s stop for a moment.

S&P isn’t alone in rating US sovereign debt, or in providing outlooks. This isn’t some whacky endeavor by a rebel NRSRO.

S&P stood out here by breaking from the pack and changing the outlook on the current rating to negative.

Sovereigns have defaulted on LC debt, FC debt, and both kinds of debt at once. The discussion as to the differences is largely an interesting tangent.

There are two types of arguments that S&P’s outlook change is laughable in the comments.

First is “this is a ratings agency; they got it all wrong on structured products; their opinions are worthless!” But their ratings are vital in a wide variety of transactions, and in governing a large amount of investment activity. A large number of guarantees, and other agreements, are tied to ratings activity. So people with skin in the game take them fairly seriously. Deciding to dismiss them as simply laughable is like listening to the opinion of a NASA engineer, and then snorting “well you couldn’t even anticipate an O ring freezing.” Snort away if you want from the spectator area, but the astronauts are going to listen.

Second there is “a US default is so incredibly unlikely that it’s ridiculous for S&P to even talk about whether it becomes more likely.” And that argument is silly as well. S&P is comparing the US to the rest of the peer group at its current rating. What S&P is talking about is the comparison of the US to its peer group, and the possibility that the US may not compare as well if changes are not made.

So, look, it’s just not funny stuff when the S&P decides that if the US Government can’t get a plan together in two years, then the USG might be just a little less safe than some of the other super-safe sovereigns out there.

Daniel, this isn’t a nutty passenger scared to fly who is complaining about a weird tremor in his seat on takeoff. This is an expert calmly talking to two experts with skeptical looks on their faces about the probability that some maintenance work might not occur, and whether this super-safe airplane might then become slightly less super-safe than other super-safe airplanes a few years later.

It’s a warning indicator, that’s all. It’s fixable, but the argument – the 18 ton brooding gorilla in the room – that the US fiscal situation needs fixing, is the ultimate justification for the warning indicator.

If that argument is frivolous, then so is the indicator; laugh away. But this is an expert making the argument, and it looks like a reasonable one. Personally I think the warning indicator should be well taken.

And hey one more thing: I obviously enjoy discussion and argument, and don’t mind the occasional elbow, but let’s all be careful not to get drawn into pointless pissing matches. This is an interesting discussion. Let’s keep it that way.

205

CBrinton 04.21.11 at 2:22 am

Gabriel: “I don’t buy that CDO analysts got captured. It was much more complex than that. Glad to have that debate if you want. “

I would be quite interested in hearing what else happened to bring about the wildly incorrect ratings issued on CDOs.

As I understand it, these ratings were issued on the basis of information supplied by the issuers that (a) was laughably incomplete and (b) was known to be laughably incomplete by the raters themselves. From what I have read, the rating agencies also gave the CDO issues access to their own ratings algorithms, allowing the issuers to game the ratings as much as possible.

To me, this looks like a classic case of something extremely similar to regulatory capture (the ratings agencies are not precisely regulators, but play a similar role).

I have not yet come across another explanation (an oddity, in retrospect, given the number of ‘contrarian’ journalists normally eager to explain how the failings of rich and well-connected people aren’t really so bad), and I would be interested in a several-paragraph explanation from Gabriel of what the other complexities were.

206

AB 04.21.11 at 2:27 am

Morb @179 Seriously, not that perpetual bonds bollocks again. How many times?

http://www.ft.com/cms/s/0/4937a924-2a51-11df-b940-00144feabdc0.html#axzz1JoAfL0LW

207

James B. Shearer 04.21.11 at 2:44 am

203

Not sure I follow you, ratings are reported as a rank ordering.

I was under the impression that ratings were reported as letter grades AAA, AA etc.

208

Gabriel 04.21.11 at 2:50 am

James, correct, but each letter grade corresponds to an increasingly higher, or lower, risk of default. So a AAA is deemed to have less risk of default than a AA and that in turn less than an A. Historical default studies can the tel what the (historical) probability of a default is. For example that an A-rated security might have a 2% probability of default over 5 years. And so on. But those probabilities are not part of the formal definition, meaning that, in this example, the rating agencies don’t define an A rating as a 2% probability of default.

209

Gabriel 04.21.11 at 2:53 am

CBrinton,

I don’t want to create a separate subthread on this. Very briefly my point is that there were several factors at play including more rating agencies (that allowed ratings shopping), historical data that turned out to be not as applicable as expected, a crisis much worse than any model had forecast, and, yes, elements of ‘regulatory capture’. The ratings shopping was a particularly big problem.

210

CBrinton 04.21.11 at 3:18 am

Gabriel: [on CDO ratings] “The ratings shopping was a particularly big problem”

How is that not regulatory capture? The shopping wouldn’t be a problem unless at least one agency was willing to serve the regulated rather than the supposed audience.

211

James B. Shearer 04.21.11 at 3:29 am

208

James, correct, but each letter grade corresponds to an increasingly higher, or lower, risk of default. So a AAA is deemed to have less risk of default than a AA and that in turn less than an A …

This is not the same thing as a rank order which would rank all the securities in a group from best to worse. So you could see differences within classes like AA and it would be clearer that there may be little difference between the best AA and the worst AAA. As I argued in the link in my original comment this would alleviate a number of problems like grade inflation (just as class rank can be more meaningful than gpa) and the tendency to design structured securities to lie on the bottom edge of rating classes.

212

Gabriel 04.21.11 at 3:42 am

James,

The rating scale has 21 notches. That’s it. And the bottom 4-5 are sort of reserved for debt in default. So that leaves you with a possible 16 notches. You are arguing for more differentiation, so that instead of those 16 notches there were, say, 40?

CBrinton,

I guess it depends on how you define it. What I was referring to is the following: for most of their history the complaint against rating agencies was that they were too conservative (you can see a bit of that on the issues on the muni scale mentioned above). Also for a long time there were really only two rating agencies and most debt had two ratings. That meant the rating agencies had no incentive to compete and where very conservative. But then new entrants showed up. All they had to do was be a tiny bit more lenient, and bankers would give them the deals. This led to a downwards spiral in deal requirements. it always went step by step and, given the available at the time, it was almost impossible to resist. Also, you have to remember that while today everyone is a genius that saw the crisis coming back then almost no one did. And other asset classes that opened thanks to ratings competition, like future flow deals, not only did not default but actually performed very well. So it was hard to know ahead of time what would do well and what would not.

213

ScentOfViolets 04.21.11 at 4:57 am

The rating scale has 21 notches. That’s it. And the bottom 4-5 are sort of reserved for debt in default. So that leaves you with a possible 16 notches. You are arguing for more differentiation, so that instead of those 16 notches there were, say, 40?

You’re contradicting yourself again: How can ranking those 100 countries be such hard, hard work if you’re simply dropping each country into a ranked bin of which there are far less than 100? Going by that logic, I can “rank” all 100 countries by having just two notches – one for outright default on debt, the other for not being in outright default. Bam!! I’ve just ranked those 100 countries – and quite accurately too. Without all that hard, hard work. It’s almost as if you aren’t really all that familiar – or even knowledgeable – about the terminology you’re attempting to employ. Don’t you think you should have a basic grasp of the vocabulary before you go off on your extended claims of expertise? Particularly when you’re so eager to disparage other people’s competence in these matters?

214

James B. Shearer 04.21.11 at 5:00 am

212

I think we have been talking past each other as I thought rank order meant an ordering with no ties (which it appears isn’t the universal usage). So I am advocating maximum differentiation.

215

Morb 04.21.11 at 5:07 am

AB: A link to a paying service is equivalent to no link. Could you copy the text please? I’d be sincerely interested, because that’s always the stock example I’ve used up to now.

“Because they don’t think an agency’s ratings are of much, if any, relevance, to the “solvency” of U.S. government debt or the interest rates paid on it.”

IMHO this is true. With companies ratings agencies will have access to non-public information; for sovereigns the ratings agencies don’t. All information is already out there. Perhaps one thinks a ratings agency has greater expertise in analyzing that information, but in the case of a one-off like the US defaulting, that would seem to be a rather dubious argument. The fact that SP is giving this warning provides no other information about the situation of US default than what is already known.

Again, I think it likely that the SP giving this warning now is political. But it actually works the other way than what most people seem to be arguing. Up to now the ratings agencies have all been too timid with the US, because the US government has legislative power over them, and they didn’t want to cross it. Hence they kept the AAA ratings even when it was clear that the political process in the US is broken, and the populace weened on three decades of, “I can spend even if I don’t pay for it.” The fact that SP broke ranks because the Republicants in Congress assured them there would not be retribution, seems to be a bit beside the point.

216

Morb 04.21.11 at 5:12 am

“Look, this is the sort of thing Taleb wrote about. Trying to rank order the default risk of the USA versus UK versus Singapore isn’t a “difficult” task for which people should be given credit. It’s a “ridiculously pointless” exercise…”

Is it pointless to try to analyze how high a tsunami wall should be to protect a nuclear reactor? I guess I’m not understanding you point: is it really to shrug when faced with events of extremely low probability?

217

CBrinton 04.21.11 at 5:21 am

Gabriel [again on CDO ratings]: “But then new entrants showed up. All they had to do was be a tiny bit more lenient, and bankers would give them the deals. This led to a downwards spiral in deal requirements. it always went step by step and, given the available at the time, it was almost impossible to resist.”

You are describing regulatory capture. All you have provided is a possible reason for it (competition).

Your stuff about how “today everyone is a genius that saw the crisis coming” is a bit of irrelevant goalpost-shifting; the poor practices the agencies applied to CDOs have been well-documented, and they would have been malpractice even had the instruments not become worthless. And you have explained why these practices were applied–regulatory capture. Even if (for whatever reason) you don’t like to use the term.

218

Daniel 04.21.11 at 6:48 am

Daniel, this isn’t a nutty passenger scared to fly who is complaining about a weird tremor in his seat on takeoff. This is an expert calmly talking to two experts with skeptical looks on their faces about the probability that some maintenance work might not occur, and whether this super-safe airplane might then become slightly less super-safe than other super-safe airplanes a few years later.

No, it’s an expert talking to two experts with skeptical looks on their faces about the probability that a steel-frame building could spontaneously collapse due to fire. Ie, it’s the sort of thing that makes you realise that one of those experts is either really gullible, or a publicity-seeker, or something else.

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nick s 04.21.11 at 6:50 am

this is an expert making the argument, and it looks like a reasonable one.

It looks like dick-waggling to me, but that might be on account of all the dick-waggling in this thread.

220

Henri Vieuxtemps 04.21.11 at 7:31 am

It seems quite possible that all of the following is true: S&P is corrupt, the S&P announcement was politically motivated, and the credit outlook for the US is negative. A broken clock, etc. Since bashing S&P is a trivial exercise, why not take this as an opportunity to discuss the third proposition?

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Morb 04.21.11 at 8:03 am

Henri, that would be too sensible and sense is not what you expect in this kind of discussion.

222

dsquared 04.21.11 at 8:17 am

Since bashing S&P is a trivial exercise, why not take this as an opportunity to discuss the third proposition?

OK, here goes – it’s mental. I don’t think anyone is actually seriously debating any of the following propositions:

1. James Galbraith et al are basically right to say that as a borrower in its own currency, the USA cannot get into a situation where it has to default as a matter of economics.

2. Therefore the only situation in which the USA might default are a) hyperinflation and b) as a matter of political strategy.

3. The USA is nowhere near hyperinflation, and even if it experienced hyperinflation it still would not be forced to default, as Zimbabwe has not defaulted on Z$ debt. So “politically motivated intentional default” is the only possibility.

4. There are numerous constitutional difficulties with a political decision to default, added to which no single elected politician in the USA is arguing that the USA should default.

In the light of this, it’s really silly to say that the general obligation federal government bonds of the USA, which are generally regarded as the definitional risk-free assets, carry measurable credit risk. Talking about “rank ordering” does not really help, as it amounts to saying that the USA is a less safe proposition than Singapore, Australia, Hong Kong. The S&P analysts are saying that there is a “one in three” chance that in a few months’ time, they will regard the US sovereign credit as being on a par with that of Spain or Belgium (AA+).

This is silliness. It is just grandstanding. It has absolutely nothing to do with S&P’s record of credit rating in emerging market sovereigns, because there is no credit risk to rate. The USA should never have been given a credit rating (nor should the UK, Japan, Germany etc, although Ireland and Iceland should, and it shouldn’t have been AAA).

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hopkin 04.21.11 at 8:31 am

If dsquared is right in saying

‘The S&P analysts are saying that there is a “one in three” chance that in a few months’ time, they will regard the US sovereign credit as being on a par with that of Spain or Belgium (AA+).’

then that nails it for me. Spain is surely an enormous risk now, and the markets are already twitching like crazy. It hasn’t got its own currency and has far worse growth prospects than the US. There’s nobody out there who’s interested in buying Spanish debt as a protectionist trade strategy. How could the US possibly be in the same universe of sovereign credit risk?

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Shining Raven 04.21.11 at 9:44 am

I’d like to make a point on the “political influence” of senior management at the rating agencies on the sovereign debt analysts. I don’t imagine that senior management is necessarily going to pressure the analysts to get some particular outcome (although even a simple question for a re-analysis of the US credit rating by senior management would probably influence the analyst’s work).

Nonetheless, the announcement itself is clearly a political decision by senior management, and it for sure takes political implications into account.

Seriously: Does anybody believe that an analyst would change the credit rating of the US and announce this through normal channels without clearing this with senior management? Seriously?

Looking at the publicity this will predictably generate, of course the sovereign debt ratings department is going to clear this with senior management, in particular if it’s a result of their independent and unsolicited analysis. And if senior management found this change of rating to be not politically expedient or prudent, wouldn’t they ask for a re-analysis , very thoroughly done, and please come back in six month or so, and no public announcement of any results before then, and let’s see what happens until then?

So in that sense, I would say that the announcement is clearly political and must have considered the political effects. It’s one thing to say that the analysis was done in an independent fashion, it’s quite another question whether the results get then released, and I think it would be naive to see this as anything other than political.

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Walt 04.21.11 at 9:51 am

Andrew, I don’t understand your argument. As you say, an expert has said that the default risk for the US has gone up. People then argue that a) in these ways the expert has a bad track record, and b) in this particular instance the expert is unlikely to be right. But you’ve called any attempt to evaluate the credibility of the expert “dubious”. So then what are we supposed to do in this thread? Just scratch our chins and try to look serious?

Anyway, your argument proves the point that S&P has nothing to offer here. If you think that the US is an elevated risk of default, then you think S&P is right to issue a warning. If you don’t think the US is at an elevated risk of default, then you think that S&P looks silly. So basically, nobody has learned anything about US credit-worthiness from the announcement that they didn’t already know (or think they know).

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ajay 04.21.11 at 9:53 am

Not sure I follow you, ratings are reported as a rank ordering.

Well, they are and they aren’t. S&P itself sort of swithers about this, saying first that ratings are a ranking and not an absolute risk of default, but then that it tries to ensure that the same rating implies the same creditworthiness across sectors and history.

If it was a pure ranking, then S&P could be (for example) in the middle of a general collapse of the French economy and rank (say) Lagardere AAA. And when it was pointed out that Lagardere was in fact hideously indebted and on the brink of bankruptcy, S&P could simply say “yes, but credit ratings are a pure ranking, and Lagardere, basket case though it is, is still a better credit risk than pretty much any other French company”. But they don’t do this: an AA-rated German company in 1970, S&P says, should be roughly as creditworthy as an AA-rated American municipality in 2010.

First is “this is a ratings agency; they got it all wrong on structured products; their opinions are worthless!” But their ratings are vital in a wide variety of transactions, and in governing a large amount of investment activity. A large number of guarantees, and other agreements, are tied to ratings activity. So people with skin in the game take them fairly seriously.

True, but remember that to a large extent it’s true because S&P (and Moodys) have a legally enshrined status as NRSROs – Nationally Recognised Statistical Rating Organisations. Their ratings are a central part of the US financial regulatory system (something that Dodd-Frank is now trying to change) . A AAA rating from S&P on your debt is not – repeat, not – just a non-binding statement of opinion, the equivalent of a “Strong Buy” recommendation from JP Morgan on your stock. It dictates all sorts of things about your regulatory requirements, and also who can invest in your debt and/or use it as collateral.

People do indeed take NRSRO ratings seriously but that doesn’t necessarily mean that they believe them; they take them seriously, at least in part, in the same way that a cinema owner takes the MPAA and BBFC seriously, because their opinions have legal force that will in turn have financial consequences.

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Stephen Lathrop 04.21.11 at 11:40 am

I don’t know enough about this to have an opinion. I do have a question: Leaving abstractions like sound money aside, does the Federal Reserve defend substantial interests who would be hurt more by 40% inflation than they would by U.S. default?

If you want, go ahead and answer for whatever inflation percentage seems most interesting.

If the answer is yes for some inflation percentage—indicating a reasonable possibility that the Fed might force a default—would the balance of harm change if you added the presumption of immediate post-default political retaliation against those interests?

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Andrew 04.21.11 at 12:04 pm

Daniel @218: My problem with your metaphor is that the S&P isn’t predicting anything so dire. S&P is stating that, possibly, in two years, over certain criteria, the US will compare less favorably with other AAA sovereigns.

Now dsquared @221 (Spain is AA btw) argues that the credit risk is so small as to be meaningless, and it doesn’t really matter if the US compares slightly unfavorably along those criteria at this point.

S&P would agree that the risk is miniscule, and the difference miniscule.

But if the causes of the new difference aren’t addressed, then all else being equal the difference will grow, and not necessarily in a linear fashion. If neither revenue nor spending is addressed meaningfully, then over time borrowing needs will increase with borrowing costs; and as that happens the government’s willingness to service debt becomes more vulnerable to various contingencies that from time to time have happened, such as major wars, major depression, etc. We all agree on this, right? And so, relative to countries better able to service their debt through such contingencies, the US becomes along the way meaningfully riskier. At some point the difference becomes meaningful. And at some point my expectation that it will actually become meaningful will form.

It’s not at that point, and we’re dealing with a lot of qualitative judgments and uncertainty.

So I think it makes more sense to look at S&P’s negative outlook as a warning about the current long-term path. Not worth sounding alarm bells, but not worth laughing about either.

ajay: I agree with what you wrote, but that’s not the whole story either. Ratings from agencies are used in a very large number of transactions and agreements where they are not legally required, simply because these ratings are viewed as a good indicator of current credit-worthiness. I agree that Dodd-Frank has some interesting implications for ratings agencies.

Walt: outside of the structured finance products, though, my understanding is that the ratings agencies do a very good job. Did S&P simply say what everyone knows? Well, Moody’s still has a stable outlook on the US long-term rating. So, not everyone. Is S&P just silly, since the fine distinctions it’s drawing between currently AAA rated sovereigns are too fine to matter? Dsquared seems to think so. I’m less certain.

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AB 04.21.11 at 12:59 pm

@morb It’s free to register and get 10 stories a month. When you do, you’ll find the great Martin Weale explaining how the perpetuals manoeuvre involved the redemption of money which was repayable at three months’ notice and its replacement with stock with a lower interest rate, which was entirely in accordance with the issuing prospectus of the stock.

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Gabriel 04.21.11 at 1:03 pm

CBrinton: You are describing regulatory capture. All you have provided is a possible reason for it (competition).

You may be right. I was trying to make a distinction between a regulator that does something bad, purposefully vs one where the circumstances lead to the change. That’s why I mentioned that when all this was happening it wasn’t so clear. If you were one of the rating agencies that was not chosen for a deal because of ratings shopping, and because you had a more conservative view, one of the first things you did was ask yourself, does my position make sense? And here’s where things were not so obvious. The available information kept telling thing were OK.

This is not a minor point. I know a lot of regulators are having to grapple with the problems derived from ratings shopping.

Finally, one more point on whether this is all a pointless exercise. As I mentioned, S&P is but one of many players in the credit risk game. One other player, or alternative, are CDS spreads. Many have suggested that CDS spreads should replace retain agencies (Note that no one, AFAIK, in a position of regulatory responsibility, has argued we should get rid of third party credit opinions altogether). And if you look at CDS spreads several of the countries Daniel has suggested always are AAA have already been downgraded! Both Japan and the UK have rating implied CDS below AAA, in Japan’s case as low as the BBB category. This means there are market players willing to pay money to protect themselves at those levels. If Daniel and the others are right they are all wasting their money. Of course, in this case, neither Baker nor Galbraith could rail against them because CDS spreads don’t lend themselves to the same reaction. But the analytical result is the same (if you think that CDS spreads are there to measure credit risk).

Add to this the many market players quoted in the FT and other places that say the US should have been downgraded a long time ago and it becomes clear that there are very different views o this and S&P just happens to be the most visibile but hardly unique.

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ajay 04.21.11 at 1:23 pm

228: be careful here. Exactly what developed-country sovereign CDS spreads represent is a very good question, but it is not simply – as you suggest – perceived creditworthiness. The sovereign CDS market is very weird and does not lend itself well to this sort of straightforward analysis. Backing out an implied rating from a CDS spread is much more defensible for a corporate underlying than it is for a sovereign, especially a sovereign like Japan.

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Gabriel 04.21.11 at 1:33 pm

ajay,

True. CDS spreads have their problems. As do almost all other credit measures. But they have been suggested, repeatedly, as an alternative to ratings. Not just that but many market players have confronted rating agencies when their ratings are very different from what CDS spreads say.

My main point remains. S&P is hardly the only market player or market instrument that shows concerns about the supposedly safe AAAs.

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a.y. mous 04.21.11 at 1:37 pm

So, James’ spit is as warm as John’s piss?

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dsquared 04.21.11 at 1:43 pm

If neither revenue nor spending is addressed meaningfully, then over time borrowing needs will increase with borrowing costs; and as that happens the government’s willingness to service debt becomes more vulnerable to various contingencies that from time to time have happened, such as major wars, major depression, etc. We all agree on this, right? And so, relative to countries better able to service their debt through such contingencies, the US becomes along the way meaningfully riskier.

Hang on, we’re now suggesting that we can make sensible statements about the relative risk exposures to major wars???? This really is pie in the sky stuff. About the only sensible thing it is remotely possible to say about potential major wars of the next fifty years is “The United States Of America will not be on the losing side”, which does not really support your case.

Here is an analogy for you. It is crass and facetious because this is “virtual Friday”.

Out of me, and Paul Krugman, who is more likely to have sex with Elton John? On the one hand, I am younger and more handsome. On the other, Krugman is richer and has a Nobel Prize. So there are arguments to be made both ways. It should also be taken into account that both I and Professor Krugman are straight, and married, while Elton John is in a stable civil partnership.

I think we can all agree that this question is a waste of time.

Now, suppose that tomorrow I change my sexual orientation. Now, it can be argued that since one fewer highly unlikely event is necessary in my case, the rank ordering might have changed. Or it can be argued conversely that even though I am now bisexual or gay, Professor Krugman’s status and the smaller age gap mean that he is still in pole position.

Alternatively, it could, in my view persuasively, be argued that a) the question is still a waste of time and b) the debate about whether the question is no longer a waste of time, is itself a waste of time.

Do I have to explain the analogy? How much time do you have?

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ajay 04.21.11 at 1:48 pm

True. CDS spreads have their problems. As do almost all other credit measures. But they have been suggested, repeatedly, as an alternative to ratings.

Yes they have, but not – as far as I am aware – for developed country sovereign debt. For corporates and financials, you are right. But the sovereign CDS market and the developed-nation sovereign CDS market in particular is (as I said) very different and much less comprehensible.

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Gabriel 04.21.11 at 1:54 pm

Allow me to follow up on your analogy.

First, the way ratings work it wouldn’t be just you and Paul Krugman (ie just two cases). Rather the question would be “Of this large pool of heterosexual men who would most likely do it with Elton John”. You’d then identify some characteristics that make it more likely and some that make it less likely. And then you’d group them and rank order them. And you’d say “well, this group here, we will call it Category B, is the most likely. But this group here, let’s call it Category AAA is the least likely”. Because you are dealing with probabilities you know that it doesn’t mean that all AAA would avoid contact while all Bs would have an affair. Rather, that it would be more likely in one group than in the other.

How would you test this? You’d allow time to pass and check what happened. If you found out that your rank ordering corresponded well to the actual encounters you’d say the process worked. This is exactly what has happened with ratings.

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Gabriel 04.21.11 at 1:57 pm

Yes they have, but not – as far as I am aware – for developed country sovereign debt.

Yes the have. Plenty of market players provide this information. After all, that’s what a CDS is, a protection against a credit event. If you went to JP Morgan and demanded to pay the same for protection on the US as for Japan the would say no. The market clearly differentiates.

And remember, if the argument that all these are clearly and forever AAAs, there should be no CDS market for them at all, much less the diferences we find.

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ajay 04.21.11 at 2:16 pm

235: I didn’t say there wasn’t a sovereign CDS market, Gabriel; I said that as far I knew, no one had suggested substituting sovereign CDS prices for sovereign debt ratings as a measure of sovereign risk.

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dsquared 04.21.11 at 2:23 pm

You’d allow time to pass and check what happened. If you found out that your rank ordering corresponded well to the actual encounters you’d say the process worked

No, this would be very dangerous thinking, because in fact the universe of people who have had sex with Elton John are very very unlike me or Paul Krugman. It would have predicted various relationships with gay and bisexual men (analogous to emerging market sovereigns in this absurd analogy with which I am wasting everyone’s time), but that really should not have given you any confidence indeed in its predictive ability out of sample.

To continue the analogy to absurd heights (and to bring an analogy to Ireland and Iceland), let’s say that the model had also rated Eminem as “AAA, highly unlikely to ever so much as hug Elton John because he’s so homophobic”, but then had to very quickly downgrade him to “BBB, might hug Elton John and perhaps even accept a peck on the cheek but definitely no funny business” after the 2001 Grammy Awards. In such circumstances, it would be very sensible think twice before making any more high-profile statements of the kind.

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AB 04.21.11 at 3:17 pm

@237 One way in which this analogy in fact works well is that anyone press releasing an Eminem downgrade would clearly be after little else than cheap PR – which is, I submit, rather than some conspiracy theory about political motives, what S&P are up to in this case.

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Gabriel 04.21.11 at 3:38 pm

I find the analogy useful, So let me continue.

if it is true that you and PK are completely unlikely to do something with Elton John, well then the model should rate you AAA. And that can be tested.

And since we are talking about probabilities an Eminem that moves from AAA to BBB is perfectly acceptable, so long as it is the rare case. If it turns out that your AAA is full of closet Elton lovers, well then the model was all wrong. But in all these cases you can check the numbers. That’s what rating agencies and plenty others do.

a quick side note from this analogy. For a long time there was this idea that developed nations were completely different, analytically, from emerging markets. This crisis has diminished that certainty. What Ireland and others have gone through is basically a traditional sudden stop in capital, that so many EM countries are familiar with. As far as I know it is the first time this has happened in advanced economies in modern times and, prior to this crisis, many thought it impossible.

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Gabriel 04.21.11 at 3:46 pm

for those interested the IMF has written a good analysis of this general topic here:

http://www.imf.org/external/pubs/ft/gfsr/2010/02/pdf/chap3.pdf

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dsquared 04.21.11 at 3:49 pm

What Ireland and others have gone through is basically a traditional sudden stop in capital, that so many EM countries are familiar with. As far as I know it is the first time this has happened in advanced economies in modern times and, prior to this crisis, many thought it impossible.

I think you would have to very carefully gerrymander your definition of both “advanced economies” and “modern times” to make that come out true. The USA itself was forced off the gold standard in 1971 (I notice it didn’t default though).

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Lee A. Arnold 04.21.11 at 3:52 pm

“S&P officials saw President Obama and Congress locked in an intense budget negotiation over a relatively paltry $38.5 billion in spending cuts – one that threatened to shut down the government and only averted at the 11th hour. This “dismayed” S&P officials, sources close to the process said.”

http://blogs.abcnews.com/politicalpunch/2011/04/obama-administration-asked-sp-to-hold-off-on-any-new-debt-rating-until-presidents-deficit-speech.html

It dismayed them! The whole ABC news report is worth reading. If it is true, it would appear that S&P’s report derives from an inability to understand exactly what is going on in U.S. politics. Indeed they wrote in their report, “Because the U.S. has, relative to its ‘AAA’ peers, what we consider to be very large budget deficits and rising government indebtedness and the path to addressing these is not clear to us…”

The path to addressing these is not clear to them for the same reason it is not clear to many people: they don’t think clearly. The precise way out of this is to continue to call the Republicans’ bluff, no matter what they do or say next. Just keep at it. Because the Republicans (1) never make sense, (2) it doesn’t add up, and (3) almost everybody is against them, after they think about it. Eric Cantor won’t raise the debt ceiling? Call his goddamn bluff! The President should say: Look, we shall only raise the debt ceiling enough to cover the Ryan Plan, if by chance it should be enacted later (that would add about 6 trillion or so MORE over the next 10 years). The President should say: Look, we can leave the important parts of Medicare intact, there is another way to do this, and it is ALREADY current law: CBO says we reduced the long-term deficits by 2/3rds, if we stick to the healthcare reform, and if we get rid of the Bush Tax Cuts.

These sorts of piecemeal reductions will work, it is the way into the future and nobody gets hurt — and even the fatuous clods at S&P will accept it.

Then we can all thank S&P for helping to usher in the end of the Republican Party.

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Aulus Gellius 04.21.11 at 4:40 pm

D2: “Hang on, we’re now suggesting that we can make sensible statements about the relative risk exposures to major wars????”

And surely this puts further pressure on the idea that we have a bunch of experts warning us about our plane. I mean, that only works if they’re experts in aeronautics or engineering or something: if they’re brain surgeons (even very skilled ones!) their opinions aren’t worth much.

Are S&P really “expert” predictors of the decisions made by US politicians, or of the kind of large-scale historical events which might cause a default? Of actual knowledgeable political scientists/politicians/journalists/whatever-kind-of-expert-you-like, are there any who would seriously argue that the US is more likely to default than Singapore?

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Aulus Gellius 04.21.11 at 4:41 pm

Also: Gabriel, you’ve been correcting people quite a lot about defending something other than what Galbraith actually said, but I note that you haven’t actually been using any quotes from Galbraith, and your interpretation of what he was laughing-as-if-to-say seems to me questionable.

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Stephen Lathrop 04.21.11 at 4:59 pm

I feel like the new kid in school, trying to get into a discussion among the in crowd. Does anyone have an answer to my question at 225?

Never mind, I’ll just bring it down. Here it is again:

Leaving abstractions like sound money aside, does the Federal Reserve defend substantial interests who would be hurt more by 40% inflation than they would by U.S. default?

If you want, go ahead and answer for whatever inflation percentage seems most interesting.

If the answer is yes for some inflation percentage—indicating a reasonable possibility that the Fed might force a default—would the balance of harm change if you added the presumption of immediate post-default political retaliation against those interests?

248

ScentOfViolets 04.21.11 at 5:00 pm

And surely this puts further pressure on the idea that we have a bunch of experts warning us about our plane. I mean, that only works if they’re experts in aeronautics or engineering or something: if they’re brain surgeons (even very skilled ones!) their opinions aren’t worth much.

Are S&P really “expert” predictors of the decisions made by US politicians, or of the kind of large-scale historical events which might cause a default? Of actual knowledgeable political scientists/politicians/journalists/whatever-kind-of-expert-you-like, are there any who would seriously argue that the US is more likely to default than Singapore?

Exactly right. Note that what this whole thing boils down to (as usual, and applied to the Usual Suspects) is burden of proof standards. On the one hand, we have an organization that is known to have come up laughably short when making significant predictions supposedly within it’s core area of competence – and that’s putting the case charitably.

Otoh, we have people who refuse to provide evidence to support their claims, instead preferring to offer such weighty and substantive replies along the lines of “How do you know they’re wrong this time? ( Prove this to my satisfaction.)”

Yes, you can insist to your hearts content that what S&P is doing is weighty, evidence-based, number-crunching analysis. But at some point you’ve got to stop going with the riff that it’s true because you’ve said it seven times, and instead supply some actual evidence. Particularly when said “expert analysis” is along the lines of:

“S&P officials saw President Obama and Congress locked in an intense budget negotiation over a relatively paltry $38.5 billion in spending cuts – one that threatened to shut down the government and only averted at the 11th hour. This “dismayed” S&P officials, sources close to the process said.”

Of course, the people pushing the case that Standard and Poors are Serious, Serious People can claim that this is “expert analysis”. And I – like I suspect most other people here already have – will then conclude that there’s no “there” there to yet another iteration of that tired, tired of schtick of “How do you know they aren’t right? Prove it!”

As I’ve pointed out repeatedly, and will continue to point out (it’s sort of my duty to, actually), there’s a reason for evidentiary standards and burden of proof requirements being formulated the way they are. And it’s to cut off pointless time-wasters at knees.

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dsquared 04.21.11 at 5:04 pm

Leaving abstractions like sound money aside, does the Federal Reserve defend substantial interests who would be hurt more by 40% inflation than they would by U.S. default?

Sorry I thought it was a rhetorical question. Taken literally I’d say that isn’t an either/or possibility.

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Gabriel 04.21.11 at 5:04 pm

And surely this puts further pressure on the idea that we have a bunch of experts warning us about our plane. I mean, that only works if they’re experts in aeronautics or engineering or something: if they’re brain surgeons (even very skilled ones!) their opinions aren’t worth much.

Agree. That’s why the expertise is measured on empirical grounds. If it turns out all the supposedly safe planes start running into problems, maybe the expertise is not there. But if the rank ordering works, and those deemed most are risk are the most likely to actually have problems, then it would support the idea that the experts know something about this.

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ScentOfViolets 04.21.11 at 5:24 pm

How would you test this? You’d allow time to pass and check what happened. If you found out that your rank ordering corresponded well to the actual encounters you’d say the process worked. This is exactly what has happened with ratings.

It would be nice if at some point you actually provided some evidence for these sorts of claims. You know, cites, quotes, that sort of thing? And not from Heritage, Cato, etc. Continuing with a reply to that quote:

No, this would be very dangerous thinking, because in fact the universe of people who have had sex with Elton John are very very unlike me or Paul Krugman.

Otoh, if the process fails, it fails. At least by the simple-minded criteria offered up above.

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dsquared 04.21.11 at 5:24 pm

I am pushing back on this claim that “the rank ordering works”. Look at figure 3.7 in the IMF piece above. It shows that there is basically nothing to rank-order above BBB rating in the 1975-2009 dataset used. And if you adjust for this aliasing arising from the fact that the scale clearly has far too many categories in “Safe”, then the curve in figure 3.8 looks a lot less impressive.

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Lee A. Arnold 04.21.11 at 5:34 pm

Gabriel: “But if the rank ordering works, and those deemed most are risk are the most likely to actually have problems, then it would support the idea that the experts know something about this.”

I don’t entirely understand. Isn’t it a bit of a self-fulfilling prophecy? If there is a rank ordering, it goes from something like “acceptable” to “unacceptable”, with all that goes in between. People looking to park their money in securities respond accordingly, and therefore they help to create the runs on the funds that are expected to have them. Since some portion of the original problems are political, aren’t ratings partly stuck in an epistemological circle? By what methods do the experts step outside of that?

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Gabriel 04.21.11 at 5:34 pm

If you demand a perfect fit, then the whole CDS market is useless, since they make even greater distinctions among credits that have never defaulted.

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ScentOfViolets 04.21.11 at 5:49 pm

That’s why the expertise is measured on empirical grounds. If it turns out all the supposedly safe planes start running into problems, maybe the expertise is not there. But if the rank ordering works, and those deemed most are risk are the most likely to actually have problems, then it would support the idea that the experts know something about this.

So where is your evidence that it does? Your link doesn’t show what you think it does, in at least two different ways:

That’s why the expertise is measured on empirical grounds. If it turns out all the supposedly safe planes start running into problems, maybe the expertise is not there. But if the rank ordering works, and those deemed most are risk are the most likely to actually have problems, then it would support the idea that the experts know something about this.

I quoted this since D^2 beat me to it (though actually, this is exactly what my snark was alluding to with my “two notches” comment above.) But there is another point: looking at the same figure, we see that as a percentage, the B-rated group had an overall higher default rate than the C-rated group. In fact, none of the B-categories had a lower default rate than any of the C-categories. That’s some expertise you’ve got working for you there ;-)

Finally, being generous and quoting from the summary:

The empirical work has also shown that credit ratings
quite accurately rank sovereign credit risk, but
they should not be expected to be consistent with specific
default probabilities or other quantitative default
risk metrics.

That’s not quite true, but true enough for my point (which again goes back to my snark about the accuracy of having only two notches): Accuracy is not the same thing as precision, particularly if you get to use wide error bars. This is true as a general rule (it’s actually covered in freshman science classes, and usually in the first couple of weeks), but it’s particularly true with statistical analysis. I remember well all the crowing from conservatives about how the Lancet report on post-war Iraqi casualties was “wrong” . . . when actually the subsequent studies actually proved they were right.

So I repeat – where is your evidence for all this wonderful expertise we’re supposedly benefiting from?

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ScentOfViolets 04.21.11 at 5:52 pm

I don’t entirely understand. Isn’t it a bit of a self-fulfilling prophecy? If there is a rank ordering, it goes from something like “acceptable” to “unacceptable”, with all that goes in between.

Yeah. That too. Not unlike a Goombah solemnly telling you that you’re behind in your insurance payments, which is unfortunate because his organization predicts that you’re liable to have an accident real soon ;-)

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Map Maker 04.21.11 at 6:13 pm

“So I repeat – where is your evidence for all this wonderful expertise we’re supposedly benefiting from?”

I’m late to the party here, but the IMF piece is looking at 1 year ratings prior to default. I’m not sure if that is the right metric – shouldn’t it be rating at time of default? If oil prices fall to $10 a bbl (again) lots of sovereign ratings in the ME will look silly – when new data comes, the expected risk should change, not one year before the new data. California real estate was a AAA asset in 2005 – there were almost no defaults, losses given default were almost zero – prices were going up 1% a month.

Using ratings as a long term forecast when economic and political situations can change in the short run problematic. I would expect rating at time of defalt would look much better (for the ratings), I’ll see if I can dig that up…

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David Merkel 04.21.11 at 6:59 pm

S&P was not pulling on the cape of Superman. They are merely pointing out that the king might not be wearing any clothes.

And if you are relying on the laughter of economists to buttress your point, you are really scraping the barrel, given their track record on macroeconomic prediction.

If anything, the rating agencies are late, very late. If the US were a corporation, it would not even be investment grade.

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piglet 04.21.11 at 7:10 pm

I’m late to the party here, but the IMF piece is looking at 1 year ratings prior to default. I’m not sure if that is the right metric – shouldn’t it be rating at time of default?

(roll eyes)

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ScentOfViolets 04.21.11 at 8:02 pm

Using ratings as a long term forecast when economic and political situations can change in the short run problematic. I would expect rating at time of defalt would look much better (for the ratings), I’ll see if I can dig that up…

Welcome to the A team :-) Notice that if country X defaults on it’s debt obligations despite a triple-A rating because of an internal revolution, a war with a neighboring country, what have you, the S&P types can claim that they were still “really” right. Conversely, if a country has a C rating and doesn’t default, guess what? S&P are still going to be “right”! After all, they will argue, these are probabilities; even a fair coin will have a greater than 90% probability of coming up heads twenty times in a row if you flip it enough times (And to be fair, no one can gainsay this argument – it happens to be true.)

Which goes back to my previous post about figure 3.7 in the linked report wherein countries with a C rating actually had a lower default incidence than those with a B rating: done right, this is actually okay statistics. The problem is that using such statistics as some sort of predictive tool is, well, let’s say that it’s . . . simplistic. And not what you would expect of a Prestigious Firm whose main claim to competence is just this sort of specialized expertise.

Perhaps I should mention that I teach statistics at the local college (no, that’s not bull goose looney thing, and I’m not trying to pull rank. My actual field is algebraic geometry with special attention given to topological methods so what I know at the practical level where field work is done is pretty basic.) I say this because as a group they demonstrate exactly the fundamental misapprehension that most people have about how statistics is done (and how that allows certain unscrupulous types to run scams based upon their claimed specialized skills). Running ANOVA procs, determining the Pearson coefficient of correlation, constructing parametric models based upon Poisson or Boltzmann or Binomial or Gamma or whatever distributions, well, some of that terminology might sound intimidating (certainly a lot of people who should know better like to throw them up as a smokscreen), but actually, all of those things are actually rather easy to do in the modern computer age. My students will sometimes walk out of class on the last day feeling rather cocky that they “know statistics” on the strength that they know a bit of SAS or SPSS or – God forbid – Minitab .

Then that all gets knocked out of them in the next round when they are required to apply this stuff to actual, real data, not the manicured stuff we lower division types spoon feed them as a confidence builder. They have to make tough decisions about what data is good and what is bad, what data is relevant, what is safe to throw out or ignore and what data you must at all costs retain. And they have to justify all of this with good arguments to someone I happen to know actually had a real job before joining academia and as a consequence is much harder-nosed than I am.

And that is the hard part for these types of statistics. Doing the actual analysis, plugging it into your models and coming up with some sort of concrete answer? That’s easy. That’s why I’m allowed to teach that part of the subject :-)

I won’t ramble too much more, but my takeaway point is this: when Very Serious People like the Standard and Poors types claim to be “alarmed” by a potential government shutdown and subsequently threaten to “downgrade” the country’s credit-worthiness, well, they’re simply not doing any of the hard work to justify that action. Quite the contrary. Again, I don’t claim to be an expert on this stuff(and if D^2 feels like it, I’m sure he could point out where I’ve gone off the rails or over-simplified to the point of nonsense); but I am familiar enough with the basics to tell when someone who does claim to be an expert is zooming me by treating the actual data as something of an afterthought. And I suspect that most people who’ve had even the most cursory exposure to how statistics is really done know this as well, which is why I’m skeptical of certain posters claims to special expertise.

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hopkin 04.21.11 at 8:29 pm

Feynman: ‘Science is the belief in the ignorance of experts’. When a type of expertise fails on a grand scale, then we’d be stupid to carry on believing its predictions. The kind of quackery the likes of S&P provides is no guide to likely future events.

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Stephen Lathrop 04.21.11 at 9:31 pm

Stephen Lathrop: “Leaving abstractions like sound money aside, does the Federal Reserve defend substantial interests who would be hurt more by 40% inflation than they would by U.S. default?”

dsquared: “Sorry I thought it was a rhetorical question. Taken literally I’d say that isn’t an either/or possibility.”

Mysterious to me…”isn’t an either/or possibility.” Can you say a little more? Sovereign default is not my field, so I’m just innocently trying to find out what assumptions about the dynamics of that animate this discussion.

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stearm 04.21.11 at 9:45 pm

Things are mcuh easier.

If I want to invest in government bonds, I pay almost no fees.

But if I decide to diversify my portfolio, I pay financial intermediaries.

An who pays S&P? Financial intermediaries.

So don’t be upset, rating agencies do what they are paid for: advertising.

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ajay 04.21.11 at 9:50 pm

I’m late to the party here, but the IMF piece is looking at 1 year ratings prior to default. I’m not sure if that is the right metric – shouldn’t it be rating at time of default?

No, for the same reason that one does not assess the accuracy of a test for cancer by seeing if it diagnosed correctly on Monday someone who dies of cancer on Tuesday. Doing this is a) not very difficult and b) completely useless.

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StevenAttewell 04.21.11 at 10:17 pm

Lathrop – high inflation and default hurts the same group of people: creditors who hold large amounts of capital in dollars or T-bills. It’s highly unlikely that these creditors would have either one or the other, most would have both. Default would be the worse of the two options, since it would also dramatically hit the value of the dollar (the U.S govt’s guarantee of full faith and credit being the issue.

The larger point about the Fed is that it tends to take its inflation mission more seriously than its job creation mission, and more generally looks to work within the banking system instead of finding alternatives. (http://realignmentproject.wordpress.com/2009/07/08/the-peoples-bank/) For example: nothing would have stopped the Fed from buying up mortgages and then renegotiating them in one full swoop, a giant-sized HOLC, but it preferred to support existing CDO values.

There is a differential here: wealthy folks benefit from low inflation, whereas working class and poor folks benefit more from low unemployment (and often benefit from inflation, which makes it easier for them to pay off their debts).

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ScentOfViolets 04.22.11 at 12:07 am

And here’s yet more to debunk the nonsense that what S&P says on these matters is based upon some sort of sober, serious analysis:

Still, it’s true that federal debt held by the public has reached 60 percent of GDP, while tax revenues remain around 20 percent of GDP. 60 percent of GDP is a lot! And double, nearly triple, tax revenue! What would we call a company with outstanding debt double or even triple its revenues, and expected to keep the highest bond rating?

We would call it General Electric. As recently as 2007, GE had an S&P rating of AAA with outstanding debt at over three time revenues.

Or we could call it the Tennessee Valley Authority; TVA managed outstanding debt of 3.9 times revenue in the late ’90s (it’s since come down a bit), and S&P never downgraded its bond rating from AAA.

Of course, there’s a very serious, non-partisan, non-political explanation for this, and I’m sure that those who believe that downgrading the U.S.’s creditworthiness is a Very Serious Matter will now assiduously beaver away to post reams of cites and data to show why this is so.

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Stephen Lathrop 04.22.11 at 12:20 am

Thank you StevenAttewell. Your answer opens horizons. Based on what you say, I am tempted to conclude an administration pressed hard enough could print money to get rid of debt, provoke inflation to some high level short of hyperinflation, stimulate the economy, benefit ordinary Americans, and make bankers and the wealthy stand the gaff—because the Federal Reserve would conclude that the alternative of forcing a default would be worse for the people whose interests it customarily protects.

But I suppose a major obstacle would come in the form of political opposition from many ordinary citizens who would tend to misjudge high inflation’s consequences for them. For political reasons, no such policy could be undertaken if it seemed like a matter of deliberate choice by the administration. It’s remarkable and ironic that the opposite policy, with all its destructive consequences for the American majority, seems now to be an option within the political mainstream.

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Gabriel 04.22.11 at 12:23 am

StevenAtwell,

I’d argue that poor people mostly suffer from inflation since it impacts their salaries and they have fewer savings options.

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Gabriel 04.22.11 at 12:27 am

I am tempted to conclude an administration pressed hard enough could print money

Just a clarification here, the administration can’t simply print money. It has no power to do that. True, if Congress and the WH agree they could probably name sufficient Fed members that agree with such a policy, but what do you think are the chances of that?

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david 04.22.11 at 1:04 am

“I’d argue that poor people mostly suffer from inflation since it impacts their salaries and they have fewer savings options.”

I won’t repeat myself, but really. Yes, the poor will suffer most from inflation — and old people too! – so we must do our best to support family offices. Fewer savings options is fantastic. If only the poor could inflation hedge with real assets.

Savings are for rich people. Wage inflation is the threat. S&P can help! Somehow….

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ScentOfViolets 04.22.11 at 1:49 am

“I’d argue that poor people mostly suffer from inflation since it impacts their salaries and they have fewer savings options.”

I won’t repeat myself, but really. Yes, the poor will suffer most from inflation—and old people too! – so we must do our best to support family offices. Fewer savings options is fantastic. If only the poor could inflation hedge with real assets.

Ah, the last nail in the coffin which houses the body of this person’s claim to any sort of competence, let alone a special sort not shared by others.

In fact, the notion that inflation is bad for the rich but good for the poor is so widely accepted – by even the editors of the WaPo! – that he’s deep into wingnut territory.

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Gabriel 04.22.11 at 1:59 am

If anything, the rating agencies are late, very late. If the US were a corporation, it would not even be investment grade.

That’s just mean!

;)

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Gabriel 04.22.11 at 2:03 am

Stephen Lathrop,

Some info you may find relevant:

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=245806

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Mrs Tilton 04.22.11 at 2:33 am

David Merkel @257,

If the US were a corporation, it would not even be investment grade

And if my aunt had balls she’d be, as they say, my uncle.

In following this thread thus far, I’d been firmly convinced that a “contribution” stupider than Gabriel’s was impossible. You’ve shown me wrong; congratulations.

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Andrew 04.22.11 at 3:04 am

Scent, for a decent look at the performance and behavior of sovereign issuer ratings, you might like this study by S&P.

You also wrote at 259 that Which goes back to my previous post about figure 3.7 in the linked report wherein countries with a C rating actually had a lower default incidence than those with a B rating: done right, this is actually okay statistics.

This isn’t true. If you examine the figure, it talks only about the absolute number of defaults for each ratings cohort. If you examined percentages of default, you’d find below B rated issuers to have much higher rates of default.

Overall, the ratings work decently well as ordering probabilities of default. See Sovereign Defaults and Ratings Transition Data”.

Nor does the data referenced in that article sustain the proposition that there is no ordering between B/BB/BBB and A/AA/AAA; in fact the data contradict it.

Dsquared, just to rehearse the obvious, we agree that one of the components of credit-worthiness is how vulnerable the debtor is to various shocks. If a sovereign has pursued aggressive levels of debt, while suffering lower than expected growth and revenue, and has made it very difficult to either raise taxes or renege on various entitlement programs, then when those shocks happen – as they will over the long term – the sovereign is less capable of handling the shock. Risk is greater.

Is anyone here is questioning that the current direction of the US, absent any change (higher taxes, or less spending, or both), will eventually render the US less capable of meeting obligations relative to other AAA sovereigns?

And hey, I agree about how slight the difference is in a sovereign rating between AAA and AA+. In fact I don’t think any sovereign rated A or higher has defaulted within a 15 year period of being so rated (perhaps Kuwait).

As to your analogy… the fortunes of nations are subject to change, sometimes by slow degrees over many years, and sometimes much faster, and in ways that fit poorly with your (entertaining I’ll admit) analogy. A change from AAA to AA+ would be an instance of a slow change, but a potentially ominous one if one wonders what it means for where we’re headed 30 years down the road if we remain on path.

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ScentOfViolets 04.22.11 at 4:16 am

Andrew, do you have something you want to say to me?

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Henri Vieuxtemps 04.22.11 at 7:05 am

Steven: Default would be the worse of the two options, since it would also dramatically hit the value of the dollar (the U.S govt’s guarantee of full faith and credit being the issue.

Is it true? Value of the USD has been going down, down, down during the last decade, without any defaults.

If they decided to default selectively on some class of creditors (by, say, wiping out the social security trust fund), wouldn’t it more likely to boost the value of the dollar?

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Tim Wilkinson 04.22.11 at 7:42 am

jch: all this deficit hawkery is political superstition

that’s a commendably unparanoid interpretation.

Not like the many mentally ill Wall Street types reported in Gabriel’s own link @187: Many on Wall Street saw the move by Standard & Poor’s as a “shot across the bow” of wrangling politicians in Washington, pressing them to reach accommodation over long-term fiscal issues. (Also Galbraith from DD’s link – “Political shenanigans cannot be ruled out,” says Galbraith. “That’s what lawyers would call the ‘rebuttable presumption.’ After all, who benefits? The Republicans and perhaps the banks. But of course the other possibility is that S&P doesn’t know what it’s talking about, and after their disastrous missing of the mortgage bubble, that’s quite possibly what it is.”)

Gabriel – just to be clear, since you have been so free with the ‘conspiracy theory’ and ‘paranoia’ bullshit:

You claimed that ratings could not be influenced by management: I do know that the people in a rating agency that care about the Franken amendment (ie senior management) and the people that decide the rating are two completely different groups. (cue much dismissive wielding of a variant of the argument from acquaintance)

but then suggested that All they had to do was be a tiny bit more lenient, and bankers would give them the deals. This led to a downwards spiral in deal requirements. it always went step by step and, given the available at the time, it was almost impossible to resist.

Which as others have pointed out, involves management interfering in the rating process by one means or another.

You explained this by saying I was trying to make a distinction between a regulator that does something bad, purposefully vs one where the circumstances lead to the change. That’s why I mentioned that when all this was happening it wasn’t so clear.

No sign of such subtlety when you were arguing that Once the possibility that S&P reached its conclusion through proper analytical means was ruled out by bloggers it meant they had to be either stupid or evil. There was no option of unclear, step-by-step, almost-impossible-to-resist corruption – i.e. the main ingredient in most large-scale conspiracies – then, was there. Instead the ‘intentional action’ option was presented as all manichaeanism and paranoia and going off the deep end.

Also, AB: you may be right that ‘some conspiracy theory’ about political motive is less plausible than your conspiracy theory about publicity-seeking. I’m not so sure though – how much publicity do S&P need? I think currying favour with someone or other is more plausible really. Wasn’t there something in one of the web pages cited about the Reps having given ‘assurances that they wouldn’t retaliate’? If that’s right, it amounts to prior consultation and agreement, of cooking up a plan by any other name.

It always seems to take an inprdinately long time, but once the bullshit has been cleared away, disputes about ‘Conspiracy Theories’ in the end seem remarkably often to come down to choosing the correct one from a number of competing conspiracy theories.

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AB 04.22.11 at 11:55 am

@277 This is less of an irritatingly pedantic point than it might appear: mine isn’t a conspiracy theory as unlike the political explanation it doesn’t require S&P to be conspiring with anyone else. The latter would be absolutely explosive both for S&P and the Republicans, or whoever the co-conspirators were, if details were ever revealed. The more organisations involved the more likely a leak. All it would take is a disgruntled Democrat (or indeed merely a sane principled person) at S&P to forward an email, while an internal S&P culture of saying things for effect about extremely low probability events wouldn’t even need to be written down.

How much publicity do companies like S&P need, or rather want? More. Always more. Always.

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AB 04.22.11 at 12:10 pm

NB this would be a marginally more up-market version of those endless Ladbrokes press releases offering odds of a million to one on Prince William marrying Elton John, or Kate Middleton turning out to be an alien, or what have you.

281

John Emerson 04.22.11 at 12:19 pm

Gee, I’m sorry that I retired from trollery. I find it hurtful to be so easily replaced.

Gabriel seems to be my diametrical opposite, an institutional positivist who takes institutions such as S&P as data or givens which are not to be called into question and whose validity must be the starting point of whatever is said, whereas I am by contrast an institutional nihilist who will not be happy until all institutions come crashing to the ground and are consumed in flames. Presumably Gabriel’s life is so much premised on certain institutions that he cannot imagine the world without them.

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dsquared 04.22.11 at 1:00 pm

I would be very interested to hear David Merkel’s argument as to why a corporation which had the assets and liabilities of the USA, plus the power to tax, would not be investment grade. It seems to me rather likely that it would.

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John Emerson 04.22.11 at 1:15 pm

Not everyone recognize’s the government’s power to tax. That’s a key hidden premise of the whole “The US is broke” argument.

Also, “Numbers don’t lie”. Trillion trillion trillion. Th trillions are gonna getcha.

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ScentOfViolets 04.22.11 at 3:20 pm

It always seems to take an inprdinately long time, but once the bullshit has been cleared away, disputes about ‘Conspiracy Theories’ in the end seem remarkably often to come down to choosing the correct one from a number of competing conspiracy theories.

Yes, there’s definitely more than a whiff of the treason never prospers bit. What tends to happen with people like these (ain’t it always) is that after having their faces rubbed in the facts, they’ll seek to convert it into a ‘win’ by sneering that what you’re talking about isn’t a conspiracy, it’s ‘an informal informational network’ or some such clunky euphemism, and that you’re obviously such a naif that you can’t even say your words right.

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Gabriel 04.22.11 at 3:26 pm

If you examine the figure, it talks only about the absolute number of defaults for each ratings cohort. If you examined percentages of default, you’d find below B rated issuers to have much higher rates of default.

Yes, good point.

the fortunes of nations are subject to change, sometimes by slow degrees over many years, and sometimes much faster, and in ways that fit poorly with your (entertaining I’ll admit) analogy

Hmm.. I guess one could slowly become more and more attracted to Elton John? j/k

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ScentOfViolets 04.22.11 at 3:32 pm

How much publicity do companies like S&P need, or rather want? More. Always more. Always.

Well, here’s the thing, S&P having been pumping the doom and gloom bellows for literally years before this announcement. What elevated this latest bit of nonsense from a non-story to front-page news was the decision by certain media outlets to make it so. Iow, if there’s coordinated action, it doesn’t involve just S&P, and it doesn’t have to be for their sole benefit.

I suspect that a lot this huffery and puffery is just to get the meme circulating among the general public that default is both a) a Very Serious Thing, and b) a Distinct Possibility. Notice how nicely this dovetails with another strident claim, namely that there is no SS surplus, just a “bunch of iou’s” and the money is spent and long gone and “we’re” not getting it back.

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AB 04.22.11 at 8:13 pm

@286 Iow, if there’s coordinated action, it doesn’t involve just S&P, and it doesn’t have to be for their sole benefit.

Are you suggesting (this is a genuine question, not me being arsey) that this is likely to be a coordinated campaign involving the media deliberately trying to circulate the sovereign default meme for the purpose of influencing policy, as opposed to just knowing a good story when they see one?

If so, and I’m afraid you will just have to believe me on this or not, I am in a very very good position to say that this is emphatically not so in the case of the few media outlets whose coverage of these issues is most likely to give such a meme credibility. A well-timed press release designed to attract media attention at a time of general focus on the issue, yes. News organisations recognising a good story, yes. A coordinated campaign designed to influence policy, no.

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ScentOfViolets 04.22.11 at 9:53 pm

@286 Iow, if there’s coordinated action, it doesn’t involve just S&P, and it doesn’t have to be for their sole benefit.

Are you suggesting (this is a genuine question, not me being arsey) that this is likely to be a coordinated campaign involving the media deliberately trying to circulate the sovereign default meme for the purpose of influencing policy, as opposed to just knowing a good story when they see one?

If so, and I’m afraid you will just have to believe me on this or not, I am in a very very good position to say that this is emphatically not so in the case of the few media outlets whose coverage of these issues is most likely to give such a meme credibility. A well-timed press release designed to attract media attention at a time of general focus on the issue, yes. News organisations recognising a good story, yes. A coordinated campaign designed to influence policy, no.

See, that’s one of the problems when discussing conspiracy theories: what counts as a “conspiracy”? And since this isn’t a well-defined term, there’s going to be subjective component to it. Worse, there will be some people who have good incentives to either pooh-pooh that characterization of what’s going on or really to boost that interpretation. So you’ll get stuff like a few people on this thread who go on about any sort of coordinated action as literally thinking there’s a Round Table of Evil in the sub-sub-basement of Standard and Poors chaired by Dr. Evil. I haven’t seen anyone here who has said anything remotely close to this, but that is how their words seem to be maliciously misinterpreted.

Otoh, there really doesn’t have to be all that much coordination in “coordinated action”. For example, I tend to see the S&P types not as being actively malevolent and consciously acting against the interests of the nation at large, but rather as incompetents who have been carried away by an inflated notion of their importance and their influence. Buffoons whose vanity can be easily played upon by the right operators. And these small men – who imagine themselves to be great men – are easily flattered and gulled into making ridiculous statements, thinking not only that what they are doing is for the good of nation, but both beguiled by and in love with the notion that their mere words can have such Awesome Consequences.[1]

So you don’t need cadres of black ops to get this sort of thing out there. Just get S&P to stick their neck out, have one or two friends – drinking buddies – highly placed in the traditional media who will report on this non-story, and then get the real propaganda apparatus that is under your control to blast the message that “even the liberal media is taking this seriously”. Which of course the liberal media now has to treat it that way at least for a short while on account of the fact it’s been so hyped and it’s their reputations for “responsibility” and ” seriousness” on the line.

Now, I’m not saying this is what actually happened – I have no idea in fact and I don’t think I’ll ever know on account of me being a very small fry, not a Player at all – but I am saying that to my mind this fits the definition of “coordinated action.” It’s quite possible that other people would say that’s not a “conspiracy” or a “coordinated action”, that’s the way things normally work and that my naivete in these matters is charming when it isn’t tedious. Who know? They might even really mean it. Hence my reference to that little epigram about treason:

Treason doth never prosper, what’s the reason? For if it prosper, none dare call it Treason.

Since this was written by the guy that a lot of people credit with inventing the flush toilet in more or less it’s modern form, I’d say he’s worth listening to ;-)

[1]It’s the same old same old: it’s not that businesses like these were Organizations of Evil from the get-go. In fact, I think (or I’d like to think) that they were founded and operated at least at first with some rather high-minded and noble intentions, and that initially the employees were dedicated, extremely competent, and rather hard-nosed. But as time went on, the line against bad actors couldn’t be held. There was too much short-term advantage in giving unrealistically favorable ratings to certain high-paying clients. The firms that didn’t go with the flow couldn’t realistically competed and went under. The firms that saw the handwriting on the wall and whose management urged their analysts to be “understanding” (or some such feel-good nonsense), well the good ones, the professionals, the ones who took pride in their work, they either quit or got the boot when they didn’t get with the program. So what was left were the pliables, the yes-men, and the incompetents who found they could hold onto their jobs and even advance despite their incompetency by being yes-men.

So it goes. In a bit of synchronicity, I recently read an article about how this dynamic plays out in the natural world: It seems that reciprocity and mutual-benefit relations work a lot better when cheaters are promptly and significantly (and quite mindlessly – some of these actors are plants) punished. The pairings where either one or both partners doesn’t play some tit-for-tat sort of strategy? They don’t tend to work nearly as well. Iow, what happened with the ratings agencies isn’t yet another example of the biblical perfidy of humans. That’s just the way these things work here on planet Earth.

My apologies for going on for so long – it’s the weekend and I’m full of pep and coffee and no classroom responsibilities that need doing to burn off that excess energy.

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AB 04.22.11 at 10:37 pm

@288 Just get S&P to stick their neck out, have one or two friends – drinking buddies – highly placed in the traditional media who will report on this non-story.

I’d agree with you that “co-ordinated action” (or possibly even “conspiracy”) would be an accurate description of the narrative you give. I also agree that the agencies had a massive conflict of interest when it came to rating financial assets, in that they were paid by the companies whose products they were rating.

But the media piece of it just isn’t credible on an issue like sovereign debt in the traditional financial press. There would have to be way too many people involved for such an exercise to work – reporters, newsdesks, editors – and too little for the media outlets to gain.

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ScentOfViolets 04.22.11 at 10:55 pm

But the media piece of it just isn’t credible on an issue like sovereign debt in the traditional financial press. There would have to be way too many people involved for such an exercise to work – reporters, newsdesks, editors – and too little for the media outlets to gain.

I’m not sure what you mean here. I’m suggesting that on the media side all it took was a couple of legitimate high-rankers in the biz to get the story out there and told in a certain way. But once it was out, no further action was necessary. For reasons not entirely clear to me, some stories have legs and others don’t. I mean, just why were the affairs of one Charlie Sheen so prominent and omnipresent just a few weeks ago? Why would anyone imagine that his antics would have be of interest to the general public?

Iow, if this story had been confined to the financial mags and the business section of the papers instead of an above-the-fold item, it might not have gotten the traction it so obviously did. Now, I don’t read those sorts of magazines so I don’t know how good a job they did on the reportage, but nothing I read or heard in the MSM ever suggested that S&P had been carrying on like this for a number of years and this latest was just more of the same. And if that piece of the story had been widely disseminated by the MSM, do you think it would have gotten the play that it did?

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ScentOfViolets 04.22.11 at 11:04 pm

I’d agree with you that “co-ordinated action” (or possibly even “conspiracy”) would be an accurate description of the narrative you give. I also agree that the agencies had a massive conflict of interest when it came to rating financial assets, in that they were paid by the companies whose products they were rating.

But the media piece of it just isn’t credible on an issue like sovereign debt in the traditional financial press.

Let me ask you another question about financial reportage, this time about how you saw the Ryan budget being covered. Did it get the Serious treatment in, say Money Magazine (assuming you read it and assuming you regard it as a respectable organization)? Played up with the usual rah-rah pap with the terms “courageous” and “hard choices” made liberal use of and that Obama was going to have to figure into his negotiations with the Republicans? Or was it immediately derided and jeered at as nonserious? As being nothing more than bad-smelling smoke and propaganda – and not very slick propaganda at that?

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piglet 04.22.11 at 11:13 pm

Mrs Tilton 274 and dsquared 282,

I would be very interested to hear David Merkel’s argument as to why a corporation which had the assets and liabilities of the USA, plus the power to tax, would not be investment grade. It seems to me rather likely that it would.

The debate is getting bizarre around here. Has it become an article of faith for liberals and progressives to defend the creditworthiness of the world’s rapidly declining superpower? To what end? To give a short answer to your question, the US has many huge structural problems, among them a 30+ year neglect to maintain and upgrade its direly needed public infrastructure (which means that the country is left with a badly degraded “assets” base). To point this out is different from what S&P and right wing deficit hawks are peddling but it also doesn’t square with the Panglossian view that is being peddled so bizarrely on this thread. This is an embarrassing example of argument by reflex.

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Gabriel 04.22.11 at 11:15 pm

I also agree that the agencies had a massive conflict of interest when it came to rating financial assets, in that they were paid by the companies whose products they were rating.

And yet that’s true of all other assets rating agencies cover, yet the results are completely different. In the case of municipal debt, for example, you have the opposite argument, that rating agencies have been much too conservative. Yet in that market issuers also pay.

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Alex 04.23.11 at 2:03 am

Gabriel:

And yet that’s true of all other assets rating agencies cover, yet the results are completely different.

So? Perhaps municipalities haven’t been doing the shaking down that Wall Street has:

http://www.businessinsider.com/moodys-sandp-senate-report-financial-crisis-ratings-agencies-2011-4

David Merkel:

S&P was not pulling on the cape of Superman. They are merely pointing out that the king might not be wearing any clothes.

You know normally when a child says that the emperor king is wearing no clothes, and everyone else says he does, it’s a prank, or the child is mentally ill. You seem to have some strange idea that spouting (what you perceive to be) contrarian ideas is inherently virtuous. The voice in the wilderness may sometimes be right, but not because it’s in the wilderness. The universe doesn’t care about an argument from unpopularity.

And in fact, your perception of this whole thing is backwards anyway. The chattering classes almost to a man and woman are running around with their hair on fire. They’re in effect celebrating the splendor of S&P’s extravagant finery. The likes of Krugman and Galbraith are pointing out that this particular Emperor has no clothes.

And if you are relying on the laughter of economists to buttress your point, you are really scraping the barrel, given their track record on macroeconomic prediction.

So because some economists (of which Galbraith is AFAIK not one) failed in predicting the economic crisis, we should ignore all predictions all economists make (including by ones not implicated in failing to predict the crisis), except any made by economists at S&P, even though they did fail to predict the crisis?

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Gabriel 04.23.11 at 2:10 am

So?

So it’s not much of an explanatory variable when it is consistent with diametrically opposed results.

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ScentOfViolets 04.23.11 at 2:41 am

The debate is getting bizarre around here. Has it become an article of faith for liberals and progressives to defend the creditworthiness of the world’s rapidly declining superpower? To what end? To give a short answer to your question, the US has many huge structural problems, among them a 30+ year neglect to maintain and upgrade its direly needed public infrastructure (which means that the country is left with a badly degraded “assets” base).

Could you quote a post here where someone has said that? That’s certainly not been my impression. And while I can’t speak for others, that’s not what I’ve been saying at all. Apart from pointing out the past incompetence of S&P at this sort of thing to justify my skepticism of their “professional rating” in this instance, I’m saying that under normal circumstances the chances of the United States actually defaulting on it’s debt obligations is nearly nil to nonexistent (for reasons others have already explained above). The only way for default to become a possibility worth worrying about would be through bizarre and unforeseen circumstances, say getting sucked into a hot war with nuclear exchanges. But those are just the sorts of things that can’t be analyzed in any meaningful way, at least not by the likes of S&P, and “downrating” the U.S.’s creditworthiness on that basis is the analysis of “adorabel children wearing their underpants outside their trousers”.

That doesn’t mean, however, that the future is rosy and there’s nothing to worry about or big problems facing us that will have to be solved some way or another. Quite the contrary. Iow, those two sets of beliefs are not contradictory. And I don’t think anyone has said otherwise. Again, if you think this is the case, feel free to quote the post.

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Alex 04.23.11 at 3:17 am

So it’s not much of an explanatory variable when it is consistent with diametrically opposed results.

Care to read past the first word I wrote?

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AB 04.23.11 at 3:22 am

@290, 291 “I’m suggesting that on the media side all it took was a couple of legitimate high-rankers in the biz to get the story out there and told in a certain way.”

The S&P story took off in all the main newswires and financial newspapers – it takes more than “a couple of legitimate high-rankers” to give a story like that legs. The reason it did so was because it was very well timed. It was a new hook in a big running story, the US fiscal debate, which was at that point short of new developments. There are outfits like this – http://www.cebr.com/ – who are very smart about doing this: they spot a news story and come out with a report attempting, or purporting, to give it some analytical basis. (Charlie Sheen I can’t answer for.)

I don’t consider Money Magazine to be a particularly serious publication. The Ryan plan was a legit *news story*, particularly from the *political* POV, because the Republicans have hung a lot on its credibility and the competing visions of the US’s fiscal future are very likely to form a big part of the next election.

For how a proper financial publication addresses its credibility as a *policy proposal*, see http://www.ft.com/cms/s/0/169d6ec6-653e-11e0-b150-00144feab49a.html#axzz1KDk7INOz – assuming that, unlike morb above (who has gone very quiet since her/his only example of a solely local currency default was exploded with a single citation), you consider good information worth registering or paying for.

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Martin Bento 04.23.11 at 8:30 am

To return to a previous state of the discussion (Andrew at 96 and Studentee):

Andrew, magnitudes matter. Could the US spend one dollar that is not paid for with debt without massively adverse economic consequences? Of course. So then the question is not whether but how much the government could monetize, under what conditions, and with what consequences. And the main consequence we worry about is inflation caused by, to a first approximation, rate of expansion of the money supply beyond rate of increase in GDP. But is that not an inflationary pressure like any other? Lowering interest rates increases the velocity of money and increases the money supply through multiplier effects, generating inflation. No one seems to think lowering interest rates is inevitably some horrific disaster because it generates inflationary pressure. It is an action that is appropriate at some times and not others, and the resultant inflationary pressure is desirable at some times and not others. It is true that interest rates have a zero lower bound that limits them, and monetization must be deliberately limited, but that doesn’t imply it has to be limited to zero. Currently, we are below the official inflation target, even further below the long term price level trend, and the Fed rate is barely above zero. There is room for inflation, and we could use the stimulus. And the inflationary pressure of the monetized debt could be offset if needed, e.g., by increasing reserve requirements.

Of course, Studentee seems to be advocating an MMT position, and I don’t think “something for nothing” is much of an objection to this, though I haven’t examined MMT enough to reach a verdict on it myself. (“something for nothing” sounds a lot like the “common-sense” view that the government must tighten its belt in a recession. We all agree that is wrong, right?) But there must be growth in the money supply to match economic growth just to prevent deflation. There must be more if we want modest inflation (as we do, to keep the money out of mattresses). This growth can come from monetized government debt or from the multiplier effects of fractional reserve banking (leaving out net international capital transfer as this zeroes out globally, and therefore does not affect the average case). Someone, therefore, will get to inject it initially into the economy – either the government to achieve public goals or the banks to loan it to those they consider good risks. So, yes, Milton, there is so such a thing as a free lunch, and either the banks or the government (or a combination) is going to get it. The insistence from the financial industry that it must always everywhere be completely the banks and not at all the government seems both dogmatically ideological and keenly self-interested. The MMTers add that what the banks inject becomes debt, and therefore cannot be a basis of net savings. Perhaps – I’m on the fence – but I will not accept moralistic objections that this is “something from nothing”. The whole name of the economic game is creating productive surpluses – someone (possibly, but not necessarily, everyone) is getting more than they put in.

However, on the question of what the Fed would actually do, I’m with Gabe. The Fed would definitely tell Congress to stuff it in extremis. Their vaunted independence exists precisely for this purpose. However, modern central banks are not immutable facts of nature but contingent creations of governments, their independence can be stripped, and there is increasing public sentiment to do that. Trying to force the government to default might be just the thing to make the unthinkable thinkable.

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piglet 04.23.11 at 5:09 pm

“Could you quote a post here where someone has said that?”

You can’t be serious Scent. It has been said that questioning the creditworthiness of the US was ridiculous, stupid, and “tugging at superman’s cape”. Maybe not by you but these things have certainly been said. And Henri’s suggestion at 220 has been tellingly ignored by everybody.

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Henri Vieuxtemps 04.23.11 at 6:04 pm

Actually, D^2 responded, saying, among other things, that US politicians don’t talk about it. But I’m not so sure; what about all that talk about social security trust fund being an accounting fiction? And if they don’t mind defaulting on one class of creditors, what would stop them from doing it to some other subset too, when they feel like it?

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ScentOfViolets 04.23.11 at 6:29 pm

“Could you quote a post here where someone has said that?

You can’t be serious Scent. It has been said that questioning the creditworthiness of the US was ridiculous, stupid, and “tugging at superman’s cape”. Maybe not by you but these things have certainly been said. And Henri’s suggestion at 220 has been tellingly ignored by everybody.

I am serious. I’ll repeat what I just said: nobody seriously thinks the odds that the U.S. will default on it’s various debt obligations are anything but very marginal to nil. Go back up to the top and start reading from about post number 30 to, well, maybe 200 for all the reasons why not.

But that is a different and much narrower statement than the one you’re talking about, which is “creditworthiness”. So, for example, while I don’t think the United States won’t be defaulting any time soon, I also think that those declining indicators you mention (among other indicators) could imply that the cost of borrowing money will rise, in fact rise significantly (and here we’re getting into political territory).

I hope that clears up any misunderstandings. Now, do you have any quotes from anyone in this thread who is going with your much broader statement?

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ScentOfViolets 04.23.11 at 6:35 pm

The S&P story took off in all the main newswires and financial newspapers – it takes more than “a couple of legitimate high-rankers” to give a story like that legs. The reason it did so was because it was very well timed. It was a new hook in a big running story, the US fiscal debate, which was at that point short of new developments. There are outfits like this – http://www.cebr.com/ – who are very smart about doing this: they spot a news story and come out with a report attempting, or purporting, to give it some analytical basis.

Maybe I’m misunderstanding you, but it looks like your last sentence directly contradicts your first three. In fact, it looks as if this company’s business model depends on the comments I made being generally true. What am I missing?

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piglet 04.23.11 at 9:23 pm

Scent: “nobody seriously thinks the odds that the U.S. will default on it’s various debt obligations are anything but very marginal to nil… But that is a different and much narrower statement than the one you’re talking about, which is “creditworthiness”

But then you agree with S&P. Or S&P agrees with you, if you prefer. Now what again was so hotly debated for the last 300 comments?

I indeed overlooked dsquared/s response to Henri in 221:

In the light of this, it’s really silly to say that the general obligation federal government bonds of the USA, which are generally regarded as the definitional risk-free assets, carry measurable credit risk.

“Which are generally regarded as” is a bit of a giveaway. Hint: lots of three-letter acronymed securities were “generally regarded as risk-free” up to recently. That phrase should be out of usage by now. As to the claim itself, no it isn’t silly at all to regard US treasury bonds as risky. The question for foreign investors is not so much whether the US might default but what happens to the dollar. A further massive devaluation of the dollar is by no means an unlikely scenario. Maybe you would prefer to call that an exchange rate risk rather than a “credit risk” but for a foreign investor, the consequences are the same, a risk to lose a lot of money.

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Barry 04.23.11 at 9:43 pm

“Hint: lots of three-letter acronymed securities were “generally regarded as risk-free” up to recently.”

Generally, they were regarded as being almost risk-free, by the S&P, which clearly had one question about them – were the issuers willing to pay for AAA ratings?

Which comes back to the whole f*cking point of things: S&P is clearly hyperdishonest or hyperincompetant.

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ScentOfViolets 04.23.11 at 9:51 pm

Piglet, I can’t make neither heads nor tails of your comment. And, maybe this sounds kind of condescending but I’ve got to ask you this to be sure: are you aware that a rating which reflects the possibility of default is different than the cost of borrowing money? I’m sorry, but from what I can make out of what you’re writing, you don’t seem to know this.

Maybe you could repost an updated version of those comments?

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piglet 04.23.11 at 10:55 pm

You know normally when a child says that the emperor is wearing no clothes, and everyone else says he does, it’s a prank, or the child is mentally ill.

Take this, Andersen. The voice of grownup reason has spoken.

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piglet 04.23.11 at 11:02 pm

Piglet, I can’t make neither heads nor tails of your comment.

I guess it’s not a Laplace coin.

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Alex 04.23.11 at 11:45 pm

Please tell me this is a parody:

http://www.cebr.com/wp-content/uploads/Forecasting-eye-The-Vickers-Report.pdf

Piglet:

Take this, Andersen. The voice of grownup reason has spoken.

Is it controversial to claim that the novice contrarian is normally wrong and everyone else right?

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sg 04.24.11 at 4:18 am

Count me as another person who is patiently waiting for dsquared’s opinion of MMT, with copious footnotes plus budweiser reference[1]. I have tried understanding it myself, and find Billy Blog quite convincing, but then I am reminded of all the dodgy history books I have read and subsequently discovered were full of lies and terrible analysis that seemed plausible to me (because I haven’t studied history since I was 15).

So please, dsquared, can you stop focusing on unimportant things like your career and life and stuff, and get on with the MMT post?

The same applies to Prof. Quiggin as well. Get your priorities straight! And remember that number one in the rank ordering is satisfying your blog audience.

fn1: On which topic, btw, I am increasingly coming to disagree with the big D.

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Andrew 04.25.11 at 4:40 am

Martin, I agree with you, and of course FOMC purchases of treasuries are arguably debt monetization. And so yes, it comes down to magnitudes.

My slightly incredulous question back @96 was as to whether studentee thought that the government could simply print its deficits, so to speak (ignoring the open market requirement).

But, I don’t think debt monetization would be helpful in the stressed scenarios where default would be more probable. Even if Congress suspended the open market requirement, and the Fed was able to buy bonds directly from the Treasury, the very fact that government was taking such measures would would cause a large number of negative macroeconomic effects, increasing borrowing costs and making monetization even less a plausible solution.

What does continue to puzzle me is the reaction to S&P’s outlook change. Based on some of the comments you’d think S&P was pronouncing imminent default.

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AB 04.25.11 at 6:27 pm

@303 You’re missing the difference between a media outlet deliberately trying to circulate a meme to influence policy and said outlet looking for new hooks for a running story which it did not itself create.

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ScentOfViolets 04.26.11 at 1:45 am

You’re missing the difference between a media outlet deliberately trying to circulate a meme to influence policy and said outlet looking for new hooks for a running story which it did not itself create.

Ah, got it. I got the impression from your earlier post that they were figuring the angles before the story was published.

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Martin Bento 04.26.11 at 5:07 am

Andrew, agreed that a panic monetization in the face of imminent collapse would be unhelpful. But a long term policy of monetization to both stimulate the economy and at least partially offset the contractive effects of both cutting spending and raising taxes might be exactly what is needed. Does away with debt as well. For this reason, I’m annoyed at people dismissing MMT without seeming to have strong arguments for doing so. If MMT is right, then even balancing the budget over the business cycle is misguided. This is rather important.

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ajay 04.26.11 at 8:27 am

304: lots of three-letter acronymed securities were “generally regarded as risk-free” up to recently. That phrase should be out of usage by now.

No they weren’t. The phrase “risk-free rate” has a very definite meaning in finance, and if you tried to use the yield on a CDO as the risk-free rate in your calculations, and justified it by saying “but it’s AAA-rated!” you would probably find yourself in court.

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