Will investors ignore S&P’s US credit downgrade?

The long-expected downgrade of the United States government's credit rating has been confirmed by Standard & Poor's. Congress had been warned for weeks by the big three credit rating agencies that their brinkmanship over raising the country's debt limit might lead to a downgrade even if the US didn't actually default.

In the end, only S&P acted on its threat, giving the US its new, lower rating of AA+ yesterday. The other big rating agencies, Moody's and Fitch, had earlier held the US at the top rating, AAA, and said yesterday they have no plans to follow S&P's move.

The downgrade came after a day of heated argument between S&P and US Treasury department officials, who pointed out that the ratings agency had got its sums wrong, overstating the US deficit over 10 years by $2 trillion.

The Treasury was bullish over the downgrade, saying: "A judgment flawed by a $2 trillion error speaks for itself."

S&P said that it wasn't only fiscal matters that determined the downgrade: "There are two things that we should emphasise. One is that the political discourse has diminished the credit standing of the United States. The other is a fiscal analysis."

Credit downgrades normally mean an increase in the cost of borrowing for the country's government, but there is debate over whether S&P's rating will make any difference to the US, which nobody seriously believes will default on its debt. 

Why pick on the US? Robert Peston, for the BBC, tackles the question of why S&P has chosen to downgrade the US rather than more indebted nations.

He gives two reasons: first that US government debt is on a "rising trend"; second is "because of the political rows over raising the US debt ceiling [S&P] have lost confidence in the decision-making mechanism of America. That is as damaging in terms of the confidence of investors as anything else."

Faisal Islam, Channel 4 News economics editor, explains on Twitter that the US was downgraded rather than the UK because our debt is set to peak in 2015. However, he does appear to make a dig at S&P by pointing out that the agency "rates the island of Guernsey (AAA) as a better credit risk than the USA (AA+)".

Who are S&P to judge the US? Paul Krugman, writing in the New York Times, does much more than take a dig at S&P. He labels the downgrade an "outrage", recalling that S&P was one of the rating agencies who gave triple-A status to the securities backed by subprime debt that plunged the world into the financial crisis in the first place.

"On one hand, there is a case to be made that the madness of the right has made America a fundamentally unsound nation... On the other hand, it's hard to think of anyone less qualified to pass judgment on America than the rating agencies. The people who rated subprime-backed securities are now declaring that they are the judges of fiscal policy? Really?"

This is bad news for Obama. S&P may have appeared to blame the Republican party, which picked a fight over the debt ceiling, for the downgrade, but Nico Hines in the Times, says Obama electoral prospects have dimmed. "The nuances and the reasons behind the decision offer no respite for Mr Obama. As the re-election battle looms large, a history-making president has broken new ground again, this time it is no cause for celebration.

"The downgrade... is likely to hamper the economic rebound by forcing up interest rates and undermining confidence, it also offers an easy target for those wishing to diminish the president’s political standing."

The markets will ignore S&P - again. Dylan Matthews, in the Washington Post, explains why the downgrade from AAA to AA+ may not matter. "Now that the debt ceiling debate has passed no one thinks [the US] is going to default any time soon", he writes.

"Investors that might normally be inclined to not buy or keep AA-rated debt could make an exception for US Treasuries.

"Further, AA is still a very high rating. AA firms have statistically identical performance to AAA ones, according to the Fitch rating agency. Just this past January, S&P downgraded Japan's debt from AA- to AA, and markets more or less didn't care." ·