JONATHAN COHN AUGUST 8, 2011
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Everybody was predicting that S&P's decision to downgrade American debt would cause the stock market to decline. And, sure enough, the Dow is down more than 300 points as I write this.
But is the market reacting to the downgrade itself? Or the misguided reaction it might spark? That isn't so clear.
Consider the comments two analysts made to the New York Times earlier today:
The decision late Friday by the ratings agency Standard & Poor’s to downgrade the United States’s debt rating one level to AA+ from AAA has global implications, said Alessandro Giansanti, a credit market strategist at ING in Amsterdam.
“We can see that this may force the U.S. to move more aggressively to cut spending,” he said, something that could drive the already weak economy into recession and weigh on the economies of all of its trading partners. “That’s the main driver” of the stock market declines, he said. ...
While the debt downgrade was likely to continue to reverberate, investors are also concerned about the weak United States economy and Europe’s debt problems. ...
Kevin H. Giddis, the executive managing director and president for fixed-income capital markets at Morgan Keegan & Company, said the Federal Open Markets Committee was not likely to take action on interest rates, but would most likely discuss what policies would give support to the market.
“The rest of the conversations should happen in Washington,” Mr. Giddis said in a research note. “This country has an economic problem, which can only be fixed with jobs, not governmental liquidity, and that is the one that worries me the most.”
It sounds to me like those analysts are at least partly, if not mostly, concerned the U.S. will react to the S&P downgrade by cutting spending even more severely, slowing the economy even further. And that's a very realistic concern, given what lawmakers have been saying for the last few days.
Of course, I'm not an expert on the dynamics of Wall Street or even on the economy generally. But Paul Krugman is. And he seems to be thinking the same thing:
S&P declared that US debt is no longer a safe investment; yet investors are piling into US debt, not out of it, driving the 10-year interest rate below 2.4%. This amounts to a massive market rejection of S&P’s concerns.
The “signature” of debt concerns should be stock and bond prices both falling; what we actually see is those prices moving in opposite directions. And that’s normally the signature of concerns about a weak economy and deflation risk (see Japan, decline of).
What triggered economy fears? To some extent I think this is a Wile E. Coyote moment, with investors suddenly noticing just how weak the fundamentals are. Also, the mess in Europe.
And maybe, maybe there is an S&P story — but not the one you think. Arguably, that downgrade will bully policy makers into even more deflationary, contractionary policies than they would have undertaken otherwise, which has the perverse effect of making US debt more attractive, since the alternatives are worse.
Krugman asks whether these people are trying to make his head explode. I know how he feels.
10 comments
And this could have been predicted during the period 2001 through 2008 when GWB and the Republicans were running up the debt. In fact, it was predicted. Many times. That one day the government would need to respond to a major economic downturn, and all that debt would limit our options. And yet here we are. And guess who is controlling the policy debate? The same folks who gave us over $6 trillion of debt, a deregulated financial industry that almost destroyed itself and everybody with it, and a debilitated middle class. PK blames a lazy media. And he's right. Starting with his own paper, which today ran a front page article on the need to cut government spending more aggressively in response to the downgrade. Maybe it's the heat that's making people stupid.
- rayward
August 8, 2011 at 2:31pm
If only it were possible to invest in Stupidity Futures, we could all make a killing on what's increasingly likely to occur in the US and the world economy. Hedge fund managers - get cracking on this!
- bonsaibush
August 8, 2011 at 2:47pm
We should begin fighting back by calling a spade a spade, which to say that the 08-09 recession should be called the Bush ll recession. Most of the contemporary economic woes can be traced to the Bush ll recession.
- arnon
August 8, 2011 at 3:08pm
I think the market's also spooked about the rating implications of the downgrade for the private market as well i.e, American corporate debt, see Fanny and so on. What's Krugman going to be like in Romney's second term if his head's going to explode now? I see the Democrat presidential nominee for 2012 has a somewhat bitter but truthful take on this. http://www.economonitor.com/blog/2011/08/why-sp-has-no-business-downgrading-the-u-s/
- IggyPop
August 8, 2011 at 3:14pm
This downturn will shortly correct itself after investors see the sky isn't falling...yet. Plus ça change...
- Tgossard
August 8, 2011 at 3:25pm
I'm happy to see accents and symbols appear as they are, instead of #º|>.
- Tgossard
August 8, 2011 at 3:31pm
I agree in part with Tgossard's comment. I would add that the market is also reacting (perhaps mostly) to economic problems in Europe. In any case, it won't be easy to separate the reactions to S&P's politically driven downgrade from the reactions to the problems with the Italian and Spanish economies.
- arnon
August 8, 2011 at 4:03pm
malahat, I don't think we are there yet, however this is what the right wing is working on. Drudge a faithful right wing lapdog had the following headline: "BARACKALYPSE NOW"
- arnon
August 8, 2011 at 5:10pm
Yes, they are completely irrational.
- arnon
August 8, 2011 at 6:28pm
Regardless of what posters write, the party to blame here is the Republicans. Make sure it's clear that Republicans, not 'them', or 'right-wingers', or even Tea Partiers are responsible. It's the Republicans. Right after the debt deal, someone posted a series of comments that had Republican's claiming they were in charge of monetary policy now. So, Republicans are responsible for the S&P downgrade as well as the resulting fallout including more cuts leading to more downward spiral. Let's not forget it.
- jet
August 8, 2011 at 7:25pm