Why the US Credit Rating Was Downgraded

By Alan Caruba

To begin with, the debt ceiling was lifted in part to hold onto our historic AAA rating of U.S. securities, but that didn’t work. On August 5th, Standard & Poor’s, one of three major rating agencies, downgraded the U.S. to AA+, the first such downgrade in the history of the nation. The liberal media immediately attacked Standard & Poor’s, but odds are they will be joined soon enough by Moody’s and Fitch.

As the air is filled with charges and countercharges as to who is to blame for the downgrade, and blaming George W. Bush has become a joke (yes, he does share some of the blame), the numbers tell the story. As the Washington Times recently noted, “In 2008, the federal budget deficit was around 3 percent of gross domestic product. In 2011, it’s around 11 percent.”

“Total federal debt was $10.7 trillion at the end of 2008 and is currently $14.6 trillion. Debt as a percentage of GDP was a painful 69 percent at the end of the Bush years, but Mr. Obama is pushing it over 100 percent, another disgraceful historic milestone.”

In the week leading up to the last-minute agreement to lift the debt ceiling the Tea Party movement’s members were being called “terrorists”, a notion so idiotic that it defies belief. As the debt ceiling debate wound down, that was all one heard from Democrat politicians and their mainstream media toadies. It is a measure of their desperation.

Neither the President, nor the leadership of the Democratic Party apparently got the message of the 2010 elections that took away the control of the House and gave it to Republicans and new Tea Party caucus members. The initial Democrat response was to call them “extremists” for wanting to get spending under control, but mostly to repeal Obamacare.

The House, in fact, did vote to repeal Obamacare. The Tea Party movement began with its opposition to that legislative monstrosity. On March 9, 2010, Americans filled the streets of Washington, DC, right up to the stairs of the U.S. Capitol Building. David Axelrod, then a White House consigliore to President Obama, dismissed them saying, “They are wrong.”

They were not wrong then and, in many respects, they are not wrong now. They are, however, impatient. That is historically American because we have always been a people in a hurry. The Tea Party movement rose out of widespread opposition to Obamacare.

At some point the nation has to begin the long hard process of reversing a decades-long spending binge by both the government and individual Americans, many of whom turned their homes into ATMs or purchased homes they could not afford.

The housing bubble burst in September 2008 at the end of President Bush’s second term. It’s worth remembering that, when Bush came into office President Clinton had bequeathed him a budget surplus.

Bush expanded Medicare with a prescription benefit. When 9/11 occurred on his watch, it drained a trillion dollars out of the economy. He responded with a war in Afghanistan and then added a war in Iraq for good measure. They seemed like a good idea at the time, less so now. The Bush tax cuts reduced government revenues and were very popular, but bills must be paid. Massive borrowing ensued.

When the financial crisis hit, President Bush was at the tail end of a long period of U.S. history dating back to the 1930s Great Depression that made it inevitable. Social Security and Medicare/Medicare have become unsustainable. In effect, the housing bubble was just the trigger that revealed a far larger problem. The New Deal of the 1930s, Medicare in the 1960s, and LBJ’s “War on Poverty” were all part of the problem Americans must address today.

It is historic fact that Republicans have presided over a debtor nation for a long time, dating back to the days of Richard M. Nixon. Indeed, a decade ago, it was a Democrat, Bill Clinton, who had a surplus when he left office. Previously, Ronald Reagan had run deficits for his eight years and had increased the budget by 69%. He was followed by Bush41 and Bush43 who also ran deficits. I am not assigning “blame”; just stating facts, because facts are important.

An excellent new book, “Lost Decades” by Menzie D. Chinn and Jeffry A. Frieden has just been published and anyone who truly wants to understand how Democrats and Republicans alike have dug the nation into a deep financial hole should read it.

As the authors note, “Events of the weeks during and after the passage of TARP revealed a chilling fact that the American financial system was effectively bankrupt.”

TARP, an emergency legislative response to the 2008 financial crisis, was designed initially to purchase the “toxic assets” that had been sold throughout the financial system, mostly banks, hedge funds and insurance companies—all rated AAA by Moody’s, Fitch, and Standard & Poor’s…yes, that Standard & Poor’s!

Also revealed has been the fact that the American economy is central to the stability of foreign economies as well. Many other nations had also been engaged in spending too much and were caught up in the housing bubble, ours and their own. England was one. Ireland, Spain, Italy, Greece, and others tottered as billions in alleged value, bundled from countless mortgages and sold as securities, disappeared.

At the urging of two government sponsored entitles (GSEs), Fannie Mae and Freddie Mac, subprime loans were encouraged. They were then “bundled” them and sold as securities. When the housing bubble burst, no one knew who owned what. The assets were often no longer specifically connected to the owners of homes who discovered that their mortgages now exceeded the value of their homes.

Fannie Mae and Freddie Mac own nearly half of all the mortgage loans issued by banks and mortgage firms nationwide. The government was on the hook for billions and stepped in to seize both GSEs. They need to be wound down and eliminated, returning to a time when banks and mortgage firms can rationally make prudent loans. The federal government should not have been in the housing mortgage business and now we know why.

When investment banks like Lehman Brothers declared bankruptcy and the huge insurance company, AIG, faced a similar fate, the Federal Reserve and the Secretary of the Treasury, Hank Paulson, former chairman of Goldman Sachs, stepped in to stabilize the U.S. financial system with loans constituting billions of public funds.

In sum, they had no choice. They had facilitated the problem, but a nation without a functioning banking system is nothing but some borders on a map.

It’s worth pausing to recall that President Clinton’s Secretary of the Treasury was Robert Rubin of Goldman Sachs. He was succeeded by Lawrence Summers, a Rubin protégé and later an Obama economic advisor. Bush’s later Secretary of the Treasury, as noted, was Hank Paulson and his chief of staff was Joshua Bolton, another Goldman alumnus. It’s a very small cliché of men deciding first how Wall Street will benefit and then how, as the expression goes, “to kick the can down the road.”

As noted in the "Lost Decades", “The government depended on access to domestic and international finance to underwrite its own borrowing as deficits grew; the private sector’s vibrancy similarly depended on a continued flow of funds from and through the world’s financial institutions.”

So long as the bubble existed, the politicians found no reason to rein in government spending and to compound the mess its vaunted regulatory apparatus had failed its responsibilities as well. These bubbles and recessions are not exclusively American. Previously, Japan lost a decade as well and other nations, several in South America, experienced even worst financial debacles.

So the debt ceiling vote just put off the problem while the politicians hope and pray that the economy will revive. They are unlikely to do what is necessary to cut the size of the federal government, its spending, and remove the weight of suffocating job-killing regulation. Whole government agencies need to be eliminated.

The Tea Party movement, made up of middle class, sensible, God-fearing and Constitution-loving Americans is all that stands between us and the politicians. The Tea Party needs to be focused. It needs to be patient. We know the current bunch of politicians must be replaced.

As for the theatrics of the debt ceiling debate and vote, we elected these politicians and their predecessors. The deficits they gave us are collectively our deficits, our debts.

In 2012, hopefully we can begin to say goodbye Barack Obama, goodbye Harry Reid, goodbye Nancy Pelosi, goodbye Barney Frank, goodbye Dick Durbin. And thank you, Tea Party Americans.

© Alan Caruba, 2011.