Opinion: The US has always made good on its debt. There’s no reason to think that will change
Opinion by Mark Zandi
(CNN) — There’s a lot to worry about when it comes to our own personal finances and the nation’s, but the Fitch Rating downgrade of US debt from AAA, the highest rating, to AA+, one notch lower, isn’t one of them.
Investors use these ratings to help decide which bonds to buy and at what interest rate. The higher the rating, the more likely the investor can trust that principal and interest payments will arrive on time. And since bond interest rates reflect the risk of default, the lower the risk, the lower the interest rate.
Ratings provide a relative ranking of creditworthiness. That is, if a country’s bonds have a better rating than another, then it is less likely to miss its payments to bond investors. With Fitch’s downgrade of US Treasury bonds, those bonds are now rated below the debt of a rather lengthy list of developed countries, including those in the European Union, which still have AAA ratings.
This runs counter to what global investors think. Ask them whose bonds they would rather own if things are going off the rails in the global economy or even here in the US, and they will say those of the US Treasury. That’s what happened when the Covid-19 pandemic struck — nervous global investors rushed to the safety of US Treasury bonds, and with good reason, as the US dollar is the global reserve currency. That is, other nations hold trillions of dollars in US Treasury bonds just in case something goes wrong and they need cash in a pinch.
It is ironic that these bonds are being rated below those of other nations. The US government effectively stands behind its finances. It backstops the nation’s too-big-to-fail banks and other financial institutions that are the bedrock of the US financial system upon which the global system depends. Indeed, global investors use the interest rate on US Treasury bonds to determine the interest rate on other countries’ bonds.
Fundamental to a government’s ability to pay its debt is the strength of its economy, which is the source of the tax revenues used to make those payments. Indeed, in justifying its downgrade of Treasury debt, Fitch led with “the expected fiscal deterioration over the next three years,” which rests in part on the agency’s increasingly unlikely forecast of a US recession beginning in the next few months. More importantly, while all economies have a business cycle, there is no developed economy in the world that is more dynamic with better long-term growth prospects than the US, which is exceptional in fostering entrepreneurship, innovation and the technologies that power the entire global economy.
Of course, our fractured politics are a worry, as they have compromised the government’s budget process. Consider the recent battle over increasing the Treasury debt limit and looming prospects for a government shutdown later this year. These so-called governance issues are central to Fitch’s decision to downgrade the nation’s debt.
But none of this is new. The knock-down-drag-out political disputes over the government’s finances date back to Thomas Jefferson and Alexander Hamilton. And we’ve had numerous debt limit dramas and government shutdowns over the decades. Each time, lawmakers have come to terms before doing irreparable economic damage. Even the unseemly political theater over the debt limit earlier this year was pretty benign as far as such shows go. There was no meaningful long-term fallout on the economy.
Despite our vexed politics, lawmakers are getting things done. Consider the unprecedented policy response to the pandemic and the legislation passed since President Joe Biden took office. This includes the bipartisan infrastructure legislation that will help rebuild America’s broken roads and bridges, the CHIPS Act to promote semiconductor manufacturing and research and development, and the Inflation Reduction Act, which is a large step toward going green.
No doubt more legislation becomes law when one political party is in control of government, but that’s the way things have gotten done historically. Each party advances their agenda when they gain control of the presidency and Congress. Our politics may be dysfunctional, but our government is still largely functioning at a high level.
To be sure, the nation has daunting long-term fiscal challenges. Without meaningfully higher taxes and slower growth in government spending, our large deficits and debt load will become unsustainable. But the nation has been here before.
The last time was in the early 1990s when interest payments on the debt ballooned, and the fiscal outlook darkened. This was the era of the bond market vigilante — bond investors nervous about the government’s ability to pay on the debt drove up rates on US Treasury bonds to compensate for the perceived risk. That prompted then-President Bill Clinton, a Democrat, and House Speaker Newt Gingrich, a Republican, to strike a budget deal that led to the last budget surplus the nation has enjoyed in nearly a quarter century.
Lore has it that former British Prime Minister Winston Churchill said Americans will always do the right thing, only after they have tried everything else. This is true of our nation’s finances. Despite our messy politics, we have always made good on our debt, and if our history is a guide, we always will.
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