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'A steady deterioration of standards of governance.'
The following piece was written by Mary Williams Walsh, managing editor of News Items and a former New York Times correspondent, whose “beat” was the intersection of finance, public policy and demography.
The New York Times had an incongruous story on its homepage Tuesday evening, when Fitch Ratings was announcing its downgrade. I say incongruous because it didn’t mention the downgrade, which got a separate story; instead, it pondered at length why America’s voters continue to register disapproval of President Biden’s economic management when he’s having “the best run of economic data to date in his presidency.”
My dear former colleagues, you don’t have to wonder why Americans are grumpy and suspicious about the economy. Just read Fitch’s statement. It captures the public malaise perfectly. To wit:
“In Fitch’s view, there has been a steady deterioration of standards of governance over the last 20 years, including on fiscal and debt matters…. The repeated debt-limit political standoffs and last-minute resolutions have eroded confidence in fiscal management.
“In addition, the government lacks a medium-term fiscal framework, unlike most peers, and has a complex budgeting process. These factors, along with several economic shocks as well as tax cuts and new spending initiatives, have contributed to successive debt increases over the last decade.”
A lot of very smart people are now saying that Fitch is off-base. Janet Yellen called its downgrade “entirely unwarranted,” adding, “Its flawed assessment is based on outdated data and fails to reflect improvements across a range of indicators.”
Former Treasury Secretary Larry Summers tweeted that the downgrade was “bizarre and inept,” because Fitch did it just as the U.S. economy was starting to beat expectations.
Jason Furman, a top economic adviser to Presidents Clinton and Obama, called the downgrade “completely absurd,” and the White House issued a statement on Wednesday saying it “defies reality to downgrade the United States at a moment when President Biden has delivered the strongest recovery of any major economy in the world.”
That’s actually pretty mild derision compared to the beating Standard & Poor’s took when it lowered the Treasury’s triple-A rating by a notch back in 2011. The Justice Department filed a $5 billion lawsuit against it, accusing it of scheming to defraud investors and lure them into the mortgage debacle of 2008. As part of its defense, S&P argued that the lawsuit was in retaliation for its downgrade.
The Times article, clearly reported and written before Fitch’s move, cited bright spots in the U.S. economy: a steep rise in factory construction; nearly 800,000 manufacturing jobs created under Biden; strong labor markets; a slower rate of inflation; an uptick in consumer spending. It quoted economists who said Biden could take credit for at least some of this, and cited polls that show that while 49 percent of Americans now rate the economy as “poor,” that’s better than last year, when 58 percent did.
And none of that is wrong. We all want strong labor markets, rising living standards and sunny skies. But Fitch wasn’t tracking the short-term ups and downs of the U.S. economy. By pointing to 20 years of “steady deterioration” in American governance and fiscal management, it was offering a long-term view, which makes sense, since much of the federal debt is long term. Its 20-year time frame includes two Republican administrations (Bush, Trump) and two Democratic ones (Obama, Biden). It doesn’t single out the Republican tax cuts or the Democratic spending initiatives. It sees both. Biden just happened to be the one dancing when Fitch stopped the music.
Fitch’s point is that over those 20 years, the federal government consistently ran a deficit, year after year, in good times and bad. Over time, the deficits accumulated, forming a mountain of debt. A few highlights: Bush borrowed to fight the War on Terror and send U.S. troops to fight in Iraq; Obama borrowed to revive the shattered economy after the global financial crisis of 2008; Trump borrowed to pay for the big tax cuts of 2017; and then came the pandemic, and big expenditures of borrowed money, first by Trump and then Biden, to keep the economy moving even though businesses were closed.
Many of those expenditures had bipartisan support, and at least some, like the response to the pandemic, sheltered Americans from wrenching economic pain. But those and other measures meant that year after year, the United States was using debt to support economic growth. You can only buy growth with borrowed money for so long. An economy as big and diverse as the United States can get away with it for a very long time. But Fitch is reminding us that there is a limit somewhere.
Pointing that out doesn’t strike me as bizarre or unwarranted. It’s what the ratings agencies are supposed to do. Fitch isn’t saying that the United States is going bankrupt or turning into another Argentina. It’s just a one-notch downgrade, and not terribly likely to make investors change their behavior. Voya Investment Management called it “more Barbie than Oppenheimer.” It’s a signal flare.
Why now, if the debt has been building for 20-plus years? Fitch did hint that a downgrade was in store in May, when the debt-ceiling soap opera prompted it to put the Treasury’s rating on “negative watch.” That was Washington’s cue to start working on fiscal reforms, but the crisis passed and people forgot what Fitch had said. Meanwhile, federal tax revenues declined, new spending initiatives began, and—importantly—interest rates kept rising. We’ve been able to borrow at a cost of next to nothing for many years. Now we can’t.
Fitch says government debt was just 3.7 percent of America’s economic output in 2022, but it’s likely to reach 6.3 percent in 2023. That’s a big increase in a relatively short time.
And there’s more: Fitch notes that America’s states and cities are now layering more debt on top of the Treasury’s borrowings. It says that overall, the states had a small surplus last year, but now that’s become a deficit. If you’re in Washington, thinking about federal fiscal policy, you may miss this, but the average citizen out in flyover country is well aware of various government claims on his money. Otherwise we wouldn’t have thousands of people moving away from high-tax states like California, New York and Illinois for the greener pastures of Florida and Texas. It may be sunny outside, but the average citizen can sense that he’s standing under a big shadow.
And while government spending initiatives may buoy the economy as a whole, they’re also helping to create haves and have-nots. Most people know they’re not going to get one of those high-paying manufacturing jobs being subsidized by the CHIPS and Science Act. They’ve heard that high-flying Wall Street firms got taxpayer dollars during the pandemic. They may know that President Biden wants to free young people from hundreds of millions of dollars of student debt, but what about the corresponding losses to pension funds holding Sallie Mae paper?
Speaking of pensions, Fitch rightly cites Washington’s failure to deal with Social Security and Medicare as justification for its downgrade. We’ve been hearing for years that Social Security is burning though its “trust fund” and will run out of money in 2033—but President Biden and Candidate-Defendant Trump have both vowed not to touch the program. Running it the way it is represents an enormous transfer of wealth to the elderly from the young.
Fitch doesn’t hold out much hope of a change. It says Trump’s 2017 tax cuts are set to expire in 2025, “but there is likely to be political pressure to make these permanent, as has been the case in the past, resulting in higher deficit projections.” In fact, Fitch doesn’t think there are going to be any meaningful fiscal reforms “ahead of the November 2024 elections.”
By then I suppose Moody’s will have downgraded America’s debt, too.
Fitch’s report has a short section on what might prompt Fitch to restore America’s triple-A rating: fiscal policies that would lower the debt as a percentage of GDP, or “a sustained reversal of the trend [toward] deterioration in governance.” Not likely.
The really scary part comes when Fitch cites the factors that could prompt yet another downgrade. One is “a decline in the coherence and credibility of policymaking that undermines the reserve currency status of the U.S. dollar.”
A decline of coherent and credible policymaking seems more likely than not.