- By Daniel W. Drezner
Daniel W. Drezner is professor of international politics at the Fletcher School of Law and Diplomacy at Tufts University and a senior editor at The National Interest. Prior to Fletcher, he taught at the University of Chicago and the University of Colorado at Boulder. Drezner has received fellowships from the German Marshall Fund of the United States, the Council on Foreign Relations, and Harvard University. He has previously held positions with Civic Education Project, the RAND Corporation, and the Treasury Department.
American politicians are super-mad at Standard & Poor’s for downgrading U.S. debt even after the debtopocalypse was averted earlier this week. These same politicians seem torn between pointing out that S&P sucks at math and blaming the other political party for the S&P screw-up.
I really don’t care about that as much as the debate over whether S&P got its political analysis right. Here’s the key paragraphs of the actual Standard & Poor statement:
[T]he downgrade reflects our view that the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011….
Compared with previous projections, our revised base case scenario now assumes that the 2001 and 2003 tax cuts, due to expire by the end of 2012, remain in place. We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act.
Felix Salmon, thinks that this analysis is spot on:
[T]he US does not deserve a triple-A rating, and the reason has nothing whatsoever to do with its debt ratios. America’s ability to pay is neither here nor there: the problem is its willingness to pay. And there’s a serious constituency of powerful people in Congress who are perfectly willing and even eager to drive the US into default. The Tea Party is fully cognizant that it has been given a bazooka, and it’s just itching to pull the trigger. There’s no good reason to believe that won’t happen at some point.
David Weigel concludes that the S&P political analysis is fair:
This is not crazy.This what Republicans imply about the supercommittee — they will not accept plans that increase taxes, and despite the fact that they’ve agreed to let the Bush tax cuts lapse on January 1, 2013, they are making noises about not accepting a return of the rates. The best possible scenario, if we assume that stance, is what I wrote about today — tax reform plans that start in the supercommittee and win over a committed Congress.
Kevin Drum, however, thinks that S&P’s political analysis is way off:
S&P shouldn’t be in the business of commenting on a country’s political spats unless they’ve been going on so long that they’re likely to have a real, concrete impact on the safety of a country’s bonds. And that hasn’t happened yet. There’s no serious macroeconomic reason to think Americacan’t service its debt and there’s no serious political reason to think the Tea Party has anything close to the power to provoke a political meltdown in which wewon’tpay our debt….
[S&P]should care only about the safety of U.S. bonds, and for the moment anyway, there’s no legitimate reason to think either that we can’t pay or that we won’t pay. The bond market, which has all the same information as S&P, continues to believe that U.S. debt is the safest in the world, and in this case the market is right. S&P should stop playing dumb political games and stick to its core business.
I side, mostly, with Drum. It’s totally fair for S&P to factor politics into their assessment of sovereign debt. Indeed, a key trend in sovereign debt analysis over the past five years has been the recognition that political fundamentals can matter as much as economics. That said, if ratings agencies are going to do this, then their political expectations can’t just be retrospective — they need to do some actual forecasting. Instead, they looked at recent weeks and extrapolated into the future.
There are three factors that should give S&P pause before assuming that political dysfunction could lead to no increae in tax revenue. First, as Drum points out, despite all the displays of ideological inflexibility, in the end the debt ceiling vote secured a strong majority of the GOP House caucus. Some Tea Party members were willing to risk a crisis, but not actually go and perpetuate one. It was not a Great Moment in Democracy, but in the end a deal was done. You can’t dock for intransigence without noting the outcome.
Second, unlike the debt ceiling, deadlock in late 2012 means that the Bush tax cuts expire. Either a lame-duck Obama or a newly-re-elected Obama will be able to make that fiscal decision (no way any faction in Congress musters the 2/3 vote necessary to override). As Jonathan Chait has repeatedly observed, that dynamic is the opposite of the debt ceiling episode, in which case paralysis led to bad fiscal outcomes. If S&P thinks partisan gridlock will persist on Capitol Hill, then the conclusion to draw is that taxes will go up.
Third — and this is pretty important — S&P has failed to observe the political aftereffects of the debt deal. As I argued previously:
[T]he thing about democracy is that it has multiple ways to constrain political stupidity and ideological overreach. The first line of defense is that politicians will have an electoral incentive to act in non-crazy ways in order to get re-elected. The second line of defense is that politicians or parties who violate the non-crazy rule fail to get re-elected. So, in some ways, the true test of the American system’s ability to stave off failure will be the 2012 election.
The first line line of defense has been breached, but the second line of defense looks increasingly robust. Public opinion poll after public opinion poll in the wake of the debt deal show the same thing — everyone in Washington is unpopular, but Congress is really unpopular and GOP members of Congress are ridiculously unpopular. At a minimum, S&P needs to calculate how the current members of Congress will react to rising anti-incumbent sentiment. If they did that analysis and concluded that nothing would be done, I’d understand their thinking more. I didn’t see anything like that kind of political analysis in their statement, however.
In the end, I suspect Moody’s and Fitch won’t follow S&P’s move, so this could be a giant nothingburger. Still, if these guys are going to be doing political risk analysis, it might help to actually have some political scientists on the payroll. Based on their statement, S&P is simply extrapolating from the op-ed page, and that’s a lousy way to make a political forecast.
Am I missing anything?