Blogs & Comment

Downgrade death match

A roundup of this year's most entertaining sovereign downgrades (so far).

A man walks in Athens Stock Exchange, June 20, 2011. (Photo: Lefteris Pitarakis)

For a President or Finance Minister, there is only one appropriate response to a credit rating agency downgrading your nation’s debt: feigned outrage. And since debt analysts are busy trying to re-establish their credibility with market participants and the public at large, the downgrades now arrive fast and frequently. This song-and-dance invariably creates amusing political theatre.

Here’s a brief primer for the uninitiated: Debt rating agencies are organizations that regularly produce opinions on the likelihood a given debtor will pay its debts. (Standard & Poors, Moody’s and Fitch, the global leaders, are known colloquially as “The Big Three.”) Although these large organizations also rate corporations, municipalities and much else besides, their opinions on the creditworthiness of nations are known as “sovereign” ratings. Ratings are expressed in a strange alphabet soup. The best possible rating is AAA, for example, which means the obligor has an “extremely strong” capacity to meet its financial commitments. Fewer As suggests impressive strength, Bs imply greater vulnerability to ongoing events, Cs are reserved for dodgy issuers and D is slapped on those issuers who’ve defaulted.) Sometimes an agency will throw in a plus or minus sign for good measure. And they also supply a “rating outlook,” assessing in which direction ratings may be headed in the next few years. An issuer at some risk of a future downgrade may be said to have a “negative” outlook.

Ratings are merely opinions, and of late they’ve often proved spectacularly ill-informed. The timing of downgrades can be baffling, with the accompanying explanations sometimes citing events of unclear relevance. Such shortcomings notwithstanding, sovereign ratings are widely followed. A downgrade can help force the subject nation to pay higher interest rates on future bond issuances, which painfully raises the cost of capital. Institutional investors (such as pension funds) routinely insist on holding only highly-rated securities, so a downgrade can force them to sell that issuer’s bonds. A downgrade is also often interpreted as a condemnation of the current political leadership, even if the underlying problems occasioning the downgrade have been decades in the making. And it’s often promptly followed by carnage on that country’s stock exchange, as panicked investors sell shares.

For these and other reasons, politicians often react promptly and angrily to downgrades. Their hastily prepared comments seldom present measured refutations of the analysts’ arguments. These days they often include argumentum ad hominem attacks, such as sly references to the agencies’ sterling ratings on Lehman Brothers the day before it filed for bankruptcy, that distract from relevant discussion about the country’s creditworthiness. The best refutations point to embarrassing inconsistencies or errors in the agencies’ work, but those are few and far between.

With that, here’s a roundup of this year’s most entertaining downgrades so far:

THE DOWNGRADE: In January, S&P cut Japan’s credit rating one notch to AA-.

THE OFFICIAL REACTION: Economic and Fiscal Policy Minister Kaoru Yosano said he was “disappointed,” and posited that S&P didn’t “understand sufficiently that the Cabinet is pressing for fiscal reconstruction.”

THE DOWNGRADE: In March 2011, Moody’s downgraded Portugal from A1 to A3.

THE OFFICIAL REACTION: Carlos Pina, Portugal’s treasury secretary, called the decision “hasty.”

THE DOWNGRADE: In March 2011, Moody’s downgraded Greece by three notches, to B1 from Ba1.

THE OFFICIAL REACTION: The Associated Press described the Greek response as “a tirade.” Greece’s finance ministry opined that the downgrade was “completely unjustified,” and accused Moody’s of ignoring its progress in achieving fiscal consolidation and improving revenue collection. “Ultimately, Moody’s downgrading of Greece’s debt reveals more about the misaligned incentives and the lack of accountability of credit rating agencies than the genuine state or prospects of the Greek economy,” the response continued. “At a time when the global economy is fragile and market sentiment is sensitive, unbalanced and unjustified rating decisions such as Moody’s today can initiate damaging self-fulfilling prophecies and certainly strengthen the arguments for tighter regulation of the rating agencies themselves.”

THE DOWNGRADE: In March 2011, S&P downgraded Greece to BB- from BB+.

THE OFFICIAL REACTION: “We have seen the ratings agencies go from the bubble of euphoria to the panic of risk. Only two years ago they were rating AAA all the toxic bonds that created the crisis,” said Greek Prime Minister George Papandreou, adding that the downgrade was executed “not because of what Greece is doing but because of the decisions being taken by the EU that are not considered as going far enough.” He later accused the ratings agencies of “seeking to shape our destiny and determine the future of our children.”

THE DOWNGRADE: In April 2011, S&P altered the outlook on the United States to “negative” from “stable.”

THE OFFICIAL REACTION: Austan Goolsbee, an economic advisor to U.S. President Barack Obama, said “what the S&P is doing is making a political judgment and it is one that we don’t agree with.” Mary Miller, assistant Treasury secretary for financial markets, said: “We believe S&P’s negative outlook underestimates the ability of America’s leaders to come together to address the difficult fiscal challenges facing the nation.” And U.S. treasury secretary Timothy Geithner downplayed the severity of the announcement, declaring there was “no risk” of a downgrade.

THE DOWNGRADE: In May 2011, S&P changed its outlook for Italy to “negative” from “stable.”

THE OFFICIAL REACTION: Italy’s Treasury shot back that its economic growth and fiscal situation had “constantly been better than expected.”

THE DOWNGRADE: In May 2011, S&P reduced Greece’s credit rating to B- from BB-.

THE OFFICIAL REACTION: Greece’s finance ministry returned fire by arguing that there had been no new developments to warrant the downgrade. It then explained its view on how debt analysts should pursue their profession: “Credit rating decisions should be based on objective data, policymakers’ announcements and realistic assessments of the conditions facing an economy. Not on market rumours and press reports. When such decisions are based simply on rumours, their validity is seriously cast in doubt.” The statement further argued S&P “overlooks the Greek government’s pledges to achieve its fiscal targets for 2011 and to accelerate privatizations.” The Guardian, a British newspaper, reported that Greece was “infuriated.”

THE DOWNGRADE: In July 2011, Moody’s slashed Portugal’s rating four notches to Ba2.

THE OFFICIAL REACTION: Finance Minister Vítor Gaspar said the ratings cut failed to reflect broad political support for the country’s latest financial rescue program, and also a new income tax which he portrayed as “proof of the government’s determination” to meet stated deficit targets.

THE DOWNGRADE: In July 2011, Moody’s cut Ireland to Ba1 from Baa3.

THE OFFICIAL REACTION: “This is a disappointing development and it is completely at odds with the recent views of other rating agencies,” Ireland’s finance ministry retorted. “We are doing all that we can to put our house in order and the progress that we are making is there for all to see.”

THE DOWNGRADE: In August 2011, S&P cut the U.S. to AA-plus from AAA.

THE OFFICIAL REACTION: Jay Carney, press secretary to U.S. President Barack Obama, conceded that America “must do better to make clear our nation’s will, capacity and commitment to work together to tackle our major fiscal and economic challenges.” Meanwhile, White House economic adviser Gene Sperling correctly criticized S&P’s math. “The magnitude of their error combined with their willingness to simply change on the spot their lead rationale in their press release once the error was pointed out was breathtaking,” he said. “It smacked of an institution starting with a conclusion and shaping any arguments to fit it.”

THE DOWNGRADE: In September, S&P downgraded Italy by one notch to A.

THE OFFICIAL REACTION: Italian Premier Silvio Berlusconi issued a brief statement arguing his recently passed austerity package will shore up the country’s finances. “The assessments by Standard & Poor’s appear dictated more by newspaper articles than reality and appear to be tainted by political considerations,” he fumed. German newsmagazine Spiegel reported that Berlusconi was “furious.”