August 6, 2011

How the Credit Downgrade Affects U.S. Investment

Matthew D. Mitchell

Senior Affiliated Scholar

One thing we should keep in mind is that the ratings are really just signals or indicators of a problem. The real problem is our long-run fiscal outlook and that remains a problem whether or not some ratings agencies choose to signal it.  Even with the debt deal, we face unsustainable deficits in the years ahead unless policy makers can change course.

Regarding the threat of losing our investors at current interest rates: We don't have to outrun the bear. We just have to outrun the other campers. And right now, there are a lot of other slow campers. Compared to investing in Greece, Italy, Japan, the state of Illinois, or even in the U.S. stock market, U.S. Treasuries may still look like a good deal to lots of investors.

The problem is that just as the relative riskiness of other investments benefits the U.S. now, it can harm us very quickly if one of those other campers picks up the pace and starts to look like a better investment than a U.S. Treasury. This is a dynamic that can change extraordinarily fast as a host of other nations have learned the hard way.