U.S. Default: Robert Reich Calls S&P Warning About U.S. Credit 'Height of Hubris'

Former secretary of labor calls credit agency "irresponsible"

July 27, 2011 — -- It's the "height of hubris" for ratings agency Standard & Poor's to suggest it may cut the credit rating of the U.S. even if the debt crisis is solved, says Robert Reich, former labor secretary in the Clinton administration.

"No credit rating agency has gone as far as S&P," he told ABC News today. "That's a highly political move. I'm surprised they are doing it."

Reich, who is a professor of public policy at the University of California, Berkeley and has also worked under Presidents Carter and Obama, called the credit rating agency's latest reports "irresponsible."

The U.S. financial markets are also closely watching events in Washington D.C., as the Dow Jones Industrial average had the worst single day performance since the beginning of June. The Dow fell 198.75 to 12,301, while the Nasdaq also fell 75 points to 2,765 and the S&P fell 27 points to 1,305.

Guy LeBas, chief fixed income strategist with Janney Capital Markets, said the biggest factor driving the markets today was "overhang of the debt ceiling debate and Congressional inaction thus far."

Treasuries also tapered off, though less than the drop in stocks. LeBas said trades in stocks are more sensitive than bonds to an investor's willingness to take risks. The 10-year yield, which serves most commonly as a benchmark for treasuries, lost one quarter of one percent as the stock markets closed.

With one week to go until the Treasury estimates the U.S. could default on its sovereign debt, Reich said S&P has no business sharing its political opinions about U.S. economic policy. The U.S. currently has the highest AAA rating on its debt, which tops $14 trillion. A lower debt rating would mean higher borrowing costs for the U.S., adding billions more to the debt.

While ratings agencies testified today at a House financial services committee hearing on their role in the subprime mortgage market, Reich pointed out that Standard & Poor's contributed to the financial meltdown by giving AAA ratings to some of Wall Street's riskiest packages of mortgage-backed securities and collateralized debt obligations.

S&P's threat of a downgrade to the nation's credit rating goes one step further than Moody's and Fitch, the other two major credit rating agencies, by declaring even if Congress agrees to lift the $14.3 trillion debt limit, they and President Obama must also reduce the deficit by $4 trillion over 10 years.

In April, Standard & Poor's cut the U.S. ratings outlook to negative from stable and warned that its AAA rating is at risk unless lawmakers agree on a plan by 2013 to reduce the budget deficit and nation's debt.

On July 13, Moody's said it was reviewing the country's credit rating for a possible downgrade.

In one Standard & Poor's report on July 18, the agency stated it may lower the U.S. long-term rating "by one or more notches" into the "AA" category in the next three months if it concludes Congress and the White House "have not achieved a credible solution to the rising U.S. government debt burden and are not likely to achieve one in the foreseeable future."

"If the U.S. pays its bills, what business is it of S&P to tell the U.S. how much to trim deficit and by when?" Reich said. "S&P never uttered a word of George W. Bush whittling away a bequeathed $5 trillion surplus into a deficit. They never said a word about the Bush tax cuts."

On Wednesday, Fitch Ratings said U.S. treasuries would continue to be the "global benchmark security" in the long term because of the country's strong credit profile. Fitch's report said the $9.3 trillion in marketable U.S. Treasury securities is roughly five times the size of French ($1.9 trillion), U.K. ($1.8 trillion), and German ($1.6 trillion) government bond markets.

While there is no precedence for a downgrade on U.S. sovereign debt, Fitch said the most recent standard of comparison is Japan's downgrade to AA+ from AAA in September 1998, and in May, when Fitch gave Japan's current 'AA' rating a "Negative Outlook.

"Japanese government bond markets remain liquid despite losing AAA status, and the yen has retained its role as a major global currency," the report stated.

David Stockman, former director of the Office of Management and Budget under President Ronald Reagan, told ABC News that the coast is not clear for financial markets.

"Bond fund managers are as clueless as the House GOP," Stockman said. "Without significant tax increases, the Federal budget is a financial doomsday machine--but now even Obama and the Senate Dems have given up on taxes. So in substance, the default has already happened---it's just a matter of time before bondageddon actually happens."

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