US Treasuries not safe, said don

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Don: US Treasuries not safe, emerging economies should find other ways to buffer themselvesImage via Wikipedia

JACKSON HOLE, Wyoming: Emerging economies should find other ways to buffer themselves from global crises than stockpiling US government debt, a prominent economist argued.

US Treasuries and the debt of other advanced nations might be liquid, but it was far from safe, Cornell University professor Eswar Prasad said in a paper presented to a group of central bankers gathered here.

Emerging countries seeking protection from global shocks by individually stocking up on US debt would be better off banding together to create a pool of funds that could be drawn on in a crisis, he argued. Doing so would give them a backstop should they need it, without saddling their national investment portfolios with debt that could turn sour.



Sharply rising levels of public borrowing and weak growth prospects in the United States mean that over time the dollar will continue to decline against the currencies of faster-growing emerging markets, eroding the value of emerging nations' foreign investments, he said. And the risks are not only for the long-term. The United States' near brush with default earlier this month, as lawmakers refused to raise the country's borrowing ceiling until a deficit-cutting deal was reached, brought the potential pitfalls of holding US debt into sharp relief.

“As demonstrated by recent events in the eurozone, bond investors both domestic and foreign can quickly turn against a vulnerable country with high debt levels, leaving the country little breathing room on fiscal tightening and precipitating a crisis,” Prasad wrote. “The US is large, special and central to global finance, but the tolerance of bond investors may have its limits.”

The dollar has long been the world's main reserve currency, and since the financial crisis emerging economies have built their reserves by buying Treasuries and the debt of a few other advanced economies, according to Prasad.

Any change could hurt the ability of the United States to borrow at low rates despite soaring debt levels.
That would turn the tables in a world where traditionally it was developed nations that pressured developing ones to bring their finances under control, he said.

“It is high time for advanced economies to take the tonic of macroeconomic and structural reforms that they have for so long dispensed to the emerging markets,” he said. Reuters

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US no longer ‘AAA’, Eurozone the next?

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US no longer ‘AAA’

WHAT ARE WE TO DO By TAN SRI LIN SEE-YAN

STANDARD & Poor's (S&P's) had on Aug 5 cut the US long-term credit rating by a notch to AA-plus (from AAA). This unprecedented move reflected concerns about the US's budget deficits and rising debt burden. It called the outlook “negative,” indicating that another downgrade is possible in the next 12-18 months.

According to S&P's, the Aug 2 debt deal which cut spending by US$2.1 trillion, didn't go far enough: “It's going to take a deal about twice the size to stabilise the debt to GDP ratio.” It also stressed what it saw as the inability of the US political establishment to commit to an adequate and credible debt reduction plan: “The effectiveness, stability & predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges.” Moody's Investors Service and Fitch Ratings haven't followed S&P's move causing a split rating. They had earlier (on Aug 2) affirmed their AAA credit ratings for the US, while warning that downgrades were possible, grading the outlook as negative. At the same time, China's only rating agency (Dagong Global Credit Rating) downgraded the US from A-plus to A saying the deal won't solve underlying US debt problems.

US downgrade

What does a rating downgrade mean? For the US, it will affect its borrowing costs eventually and immediately, investor opinion of US assets. According to Sifma (a US securities industry trade group), the downgrade could add up to 0.7 of 1 percentage point to US Treasury yields, thereby increasing funding costs for US public debt by some US$100bil. But the US dollar has a special position as the numeraire of global transactions; it is also a reserve currency, and often regarded as a safe haven in times of uncertainty. Ironically, in the recent sell-off in equities world-wide following the S&P's downgrade, US government bonds was a big beneficiary. Its benchmark 10-year bond yields fell 21 basis points on Monday to 2.35%, the biggest one day drop since January 2009; by Wednesday, it was 2.14%, the lowest yield on record. Two year US Treasuries yield touched a record low of 0.23% and then, fell further to 0.184% on Wednesday. In the panic, Treasuries appear to be still the way to go.

With the downgrade, US no longer warrant the top-tier rating it enjoyed since 1941 (Moody has had a AAA on the US since 1917). At AA+, the US is still considered to have a “strong” ability to service its debt. Only Canada, Germany, France & UK still carry triple-A at S&P's. The downgrade didn't affect US short-term rating which remains at A-1+, the highest at S&P's. In a follow through, S&P's downgraded numerous government related enterprises (notably Fannie Mae and Freddie Mac which together hold more than one-half of US mortgages), 73 investment funds (fixed income funds, hedge funds, etc) and 10 insurance companies for their large holdings of Treasuries. But banks were spared on the implicit “too big to fail” policy of the government. Nevertheless, the US bond market retains widespread appeal. At more than US$35 trillion at end-March, this market is broad, liquid and deep. The Treasuries market alone has US$9.3 trillion debt outstanding. But in the end, the market decides. Consider Japan S&P's downgraded it in 2002. Today, Japan is still able to borrow freely & cheaply. As of Aug 9, interest rate on Japan's 10-year bonds stood at just 1.045% and 30-years, at below 2%. In practice, for the US, a double A-plus still works like a de facto triple-A.

Market rebound: Traders work on the floor of the New York Stock Exchange on Thursday — AP
 

Immediate global sell-off

When markets opened following the weekend downgrade, a global panic sell-off in equities took over.  There was a lot of fear and uncertainty in the markets, reflecting a confluence of three main factors:

● uncertainty about the US economy faltering, raising the risk of a double-dip recession;
● worries that the downgrade could further undermine US consumer confidence & business spending adding another layer of anxiety on the global economic outlook; and
● fear the euro-zone debt crisis will spin out of control, spooking investors.

All this took its toll. Stock markets plunged around the world with funds flowing into havens, such as gold (up 60% since 2010, surpassing US$1,800 a troy ounce), Swiss francs (up 24% against euro and 32% on US dollar over the past year) and ironically, US Treasuries. In Asia, markets closed at their lowest levels in about a year. Key benchmarks in Hong Kong, Seoul, Mumbai and Sydney skidded for the fifth consecutive day. Shares in China, Taiwan and South Korea plunged sharply before recovering some ground. All closed nearly 4% lower on Monday. In Hong Kong, the Hang Seng Index had its worst day since the 2008 financial crisis, falling another 5.6% on Tuesday; it had fallen by 16.7% in the past six sessions, or more than 20% from its recent peak. South Korea's Kospi was down 3.6% and Indonesia's main stock exchange fell 3%. At its close, the KL Bursa lost another 1.7% on Aug 9 (-1.8% on Aug 8). Japan's Nikkei fell 2.2% to its weakest level since the March earthquake. India's Bombay stock index declined 1.6%, its fifth drop in a row.

The Dow Jones Industrial Average (DJIA) recovered 1.5% on Tuesday after a record 635 point fall (-5.5%) in sell-offs on Monday. The German DAX closed further down 5% and the Paris CAC 4.7% lower while the FTSE 100 in London fell another 3.4%. The Stoxx Europe 600 index ended 1.4% higher following a 4.1% slide on Monday, although underlying sentiment remained extremely fragile. The VIX which tracks stock market volatility, reached its highest since the initial Greek debt crisis in May 2010. It rose 20% to 38.5 on Monday afternoon and then to 40.5 on Tuesday, reflecting extreme fear and emotional trading. It measures the price investors pay for protective options on the S&P's 500 index. After Monday's sharp share-price drop and the previous week's poor performance, China and Hong Kong aren't the only markets at or near bear territory. Stocks in Germany & France are now down more than 20% (definition of a bear market), from highs reached in the previous year. India's benchmark Bombay Sensex is down 20%, and Japan's Nikkei is off 16.5%.

A day after US stocks received a boost from the Fed to keep interest rates low until 2013, markets in the US and Europe resumed their plunge on Wednesday. The fear: politicians across the Atlantic won't be able to manage the significant headwinds buffeting the US & European economies. Woes were focused on France, where its bank stocks plunged amid worries it may lose its triple-A status. The Paris CAC-40 index fell 5.4%. In the US, the DJIA was down 4.62% (-520 points) wiping out Tuesday's surge. The Fed had run out of bullets. Asian stocks advanced Wednesday with sentiment helped by a strong Wall Street rebound. However, gains in most markets lacked the passion observed on the way down. Hong Kong was up 2.3%, South Korea, 0.3% and Taiwan, 3.3%. All three were still down more than 10% so far in August. Japan was up 1.1%, Australia, 2.6% and China, 0.9%. But Stoxx Europe 600 was down 3.7%. Expectations are for the markets to remain choppy. On Thursday, most Asian markets were back in negative territory. But Europe closed stronger (up about 3%) and the DJIA surged by 4% (+423 points).



European contagion 

Italy and Spain, the euro-zone's third and fourth largest economies, have a combined GDP of nearly 2.7 trillion euros, about 30% of the eurozone total. For nearly two years, the European Union (EU) has been trying to stem the unfolding debt crisis. The July 21 Greek bailout bought some time not much to ward off further contagion. The European Central Bank's (ECB) decision on Aug 7 to buy Italian and Spanish debt represents a watershed in EU's continuing battle against turning ECB into the lender of last resort. The ECB has insisted the main responsibility to act lies with national governments. Given worries of a new bout of contagion sweeping European and global markets, ECB defended the new intervention as restoring the “normal functioning of markets through a better transmission of monetary policy.” ECB's continued bond-buying brought benchmark Spanish borrowing costs for 10-year bonds down to 5.019% on Tuesday, close to their lows for the year. Italian 10-year bond yields also fell to a one month low of 5.143%. Both countries' yields had approached 6.5% last week a level that eventually escalated to push Greece, Ireland & Portugal into bail-outs. Analysts estimate ECB could have bought up to 10 billion euros, a small fraction relative to the size of Spain & Italy's debt markets. Italy's debt alone is 1.8 trillion euros.

Market sentiment aside, the purchases did little to change the fundamental backdrop in Europe where economic growth has slowed even in the “core” nations of Germany & France. Signs of stress remain despite the positive market reactions to ECB's decision. Deposits at ECB, for example, hit a 2011 high of 145 billion euros on Monday, reflecting banks' reluctance to lend inter-bank preferring the safety of ECB. There is a limit to how deeply ECB can be drawn into the fiscal misadventures of its members. Concerns are mounting on the French economy because of its high debt levels (85% of GDP, already above the US & rising) and weak growth prospects. Germany, in much better shape, isn't immune either. Already, the cost of insuring German bonds against default using credit-default swaps (CDSs) rose above 85 basis points, higher than insuring UK bonds for the first time on Tuesday, despite the London riots. There is growing concern the new austerity measures in Italy & Spain will slacken their struggling economies, plagued also by social unrest.

What's wrong with the US economy?

The recession ended two years ago. The stumbling recovery may turn out to be the worst ever. Most indicators are not reassuring unemployment at 9.1% is still too high and jobs creation too slow; GDP growth is faltering, income growth continues lagging behind; household wealth is falling; banks are not lending enough; and consumer expectations have not been positive. In the last eight recoveries, lost jobs were regained within two years of recession's end. This recovery is still seven million jobs below peak employment in 2008 and about two million fewer than if unemployment was held below 8%. The US economy will remain lacklustre for some years because of heavy household debt, a financial system deeply scared by mortgages, and a dysfunctional political establishment. Heavy household debt and a dismal job market have hurt consumers' confidence, further dampening their willingness to spend. The only bright spot is exports, reflecting the weak US dollar and still booming emerging economies. Unexpectedly, the pace of growth in US services fell in July to its lowest level since February 2010. Taken alongside disappointing manufacturing data, the services sector showed-up an economy with weak hopes of a rebound in the second half of this year, after an anaemic first half. According to Harvard's Martin Feldstein, “This economy is really balanced on the edge. There is now a 50% chance that we could slide into a new recession.” Even Prof Larry Summers now concedes: “The odds of the economy going back into recession are at least one in three.”

The US problem is more a job and growth deficit than an excessive budget deficit. The diagnosis of the run-up in debt out of control spending by the Federal government, is exaggerated. Indeed, the “cure” of severe spending cuts is likely to make recovery more difficult. The real problem lies in the fall-off in tax revenue. From 20% of GDP in 1998-2001, tax revenue has fallen steadily: averaging just 17% of GDP from 2002-08 and then, to below 15% in 2009-10. About 50% of the rise in deficit was due to the downturn because of “automatic stabilisers”, reflecting cyclical revenue falls and higher spending to assist the unemployed and other transfers to help the poor. They contribute to demand and assist to “stabilise” the economy.

The US rating downgrade is a warning bell. On present trend, its debt burden is unsustainable and the US political system seems unable to reverse it. To do so, it needs faster growth can't cut its way to growth. What's required is tax reform and a will to restore revenues back to the 20% of GDP trend; a prospect most Republicans have castigated. At issue is not the US government's capacity to service its debt, John Kay of the Financial Times pointed out. It is the “willingness of the government to repay.” If sovereign borrowers meet their obligations, it is only because “they want to.”

● Former banker, Dr Lin is a Harvard educated economist and a British Chartered Scientist who now spends time writing, teaching & promoting the public interest. Feedback is most welcome; email: starbizweek@thestar.com.my.

China Needs Urgent Review of U.S. Debt, Financial News Says

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By Bloomberg News (Updates with central bank governor’s comment in third paragraph.)

Aug. 11 (Bloomberg) -- China should urgently assess risks from being the main foreign investor in U.S. debt and diversify its foreign-currency reserves more quickly, the Financial News reported today, citing Xia Bin, a central bank adviser.                                      Image via Wikipedia

In the short term, China can adjust the structure of the reserves, the central bank publication cited Xia as saying. Longer-term, the key is to keep foreign-exchange holdings at a “reasonable” level, according to Xia, an academic member of the monetary policy committee of the People’s Bank of China.

Central bank Governor Zhou Xiaochuan pledged this month to “closely” monitor U.S. efforts to tackle its debt burden. The global stock market rout that saw Tokyo shares sliding this morning follows Standard & Poor’s downgrade of the U.S. debt rating from AAA and a widening of Europe’s sovereign-debt crisis.



China is the biggest foreign owner of U.S. Treasuries, with more than $1 trillion of the securities, and its foreign- exchange reserves are the world’s largest at more than $3 trillion.

The U.S. economy has entered a long cycle of economic weakening that will put pressure on China’s holdings of dollar assets, Xia wrote in a microblog on Aug. 6. He is the director of the Finance Research Institute at the Development Research Center of the State Council, China’s cabinet.

China should buy more non-financial assets with its reserves to diversify risks, Xia wrote, adding that the country should also pursue national strategic interests, and seek to globalize the yuan. He previously said that China should use its reserves to increase holdings of gold and some other precious metals.

To contact Bloomberg News staff for this story: Zheng Lifei in Beijing at +86-10-6649-7560 or lzheng32@bloomberg.net

To contact the editor responsible for this story: Paul Panckhurst at ppanckhurst@bloomberg.net --Zheng Lifei. Editors: Paul Panckhurst, Nerys Avery.

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US downgrade spells more chaos; QE3 in the making; Time for US to stop blames, take responsibility!

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Downgrade spells more chaos

Global Trends By MARTIN KHOR

The US credit downgrade – coming after a weak solution to its debt ceiling crisis and signs of a new recession – is signalling greater turmoil ahead in the global economy.

LAST week was a tumultuous time for the global economy as stock markets plummeted on a series of bad news in the United States and Europe. But this may only be the start.

This week is likely to usher in even more turmoil as the prospects for recovery have suddenly turned negative.

After several other dramatic events, last week ended with the US’ credit rating losing its AAA status to AA+.

It was only one notch down, this downgrade was by only one (Standard and Poor’s) out of three rating agencies, and it had been half expected.

Nevertheless, it marks the end of an era. For the first time since 1917, the US does not enjoy an AAA rating.

It has long been assumed that the US dollar and its Treasury bills are the safest of havens.

There may be some practical effects of the downgrade as some funds which prefer or are allowed to only invest in AAA investments may have to find alternatives.

The US dollar is also expected to depreciate further, thus raising fresh questions about the role of the dollar in global trade and as the world’s reserve currency.

Manufacturers and traders are asking whether they should trade their goods in currencies other than the US dollar to avoid making losses.

This was shown in yesterday’s Sunday Star report on the reactions of Malaysian businessmen to the news of the downgrade.

The Federation of Malaysian Manufacturers’ president Tan Sri Mustafa Mansur urged Malaysians to consider trading in Chinese renminbi (as China is poised to be the world’s largest economy and a lot of Malaysia’s trade is with China) and in other currencies to avoid losses in export earnings from the continuing use of the US dollar.



Besides the use of the dollar as the main medium of exchange (the currency for global trade), it is also, by far, the world’s most important reserve currency, thus making it the global store of value.

Since almost all countries hold a major portion of their foreign reserves in US dollar assets (especially US Treasury bills), there has been increasing fears worldwide over the safety and value of their US investments.

First, there was the scare of possible default by the US Government in debt servicing, because of the White House-Democrats-Republican wrangling on the government’s debt ceiling.



On Aug 1, just a day before the deadline, a deal was struck in which the debt ceiling would be raised by US$2.1 trillion (RM6.32 trillion), provided the government slashes the same amount in its budget deficit over 10 years, with the bulk of how to do so to be decided by a bipartisan committee later.

This gives temporary respite, and the world will likely witness a repeat of the messy Washington budget conflict when the committee starts work.

As a caustic commentary in Xinhua news agency put it, the higher debt ceiling “failed to defuse Washington’s debt bomb for good, only delaying an immediate detonation by making the fuse an inch longer”.

Second, the S&P’s credit downgrade has articulated the fears of the investment and policy-making circles.

The confused and confusing atmosphere surrounding Washing­ton politics has seriously eroded confidence in the ability of the US to handle its budget, debt, fiscal, financial and economic policy issues.

Only political analysts who specialise in US politics can fully explain and anticipate the intricacies and implications of the views and tendencies of the various branches of the Republican Party (especially its Tea Party component and its effects on the Party’s congressional positions), the Democratic Party and the Administration.

But even non-specialists comprehend that there is a serious governance problem in the US which is affecting the rest of the world.

Its political system is experiencing a gridlock which will affect the US dollar, the US economy and the world economy’s prospects for what seems to be a long time to come.

Third, the US economy shows increasing signs of stalling leading to a new recession.

Last week’s indicators for consumer spending, manufacturing and services output were negative, and some prominent economists gave a 50:50 chance of a double dip recession.

Recession is made more likely by the inability of the Obama administration to take effective recession-busting measures.

Congress will block any new significant fiscal stimulus (as the debt ceiling crisis and solution show), while a new round of printing and injecting money through quantitative easing, which is being considered, may only have limited positive effects.

All these point to a further weakening of the US economy and the US currency, at least in the short term.
These three developments, all in one week, have galvanised those in business, trade, finance and policy making to re-think the role of the dollar and the US economy in the global economy.

In the short run, it is difficult to find alternatives to the dollar as a unit of exchange or as a store of value, mainly because the euro is in a crisis of its own, the Japanese economy faces its own difficulties and the Chinese currency is not convertible enough.

But many agree that in the long run, a solution or solutions must be found. Otherwise, the global trading and monetary systems could be in a disarray.

There is nothing like a crisis or an emergency to collapse a long run into a short run.

If the US and European crises continue to unfold without respite, the world is in for financial and economic turmoil similar to or even worse than the recent 2008-2009 great recession.

Solutions will therefore have to be urgently sought.

Smaller QE3 may be necessary to prevent US double dip recession

By YAP LENG KUEN  lengkuen@thestar.com.my

PETALING JAYA: With the US economy possibly sliding into a double dip recession soon, there are expectations of a third round of quantitative easing (QE3), which may involve smaller amounts.

“It is not a popular decision but may be the only reaction from the US Fed to keep the economy going,'' said Pong Teng Siew, head of research at Jupiter Securities.

“The Fed has limited options especially with no more government spending to stimulate the economy. Fiscal policy that involves government spending is out in the wake of arguments related to the US debt ceiling where the only acceptable solution to the Republicans is to cut spending, and not raise revenue.

“QE3 may involve smaller purchases of Treasury instruments at the longer end of the yield curve. This may help to drive down the yield where the medium term rates may also move down in tandem. In this way, interest costs may also be reduced.

 

“This time, there are less resources available, hence probably smaller amounts under QE3. Also, the market itself may reject larger amounts,'' said Pong.

There may be a resultant boost to the stock markets on a smaller scale. However, the European debt problem especially in Italy represents a situation that is likened to an elephant in a room.''

“As long as there are upward pressures in the Italian government bond yields, there will be downward pressure on the stock markets in Europe,'' said Pong, adding that investors should stay light on selected plantation, oil and gas and consumer-related companies.

Bloomberg reported on Friday that the difference in yield, or spread, between Italy's 10-year bond and German bunds widened to 389 basis points on Thursday, after closing at 368 basis points the previous day.

 Lee: ‘This time round, headline and core inflation have been creeping up.’

It said Spain's 10-year spread also rose six basis points to 398, as European Central Bank debt purchases failed to reassure investors that officials in the region would solve the sovereign crisis.

QE refers to the Fed's decision to buy US Treasury bonds in an attempt to inject liquidity into the market.

The previous rounds of QE1 and QE2 had not produced a lasting impact on the US economy which is holding the weight of inflation and higher debt levels.

CIMB Investment Bank head of economics Lee Heng Guie said full-year growth estimate for the US economy had been revised from 2%-3% to 1.5%-2%, raising the odds of a double dip recession by 30%.

Moreover, the cut in the US credit rating by Standard & Poor's would have a double whammy impact on the lethargic economic recovery in the US, Lee added.

In a recent update, Lee noted that the US second quarter real gross domestic product growth came in at a tepid annualised rate of 1.3%, short of the 1.8% consensus forecast.

Consumer spending in the United States, hurt by higher gasoline prices and auto chain supply disruptions, rose by only 0.1% (2.1% in Q1), the slowest in two years.

“We expect the Fed to take more actions, such as buying of bonds, if the economy appears in danger of stalling,'' said Lee.

However, he does not think that inflation and inflation expectations are heading towards the point which would prompt the Fed to consider further large asset purchases.

Lee recalled that before the second phase of quantitative easing (QE2) was implemented, the trend of disinflation and deflationary risk formed a strong case for the Fed to pump in extra liquidity.

“This time round, headline and core inflation have been creeping up,'' he said. “With inflation and unemployment rising at the same time, the Fed will find it difficult to justify yet another cash injection.''
Should the Fed detect firmer signs that the US economy is faltering, it may:

• Adjust forward guidance to push back timing expectations on the first rate hike.

• Shift back market expectations on when it will shrink its balance sheet. (In April, Fed chairman Ben Bernanke had signalled that the Fed may reinvest the proceeds from its bond purchase when they mature).

•  Intervene in the credit market through direct loans or adjust interest rates payable on bank reserves to spur bank lending.

 Other economists expect slower growth in the United States but not necessarily recession.

A banker told StarBiz that banks in general were adopting a cautious stance in view of the world and eurozone economic conditions.

“The US leaders have mainly taken temporary measures but the real issues like debt are not addressed,'' he said. “The debt problem remains while their agreements have to be bipartisan.

“From their behaviour, there seems to be a lot of politicking in the US especially on the economy. As a world leader, that does not give a good picture to the whole world.

Their decision to cut US$2.4 trillion or more in spending in ten years will have an impact on the world economy. Hopefully, for Malaysia, the economic transformation projects and its own economic growth will provide the momentum forward.

“The business is there but banks have turned cautious on lending and are diversifying into services, fee-based income, niche areas and wealth management,'' said the banker.

 Commentary: It's time for U.S. to stop blames, take responsibility

(Xinhua)

The White House on Saturday challenged the ruling by Standard & Poor's to downgrade U.S. long- term credit rating form top rank of AAA to AA+, citing the agency' s decision relied on faulty math and in haste.

Disappointingly, instead of reflecting on themselves and sitting down to fix problems in a cooperated way, the Democrats and Republicans in Washington are questioning the creditability of the downgrade ruling and blaming each other for the ever-first shame of slipping out top credit rating club.

During the angry finger-pointing, the U.S. politicians seemed to have forgotten Wall Street's severest losses in almost three years last week, forgotten mounting concerns about double-dip recession, and forgotten the criticism over their irresponsibility showed during the debt arm-twisting from all over the world.

The world has seen enough useless bipartisan debate. The bond- holders are losing confidence. The investors have started to escape markets to stay in cash, showing their fears of uncertainty.

S&P managing director John Chambers said "The political gridlock in Washington leads us to conclude that policymakers don' t have the ability to put the public finances of the U.S. on a sustainable footing ".

The alarm has rung. It is time for the naughty boys in Washington to stop chicken games before they cause more damages. It is time for the policy-makers in Washington to settle down, to show some sense of responsibility and fix their fiscal problems.

The United States is not only the biggest debtor, who must pay its large amount of obligations, but also the printer of international reserve currency, which has the responsibility to assure the value of other countries' foreign reserve assets.

If the country's governors kept wrangling for their own interest, ignoring the voices from domestic and aboard, how can their people trust them and where will the confidence for a better economic scenario come from?

If the world's largest debtor kept eating May's grain in April and kept robbing Peter to pay Paul without fiscal discipline, eagerness to balance budget or effective efforts to boost sluggish economy, how can the creditors keep lending without doubts?

According to analysts, risk of dollar devaluation increased after this downgrade, not to speak of the possibility to see more cuts in the next two years with a negative credit rating outlook.

Whether admitted or not, the U.S. central bank tended to maintain a cheap dollar for the export's sake aftermath the financial crisis, which already squeezed world foreign reserves.

Currently, the U.S. is facing a high unemployment rate of 9.1 percent and almost stalled economic growth. But the Federal Reserve's "silver bullets" have run out after two round of quantitative easing. For fiscal stimulus, there is only little room considering the excessive debt and austerity agreement. For the desperate policymakers, to boost export seems to be the last way to kick the U.S. economy. From this point, the U.S. has every motive to maintain a weak dollar.

Before the U.S. makes any move, please remind it: don't forget your responsibility as the issuer of reserve currency to maintain the stable value of the dollar. Don't become blind to the great risks that a fluctuated exchange rate could pose to international financial markets and a weak greenback could pose to the world fragile economic recovery by lifting dollar-denominated commodities prices.

The history is a guide. What we should learn from the financial crisis is to be selfish could only hurt yourself and drag others into water.

It is time for the U.S. to tighten belts and solve structural problems, in order to resume reputation and restore world confidence. 

 Latest US and global market and business news, pictures and videos from AP-Wire  

US loses AAA credit rating, why? Dollar sluggish, Trade in RMB!

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US loses AAA credit rating from Standard & Poor’s

 
The White House maintained silence in the immediate aftermath of S&P downgrade. — Photo by AFP

NEW YORK: The United States lost its top-notch AAA credit rating from Standard & Poor’s on Friday in an unprecedented reversal of fortune for the world’s largest economy.

S&P cut the long-term US credit rating by one notch to AA-plus on concerns about the government’s budget deficits and rising debt burden. The move is likely to raise borrowing costs eventually for the American government, companies and consumers.

“The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilise the government’s medium-term debt dynamics,” S&P said in a statement.

The decision follows a fierce political battle in Congress over cutting spending and raising taxes to reduce the government’s debt burden and allow its statutory borrowing limit to be raised.

On August 2, President Barack Obama signed legislation designed to reduce the fiscal deficit by $2.1 trillion over 10 years. But that was well short of the $4 trillion in savings S&P had called for as a good “down payment” on fixing America’s finances.

The White House maintained silence in the immediate aftermath of S&P downgrade.

The political gridlock in Washington and the failure to seriously address US long-term fiscal problems came against the backdrop of slowing US economic growth and led to the worst week in the US stock market in two years.

The S&P 500 stock index fell 10.8 per cent in the past 10 trading days on concerns that the US economy may head into another recession and because the European debt crisis has been growing worse as it spreads to Italy.

US Treasury bonds, once undisputedly seen as the safest security in the world, are now rated lower than bonds issued by countries such as Britain, Germany, France or Canada.

‘Daunting implications’

As the focus for investors shifted from the debate in Washington to the outlook for the global economy, even with the prospect of a downgrade, 30-year long bonds had their best week since December 2008 during the depth of the financial crisis.

Yields on 10-year notes, a benchmark for borrowing rates throughout the economy fell as far as 2.34 per cent on Friday — their lowest since October 2010 — also very low by historical standards.

“To some extent, I would expect when Tokyo opens on Sunday, that we will see an initial knee-jerk sell-off (in Treasuries) followed by a rally,” said Ian Lyngen, senior government bond strategist at CRT Capital Group in Stamford, Connecticut.

The outlook on the new US credit rating is “negative,” S&P said in a statement, a sign that another downgrade is possible in the next 12 to 18 months.

“The long-term implications are daunting. Short-term, Treasuries remain a premier safe-haven refuge,” said Jack Ablin, chief investment officer at Harris Private Bank in Chicago.



Borrowing costs could rise

The impact of S&P’s move was tempered by a decision from Moody’s Investors Service earlier this week that confirmed, for now, the US Aaa rating. Fitch Ratings said it is still reviewing the rating and will issue its opinion by the end of the month.

“It’s not entirely unexpected. I believe it has already been partly priced into the dollar. We expect some further pressure on the US dollar, but a sharp sell-off is in our view unlikely,” said Vassili Serebriakov, currency strategist at Wells Fargo in New York.

“One of the reasons we don’t really think foreign investors will start selling US Treasuries aggressively is because there are still few alternatives to the US Treasury market in terms of depth and liquidity,” Serebriakov added.

S&P’s move is also likely to concern foreign creditors especially China, which holds more than $1 trillion of US debt. Beijing has repeatedly urged Washington to protect its US dollar investments by addressing its budget problem.

Obama administration officials grew increasingly frustrated with the rating agency through the debt limit debate and have accused S&P of changing the goal posts in its downgrade warnings, sources familiar with talks between the administration and the ratings firm have said.

The downgrade could add up to 0.7 of a percentage point to US Treasuries’ yields over time, increasing funding costs for public debt by some $100 billion, according to SIFMA, a US securities industry trade group.

S&P had placed the US credit rating on review for a possible downgrade on July 14 on concerns that Congress was not adequately addressing the government fiscal deficit of about $1.4 trillion this year, or about 9.0 per cent of gross domestic product, one of the highest since World War II.

The unprecedented downgrade of the nation’s AAA credit rating by a major ratings agency comes only 15 months before the next presidential election where the downgrade and the debt will be top issues for debate.

Bitter political battles remain over the ideologically fraught issues of spending cuts and tax reform.

The compromise reached by Republicans and Democrats this week calls for the creation of a bipartisan congressional committee to find $1.5 trillion of deficit cuts by late November, beyond the $917 billion already identified.

Why S&P downgrades US credit rating?

The credit rating agency Standard & Poor's on Friday cut the United States' credit rating to AA+ from AAA, citing three fundamental reasons for the downgrade, the first ever in US history.

Debt burden worry

According to S&P's judgment, the debt situation of the United States doesn't satisfy the requirement of an AAA rating.

S&P compared US debt with the other four countries with AAA ratings: Canada, France, Germany and Britain.

It estimated the five countries will have net general government debt to GDP ratios this year ranging from 34 percent of Canada to 80 percent of Britain, with the US debt burden at 74 percent.

S&P predicted the net public debt to GDP ratios will range between 30 percent of Canada and 83 percent of France, with the US debt burden at 79 percent.

Although the US ratio of net public debt to the GDP was not the highest among the five countries, the rating agency projected that the net public debt burden of the other four countries will begin to decline, either before or by 2015.

Fiscal plan "not enough"

On August 2, US President Barack Obama signed legislation designed to reduce the fiscal deficit by $2.1 trillion over 10 years.

However, according to S&P's calculations, a good "down payment" on fixing the country's finances would be at least $4 trillion.

"The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government's medium-term debt dynamics," S&P said.

The rating agency believed the prolonged controversy over raising the statutory debt ceiling and the related fiscal policy debate indicated that further near-term progress containing the growth in public spending, especially on entitlement, or on reaching an agreement on raising revenues is less likely than previously assumed and will remain a contentious and fitful process.

Lose faith on policy makers

S&P questioned US policy makers' eagerness to solve the debt problems by bipartisan efforts. Also, the rating agency blamed Democrats and Republicans for ignoring its earlier warnings.

On April 18, S&P assigned a negative outlook to US then-AAA rating, warning the debt ceiling should be raised to avoid a default. However, the action didn't draw much attention from policy makers who had decisive power to take quick measures.

The US debt would reach its ceiling of 14.3 trillion on August 2. If the debt ceiling was not raised, the United States would face an unprecedented default.

Through long, testy negotiations between the two parties in Congress, the plan was finally passed just before the August 2 deadline. However, patience and trust in US policy makers diminished as time went by.

"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," S&P said.

Also, as the difficulties behind the debt problems still loom ahead, S&P worried that US policy makers could not react properly and effectively to the "government debt dynamics" any time soon, given their recent performance on dealing with the debt ceiling.

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US loses AAA credit rating after S&P downgrade

One of the world's leading credit rating agencies, Standard & Poor's, has downgraded the United States' top-notch AAA rating for the first time ever. 

 

News of the downgrade ended a tumultuous week for US finances

 

S&P cut the long-term US rating by one notch to AA+ with a negative outlook, citing concerns about budget deficits.

The agency said the deficit reduction plan passed by the US Congress on Tuesday did not go far enough.

Correspondents say the  downgrade could erode investors' confidence in the world's largest economy.

It is already struggling with huge debts, unemployment of 9.1% and fears of a possible double-dip recession.

The downgrade is a major embarrassment for the administration of President Barack Obama and could raise the cost of US government borrowing.

This in turn could trickle down to higher interest rates for local governments and individuals.

Analysis - Robert Peston Business editor, BBC News

The US losing its AAA rating matters. It is a very loud statement that there has been an appreciable increase in the risk - which might still be tiny, but it exists - that the US might one day struggle to pay back all it owes. Another important certainty in the world of finance has gone.

Of course many will argue - and already have - that the record of ratings agencies such as Standard & Poor's of getting these things right in recent years has been lamentably poor.

Think of all the subprime CDO products rated AAA by S&P that turned out to be garbage.

But S&P, Moody's and Fitch (and particularly the first two) still have a privileged official position in the world of finance: they determine what collateral can be taken by central banks from commercial banks, when those central banks lend to commercial banks.

However, some analysts said with debt woes across much of the developed world, US debt remained an attractive option for investors.

The other two major credit rating agencies, Moody's and Fitch, said on Friday night they had no immediate plans to follow S&P in taking the US off their lists of risk-free borrowers.

'Flawed judgement'

Officials in Washington told US media that the agency's sums were deeply flawed.

Unnamed sources were quoted as saying that a treasury official had spotted a $2 trillion [£1.2 trillion] mistake in the agency's analysis.

"A judgment flawed by a $2tn error speaks for itself," a US treasury department spokesman said of the S&P analysis. He did not offer any immediate explanation.

John Chambers, chairman of S&P's sovereign ratings committee, told CNN that the US could have averted a downgrade if it had resolved its congressional stalemate earlier.

"The first thing it could have done is raise the debt ceiling in a timely matter so the debate would have been avoided to begin with," he said.

International reaction to the S&P move has been mixed.

China, the world's largest holder of US debt, had "every right now to demand the United States address its structural debt problems and ensure the safety of China's dollar assets," said a commentary in the official Xinhua news agency.

"International supervision over the issue of US dollars should be introduced and a new, stable and secured global reserve currency may also be an option to avert a catastrophe caused by any single country," the commentary said.

However, officials in Japan, South Korea and Australia have urged a calm response to the downgrade.

The S&P announcement comes after a week of turmoil on global stock markets, partly triggered by fears over the US economy's recovery and the eurozone crisis.

With a bill to raise the US debt ceiling finally passed, the US has managed to avoid the catastrophic effects of a debt default. Now the focus has moved to the underlying economy and whether GDP is about to stall.

S&P had threatened the downgrade if the US could not agree to cut its federal debt by at least $4tn over the next decade. 

Instead, the bill passed by Congress on Tuesday plans $2.1tn in savings over 10 years.

S&P said the Republicans and Democrats had only been able to agree "relatively modest savings", which fell "well short" of what had been envisaged.

The agency also noted that the legislation delegates the lion's share of savings to a bipartisan committee, which must report back to Congress in November on where the axe should fall.

The bill - which also raises the federal debt ceiling by up to $2.4tn, from $14.3tn, over a decade - was passed on Tuesday just hours before the expiry of a deadline to raise the US borrowing limit.

S&P ratings (selected)

• AAA: UK, France, Germany, Canada, Australia


• AA+: USA, Belgium, New Zealand


• AA-: Japan, China

Source: S&P

S&P said in its report issued late on Friday: "The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the administration recently agreed to falls short of what, in our view, would be necessary to stabilise the government's medium-term debt dynamics.

"More broadly, the 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."

The agency said it might lower the US long-term rating another notch to AA within the next two years if its deficit reduction measures were deemed inadequate.

S&P noted that the bill passed by Congress this week did not include new revenues - Republicans had staunchly opposed President Barack Obama's calls for tax rises to help pay off America's deficit.

The credit agency also noted that the legislation contained only minor policy changes to Medicare, an entitlement programme dear to Democrats.

"The political brinksmanship of recent months highlights what we see as America's governance and policymaking becoming less stable, less effective, and less predictable than what we previously believed," it added.

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Moneychangers see sluggish trade in US dollar

By QISHIN TARIQ qishin.tariq@thestar.com.my
PETALING JAYA: Trade in the US dollar has been sluggish over the last week for moneychangers as customers “wait and see” which direction the currency will go.

“It has become a waiting game as people look for the best time to buy.

“Now, even trade in euros has slowed down,” said moneychanger Sahul Hamed, who operates the PJ Forex outlet at Bukit Bintang Plaza in Kuala Lumpur.

“With the current economic situation, customers are expecting the value to dip but are reluctant to buy when they feel it hasn't gone down by much.”

Anxious wait: The demand for US dollars could spike with a potential fall in the currency’s value following the downgrading of the US credit rating on Friday ->>

 

Moneychanger Jamil Akhbar Ali said there had been a dip in both sales and purchase of the US dollar despite the stable value of the currency over the last week.

“Most of our customers deal in Singapore and US dollars.

“While trade in the Singapore currency remains about the same, there are fewer people trading US dollars,” said the Petaling Jaya-based moneychanger.

Automotive engineer Meng Ng, 35, a Malaysian based in the United States for the last decade, said the exchange rate had not changed much since he last came to Malaysia four months ago.

“While the prices offered by moneychangers fluctuate slightly every day, on average the exchange rate has been pretty reasonable,” he said.

With the worsening US debt outlook and after US-based credit rating agency Standard & Poor's downgraded the US credit rating on Friday, speculation was rife that the US dollar would weaken considerably.

RAM Holdings Bhd group chief economist Dr Yeah Kim Leng said while the US currency would probably dip in the short term, he expected it to recover fairly quickly.

“When Japan's credit rating was downgraded from AAA status to AA+, its debt market was hardly affected with bond yields remaining relatively unchanged,” he said.

“The weakening US dollar would make imports from the country cheaper not only for large industries, but even for something as small as an online purchase.

“It's a double-edged sword though, as the US will lower its demand and import less when its economy is going through a soft patch.”

Trade in renminbi, says FMM

By YUEN MEIKENG  meikeng@thestar.com.my

 PETALING JAYA: Malaysia should consider trading in a different currency from the US dollar, such as the Chinese renminbi, to avoid being affected by the dollar's devaluation.

Federation of Malaysian Manufacturers (FMM) president Tan Sri Mustafa Mansur said people had to accept the fact that China was poised to be the largest economy in the world.

“We also export a lot to China and our business with the country has grown substantially since the enforcement of the Asean-China Free Trade Agreement,” he said yesterday.

Mustafa said many countries, which traded using the US dollar, including Malaysia, would stand to lose out as its exports would have a lesser value following the currency's downgrading.

“Based on this situation, we might have to look into the possibility of trading in a different currency,” he said.

Mustafa said this when asked to comment on the United States losing its coveted top AAA credit rating and its impact in Malaysia.

It was reported that credit rating agency Standard & Poor's downgraded the nation's rating for the first time since the US won the top ranking in 1917.

Mustafa added that it was also better for Malaysia to trade in ringgit as this would distance the country from any risk of further downgrading of the US dollar.

He said other currencies, which could also replace the US dollar were dinar, dirham or the Japanese yen.

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What's left to trust in the world of money? Stop fooling around Govermnt Debts!

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Jeremy Warner

What's left to trust in the world of money?

America's inability to address its fiscal challenges – Sunday night's "bipartisan debt deal" offers only a temporary, sticking plaster solution – has raised afresh an old conundrum.

Relative to GDP, US sovereign debt has been far higher than it is today, but in the past America has been able to rely on fast growth and demilitarisation to return borrowing to tolerable levels. Neither of these things seem likely to come to the rescue this time around. Photo: REUTERS

If even US Treasuries are now regarded as a credit risk, is there anything left at all in the world of money that can be trusted?

The answer to this question is almost certainly no, but far from being a calamitous conclusion to reach, this might be viewed as a positive development which will in time restore market disciplines to a global monetary system which became based on make believe.

In fact, the idea of the sovereign as a "risk free asset" is a comparatively recent development which has no basis in historical experience. Even in a country such as Britain with no history of default (we'll ignore the case of war loans, which is arguable), government bonds have hardly proved a reliable form of investment.

True enough, coupons have been paid and maturities honoured, but the currency and inflation risks have proved extreme. On any medium to long term view, you would have done much better out of property and equities.

Among members of the eurozone, the concept of the sovereign as a safe haven asset is an even shorter lived phenomenon. The widening of spreads we've seen in the past year and a half of financial crisis is as nothing compared to the way it was before the single currency was launched.

Those countries with weak governance were punished for their lack of competitiveness with high interest rates and repeated currency crises. It was a brutal, but reasonably effective form of discipline.

But once the euro had been established, all countries, bad as well as good, came to enjoy the same low interest rates that Germany had earned from years of hair shirted fiscal rectitude. Bond yields converged not because anyone believed the single currency's fiscal rules would make all countries like Germany, but because markets expected that countries which got themselves into difficulties would be bailed out. They have so far been proved entirely correct in this assumption.

Peer group pressure

The abolition of sovereign currencies removed the pressures that markets normally exert on governments to take unpopular, austerity measures. Market disciplines were replaced by peer group pressure from European finance ministers, only a few of whom were in any position to lecture their colleagues on sound financial policies. Once even Germany started to break the rules, the game was up.

All this was brilliantly predicted by Norman Lamont, a former UK Chancellor in the chapter Why I am Against the Single Currency from his book In Office, published nearly twelve years ago.

Increasingly tortuous attempts to prevent wide scale default fail to acknowledge the underlying reality; membership of the single currency has allowed some countries to borrow far in excess of their ability ever to repay.

But it is not all the fault of the euro. Risk compression was a worldwide phenomenon during the boom. In the hunt for yield, investors became oblivious to the dangers. By the end, almost everything was regarded as entirely risk free. Credit rating agencies were corrupted into the process by giving top notch ratings to fundamentally unsafe assets. These judgements then became embedded in regulatory requirements and central bank collateral rules, making everything seem safer than it really was.

 Sovereign downgrades

Today, the rating agencies are accused of deepening the debt crisis with repeated sovereign downgrades, but if anything, their pronouncements understate the reality. Their discomfort is nowhere more apparent than with US sovereign debt. Even assuming the latest settlement – which envisages a $2.1trillion (£1.3 trillion) fiscal consolidation over ten years – is ratified, it's not enough to put public debt back on a sustainable trajectory.

It's perfectly true that relative to GDP, US sovereign debt has been far higher than it is today, but in the past America has been able to rely on fast growth and demilitarisation to return borrowing to tolerable levels. Neither of these things seem likely to come to the rescue this time around.

When Standard & Poor's placed the US on negative watch last month, it suggested that a consolidation of perhaps as much as $4 trillion would be required to safeguard the nation's triple A rating.

Heading for a downgrade

Implicitly, then, America is heading for a downgrade regardless of the fact that the immediate threat of default has been removed. Will S&P have the guts to go through with its threat? I'll believe it when I see it. Already S&P has appeared to backtrack in evidence to Congress.

The major rating agencies enjoy an unhealthily cosy relationship with the major sovereigns, and can usually be persuaded to do the "right thing" in the interests of financial stability. As ever, sweeping the issue under the carpet will only make the eventual crisis even worse.

But perhaps oddly, the immediate blow to America if the big agencies do decide to downgrade is likely to be more psychological than real; it may not matter too much for bond yields.


Despite loss of its triple A rating and central government debt in excess of 200pc of GDP, Japan continues to enjoy the lowest sovereign bond yields anywhere in the world.

This apparent paradox is explained by the fact that when there is generalised risk aversion, where consumers are reluctant to spend and companies won't invest, the consequent savings surplus tends to flow into the only place it can – government debt.

Some of the same phenomenon is occurring in the US right now. Much as China threatens to withdraw its support for the US dollar in protest at policies which it thinks debase the currency, it really has no option but to continue buying US Treasuries as long as it maintains such a big trade surplus with the US. The capital surplus is merely the mirror image of the trade surplus.

Dominant reserve currency status in any case gives the US unrivalled access to international borrowing. Dollar hegemony may not last for much longer, but for the time being there are no viable alternatives. 

This is both a blessing and a curse for the US – a blessing because it allows the country to keep borrowing at reasonable rates almost regardless of underlying public debt dynamics, and a curse because it maintains the addiction to debt.

If nothing is done, the façade will eventually break; that's the point at which to run for the hills. Food, property, energy – these are the things that retain value when money dies. - Telegraph

Govt debts – it’s time to stop fooling around

Plain Speaking - By Yap Leng Kuen

INDEBTEDNESS has become an unsavoury word, especially when an important economy like the United States faces potential default if its US$14.3 trillion debt ceiling is not raised in time.

As at press time, an agreement was reached on raising the debt limit; however, the uncertainty created during the stalemate prior to the agreement had cast an element of doubt in the markets over the long term viability of US Treasuries and a possible downgrade of US' credit rating.

The debt ceiling has been raised before; however, the severity of the problems faced by Greece and other countries with high debt levels has caused the US situation to be viewed with concern.

In fact, post-2008 financial crisis, government debt has become a major issue. In a research update, McKinsey Global Institute said while global debt and equity hit new highs, more than a third of growth last year was government debt.

According to McKinsey, the overall amount of global debt grew by US$5 trillion last year, with global debt to gross domestic product (GDP) increasing from 218% in 2000 to 266% in 2010.

Government bonds outstanding rose by US$4 trillion in 2010 while other forms of debt had mixed growth, said McKinsey.

The move to downsize debt needs to be backed up by a concrete and consistent plan that shows not just commitment but also conviction of all parties involved.

Countries with high levels of debt must show that they are not only able to save others but also themselves.

Part of a government's credibility lies in its ability to manage its finances. Simply put, this involves lowering or containing its costs while increasing revenue.

Much effort should be spent on plugging the leakages while taking pains that taxpayers, who usually bear the brunt of others' mistakes, are not disadvantaged.

Postponing the problem by merely raising the limit for another time just makes matters worse; the issue of indebtedness becomes more serious and future governments end up inheriting the problem rather than spending productive hours on new areas of growth.

To get the cooperation of taxpayers to sacrifice for another round of austerity drive will probably not be easy. They may question why they have to pay for the excesses when they had already paid on previous bailouts for the big boys.

It is therefore time to stop “fooling around” with the finances and really get down to work on solid improvements. A transparent approach with proper timelines that can be accessed by all will certainly help.

Once people see something concrete coming up, they will be more convinced and committed towards the common goal.

Moreover, money allocated in a fair and equitable manner will result in better support from taxpayers.

Associate editor Yap Leng Kuen recognises that managing a country is far more complex than a family although the same dose of common sense is required.

U.S. May Lose AAA Rating Even With a Debt Deal !

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U.S. May Lose AAA Rating Even With a Debt Deal, BlackRock, Templeton Say

By Wes Goodman

BlackRock Inc., Franklin Templeton Investments, Loomis Sayles & Co., Pacific Investment Management Co. and Western Asset Management said the U.S. faces losing its top-level debt rating as officials struggle to raise the $14.3 trillion borrowing limit and reduce spending.

Investors are warning a cut is likely as President Barack Obama and House Speaker John Boehner argue over how to increase the debt ceiling, while also trying to curb borrowing. The government needs to boost the cap by Aug. 2 so it can keep paying its bills, according to the Treasury Department.

The comments suggest that the world’s biggest bond managers are resigned to the fact that the U.S. rating will be cut. Standard & Poor’s, which has rated the U.S. AAA since 1941, said July 14 that the chance of a downgrade is 50 percent in the next three months and it may cut the nation as soon as August if there isn’t a “credible” plan to reduce the nation’s deficit.

“Addressing the debt ceiling is of course very important, but addressing it alone doesn’t avert a downgrade,” Barbara Novick, a co-founder and vice chairman at BlackRock, the world’s biggest money manager with $3.66 trillion in assets, said in an interview. “Without a credible plan to cut the deficit, that’s a real issue.”

Obama has said the nation’s record borrowings may “do serious damage” to the U.S. economy by diverting tax dollars to interest payments. Yields indicate investors are favoring bank or company debt over Treasuries, raising concern the credibility of government debt is waning.

‘Massive Consequences’

Moody’s Investors Service and Fitch Ratings have also said they may cut the nation’s top-level sovereign ranking if officials fail to resolve the stalemate.

“If the U.S. defaults, there would be massive consequences,” Pacific Investment Management Co.’s Mohamed El- Erian, chief executive and co-chief investment officer at the world’s biggest manager of bond funds, said in a radio interview on “Bloomberg Surveillance” with Tom Keene. “People are concerned, but they sort of think it’s a very, very low probability, and we would agree.”

The ratings may be reduced because politicians probably won’t agree on a plan to trim spending, said Kathleen Gaffney, co-manager of the $21 billion Loomis Sayles Bond Fund.


U.S. Credit Rating Downgrade Prospects
http://bloom.bg/pCfVUu

‘Certain’ Downgrade

“I’m pretty certain that at least by one agency we’re going to see a downgrade,” Gaffney, who is based in Boston, said yesterday in an interview on Bloomberg Television’s “Street Smart.” Treasuries will “continue to be a large, liquid market whether it’s AAA or AA,” she said.

Gaffney’s fund returned 14 percent in the past year, beating 98 percent of its competitors, according to data compiled by Bloomberg.

The TED spread, the difference between what lenders and the U.S. government pay to borrow for three months, narrowed to 18.7 basis points yesterday, the least since March.

Debentures from Wal-Mart Stores Inc. (WMT), the largest retailer, and Paris-based utility EDF SA (EDF), both rated in the second-highest AA level, are the best-performing investment-grade corporate securities globally this month through July 25, Bank of America Merrill Lynch indexes show.

An index of corporate debt with the same AAA rating that the U.S. is at risk of losing is outperforming Treasuries by 0.13 percent, the most since March.

Yield Rise

“The longer-term implications are that a downgrade could be bad for our currency and this could raise our borrowing Costs,” Stephen Walsh, the chief investment officer of Western Asset Management, the Pasadena, California-based fixed-income unit of Legg Mason Inc., said in an interview. Walsh oversees about $365 billion in bond assets.

The 10-year Treasury yield rose five basis points to 3 percent as of 1:17 p.m. in New York, according to Bloomberg Bond Trader prices. The budget stalemate hasn’t been enough to push the rate to its decade-long average of 4.05 percent.

“Our growing debt could cost us jobs and do serious damage to the economy,” Obama said in a speech July 25. “Interest rates could climb for everyone who borrows money: the homeowner with a mortgage, the student with a college loan, the corner store that wants to expand.”

A House vote on Speaker Boehner’s two-step plan to raise the debt ceiling was postponed yesterday, casting doubt on whether lawmakers and Obama can come to an agreement before Aug. 2. Boehner has said Obama is seeking a “blank check.”

Investors may question the creditworthiness of the U.S., Christopher Molumphy, chief investment officer for Franklin Templeton’s fixed-income group, wrote in a report July 25 that his company distributed today by e-mail.

“Continued doubts about a longer-term solution to the U.S.’s federal deficit may well threaten the country’s AAA credit rating and the status of U.S. Treasuries as assets previously perceived as virtually ‘risk-free,’” according to Molumphy, who is based in San Mateo, California. He helps oversee $734.2 billion at the company.