As you may have heard, the rating agency Standard and Poor’s cut the United States bond rating from AAA to AA+ – which ironically is about the same as going from an A+ to an A grade if we were talking about a grade-school equivalent. It doesn’t sound like too much of a big deal.
But, as you may also know, this bond downgrade was a long time coming – and also completely meaningless considering the source of the down grade.
S&P infamously rated some of the worst mortgage backed securities (MBSes) as AAA.
So… they clearly were wrong about the MBSes – how can we trust them to be right about U.S. Treasuries at any rating?
We can’t! You shouldn’t put any weight or give any thought to what the buffoons at S&P say about the color of the sky, let alone something as important as the Treasury market.
They’re dead wrong on Treasuries. Just like they were dead wrong on MBSes until it was too late.
But let me go back a little further into the past – to 2005, when S&P downgraded another huge, important and hopelessly broke entity: General Motors (NYSE: GM).
In essence, GM was broke long before the financial crisis of 2008.
Due to ridiculous massive pension liabilities, huge debts, slow growth, product mismanagement, corporate bungling for several decades, and every other possible mistake – they were a dead-corporation-walking for much of the 2000s.
But it wasn’t until 2005, when GM was completely underwater with its debts, and in a year when they’re regular businesses operated at a loss, that was when S&P finally downgraded GM’s bonds to junk status.
And in the end, GM’s bondholders took it in the shorts. As they should have. When you loan money to people who are broke, and getting broker by the minute, you lose money. That’s what happens when you loan money to people who have no way of paying it back.
I’m not excusing GM for their deadbeat behavior.
Okay – back to the U.S. Government: despite this downgrade, and any other downgrade that S&P, Moody’s or Cracker Jack Ratings Agency #28933x throws at the U.S. Government – we will not default in the same way as General Motors.
GM’s bondholders got pennies on the dollar. Common stock shareholders were wiped out completely. Even senior debt holders got shortchanged too.
GM defaulted because they had to. They couldn’t raise more cash to fund their operations and pay their debts. The United States can easily raise more cash. And I’m not talking about raising taxes or cutting spending.
The Federal government has a tool that lets it create money out of. – well I’ll let Ben Bernanke tell it:
"The U.S. government has a technology, called a printing press (or today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at no cost."
That quote comes directly from the man who controls those printing presses. So the United States government will never default in the strictest definition of the word – because they can always print up the difference!
Of course you realize that "printing up the difference" is the definition of inflation. More dollars chasing the same amount of goods means that prices will rise. Some people argue against this fact of the markets, and I call them Keynesians, and they’re dead wrong.
But printing dollars to pay bills is just a different kind of default. It’s the kind of default that punishes everyone who holds dollars, instead of the dummies who loaned money to a bankrupt institution.
And the United States is bankrupt.
On that point, I want to be clear.
GM should have gone bankrupt years before it did. It should have gone into receivership; some debt-holders would have been pinched, and the company would have reorganized into a leaner, less-debt-ridden company.
It was bankrupt by any metric, so it had to go into bankruptcy eventually.
And right now, the U.S. Government is arguably in a much worse situation than GM was back in 2005. But we won’t go bankrupt like GM did. Nor will we get bailed out by anyone. We’ll continue to kick our debts further down the road until the dollar itself is completely worthless.
That’s the road we’re on. Until something changes, you’d be foolhardy to pull your money out of commodity investments.
Stay the course with those investments and you’ll come out of this market downturn just fine.