As Warren Buffett once observed, it takes about 20 years to build up a reputation and five minutes to ruin it. Last Friday's decision by Standard & Poor's to downgrade U.S. debt from AAA to AA+ was just that kind of hit — and the markets are showing their unhappiness with it today.
One can debate S&P's decision-making process endlessly. It's telling that Moody's today reiterated its choice to keep the U.S. at AAA, citing the debt ceiling deal and signs of long-term economic improvement. And don't expect a sudden flight from U.S. Treasury bonds in the midst of global economic woes or even a huge shift in interest rates. If you can't trust the credit of the world's economic superpower, exactly where can you invest in securities?
But what ought to be concerning to President Barack Obama and Congress is not the downgrade (something S&P had been warning about for weeks) but what happens next. The ratings agency didn't adopt a negative outlook because of the size of the U.S. debt but because of fears that the political system has grown so paralyzed that Washington is incapable of addressing it.
Yet how did Republicans and Democrats react to Friday's downgrade? Exactly as they behaved before it — chiefly by pointing fingers at each other. The analysts at S&P could scarcely have asked for a better endorsement of their observation of partisan gridlock than to hear Republican presidential candidate Michele Bachmann, who voted against the debt limit deal and has so far opposed all compromise with Democrats, accuse Mr. Obama of destroying the U.S. credit rating.
Ms. Bachmann is hardly alone in her intransigence. One can complain that Democrats were reluctant to compromise on certain elements of debt reduction, too, but for all its failings, the modest debt limit agreement represents a clear GOP victory. The only departure from the Republican ideology is in its scale, which tea partiers complain was not big enough.
So here's the recap of the Republican party's recent accomplishments: Put U.S. credit at risk by refusing to raise the debt limit, reject any compromise with Democrats that might close lucrative tax loopholes to large corporations and the wealthy, decline a historic "grand" deal to reduce debt by $5 trillion, and then announce, "I told you so" when one credit rating agency looks at this willingness to take the country to the brink of default as troubling.
What should be on the minds of the White House and lawmakers is not how to become further entrenched in their positions but to demonstrate that solutions are achievable. If the nation's first credit downgrade in 70 years is disconcerting, the potential for further downgrades — ones that could have a far more profound effect on interest rates and thus the cost of the nation's deficit — is what should be keeping politicians awake at night.
After all, that's precisely the experience of other countries that have seen their ratings suffer. The tumble keeps going because the remedies are difficult and painful.
But it needn't be that way. Democrats have already demonstrated a willingness to find savings in Medicare and Social Security, two of the government's biggest cost drivers, that would have been unthinkable one year ago. President Obama has offered actual compromise — and suffered politically for it within his own party while simultaneously being derided by Ms. Bachmann and her ilk as failing to lead (as if the GOP's policy of cutting off their noses to spit their faces equated to leadership).
Make no mistake, there are going to be further cuts in federal spending, and probably beyond what the debt ceiling legislation requires later this year. Even a possible tax increase is on the horizon when the two-year extension of the Bush tax cuts passed last December expires in 2013 — assuming Mr. Obama would, as promised, veto any further tax breaks for the rich. All in all, the basic framework for a solution is in place.
Few financial experts blame the stock market's continuing fall entirely on the downgrade or even the U.S. deficit. Markets worldwide are in turmoil. Europe's debt crisis has worsened, and the economy continues to show signs of slowing down. The downgrade was just the latest bad news to tip the financial scales.
Better that the downgrade be viewed as a last-chance wake-up call to reject both far-right and far-left doctrine on the deficit. Neither a hard line on taxes nor entitlements is what the nation needs right now. What is required is genuine compromise — or at least an election that will allow voters to put centrist pragmatism back in the nation's capital.