Today, the world’s biggest economy has had its credit rating downgraded from its top AAA rating for the very first time. The US has seen its credit rating cut to AA+ by leading credit rating agency Standard and Poor’s amid concerns over the country’s rising debt and forecast for slow economic growth.
US Rising Debt
With debt expected to rise to $20 trillion in the next decade, 85% of GDP, unemployment currently sitting at over 9% and a double-dip recession on the cards, S&P has sent a shock wave around the world with its decision. Washington’s squabbling politicians, unable to agree on the US debt ceiling, led the credit agency and investors to lose confidence in their decision-making ability.
American citizens will be hit with higher mortgage rates, while the US will have to pay more for its borrowing, an estimated $1 billion dollars a year.
With national economies so interconnected, the economic collapse of one affects others across the globe. Investors will have seen millions lost as share values plummeted. In the UK, private pension funds, Individual Savings Accounts and insurance premiums are affected by the weak US economy and the continued problems within the Eurozone.
It’s Not Doom and Gloom
Although this may sound doom and gloom, recent history has shown that world financial markets can bounce back from these global crises.
In the late 1990s, the so-called Asian Tiger economies – Indonesia, Hong Kong, Malaysia, Singapore, South Korea, Taiwan and Thailand – saw the collapse of their currencies after unregulated investment decisions and property companies overextended themselves in the boom years. Loans spiralled and foreign investment dried up resulting in the collapse of Asian stock markets which spread around the world sparking fears of a world-wide recession.
The Russian rouble collapsed a year later and the government took the decision to devalue the currency and suspend paying its foreign debts. This led to lack of investment confidence in emerging markets and other countries’ currencies, such as Brazil, came under pressure. Share prices around the world fell as they reacted to the problems in South America.
Gradually, markets stabilised as the likelihood of a global recession subsided.
The free market will always have its cycles of highs and lows and, hopefully, this will just be a slight dip. The US has merely lost its triple A credit rating from S&P’s. An arithmetic error by the company may mean that this is a short-term situation. The other two leading credit rating agencies, Moody’s and Fitch, have no immediate plans to downgrade America's AAA credit rating.
World Bank and IMF Wider Role as Global Financial Supervisors
But perhaps this is the time that international institutions such as the World Bank and International Monetary Fund (IMF) are given a bigger role to intervene earlier in national economies where politicians are unable to control rising debts. A collapse in one country’s economy may lead to increased unemployment and poverty but it affects other countries as there is less foreign investment, lost trade, bad debts and reduced overseas income for multinationals.
China is the majority holder of US debt. Today, its official news agency Xinhua issued this statement:
“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."
A global economy where we are all interconnected and dependent on across-the-board stability and growth surely now needs a global supervisor.
Sources: BBC (Accessed Aug 2011)
Worthington, I and Britton, C, The Business Environment (4th ed), Pearson Education Limited, Harlow, 2003
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