Impact on consumer loan rates
For consumers, a downgrade in their credit rating usually goes hand-in-hand with higher borrowing costs. With S&P announcing on Aug. 8 that it has also downgraded federal mortgage giants Fannie Mae and Freddie Mac, which guarantee and securitize the vast majority of mortgages in the U.S., you'd think mortgage loan rates would be guaranteed to go up substantially.
Not so fast, says Gerald Epstein, professor of economics and co-director of the Political Economy Research Institute at the University of Massachusetts Amherst.
"It seems like in terms of interest rates, and given the turmoil that's happening elsewhere and the fact that it was just Standard & Poor's and not the other ratings agencies, and that there are not a lot of alternatives to U.S. debt as a safe haven, the short-term interest rate effects might be pretty muted," says Epstein. "But we're entering uncharted territory, so nobody really knows."
Wardwell says in isolation, S&P's move would push loan rates up, but not enough to overcome the downward pressure from the global flight to quality going on right now. As long as the U.S. remains a safer place to invest compared to the rest of the world, rates should remain low, he says.
In the medium term, Epstein says economic fundamentals will have a greater effect on investors' perceptions about how likely U.S. borrowers will be able to pay back their mortgage loans.
Rates on deposit accounts
It's hard to know how banks will respond to the downgrade when it comes to rates on deposit accounts.
Wardwell says he believes banks may look to build up larger reserves to ride out the current uncertainty over sovereign debt. In that case, rates on deposit accounts would climb to reflect greater competition for depositors' money.
But Epstein is less optimistic.
"If this is perceived as an increase in risk, then what banks try to do is increase their margins. They might start to charge somewhat more for loans, but they don't want to pay more for deposits," he says. "So I don't think this is any good news for depositors."
Behind the rating
With all the chaos that has accompanied S&P's move, it might be natural to wonder what is behind the downgrade.
"One (reason) is the obvious, and that is the growing deficit and, in (S&P's) view, the inability of Congress to deal with it," Nadler says.
Nadler says the S&P set up the downgrade by calling for more than $4 trillion in deficit reduction during the debt ceiling debate. When that reduction didn't materialize, S&P was boxed in to respond with a downgrade. "S&P has really put themselves as a player in this game instead of remaining a referee. The question would be: 'Have they lost their objectivity?'" Nadler says.
There may have been an element of political gamesmanship in the downgrade, Epstein says, particularly considering the rating agency didn't reconsider its rating after making a $2 trillion mathematical error in its explanation of the change.
Without that error, Epstein says the U.S. debt outlook doesn't look much different from that of countries whose triple-A ratings have been left intact by S&P. The downgrade may have been, in part, a reaction to criticism by U.S. officials of the agencies for signing off on risky mortgage-backed securities that contributed to the financial crisis.
Long-term economic prospects troubling
The biggest long-term danger from the downgrade could be a bigger push for government austerity here and abroad, which could slow economic growth dramatically, Epstein says.
"If (the ratings agencies) push each country individually to cut back on spending and cut their deficits, what they're going to do is push the whole world economy down, cutting GDP all over the world," says Epstein. "It's a self-defeating, self-feeding negative process."