Will the U.S. see a credit downgrade?
Don't laugh. Nothing is a sure thing in the wake of the Great Recession.
By Jeff Reeves, InvestorPlace.com
Yesterday, Greek stocks took a dive as Standard & Poor's warned that the nation's A- credit rating could see a downgrade within several weeks. The fallout spilled over onto Wall Street, fueling a 100-point decline in the Dow.
But if you really want to see some fireworks, just imagine what will happen if the U.S. sees its debt rating slip as well.
Sound like a fantasy? Well, think again. Uncle Sam keeps spending at a rapid rate, and foreign investors continue to shun the dollar -- forcing the Fed to print more money to cover the tab.
First there was the $700 billion stimulus and the $787 billion bank bailout. There's a good chance a health reform bill in the ballpark of $900 billion will pass in the coming weeks. And let's not even get into the fact that an aging Baby Boom generation will push entitlement programs like Social Security and Medicare to the limit in coming years.
Who's paying for all this? Taxpayers, yes, but the government long ago stopped taking into consideration how much it's making in tax revenue and how much it will spend. That's why the national debt is sitting at $12 trillion and the current budget deficit is more than $1 trillion in 2009. Somebody has to loan us money.
In years past, investors abroad were happy to front Uncle Sam the cash for his spendthrift ways. Treasury securities were basically a sure-thing investment, and many sovereign funds and foreign central banks invested in the U.S. with confidence.
But as the greenback has slipped 15% to 40% against most major currencies, those foreign investors aren't so happy with us anymore. And with yields at record lows thanks to the Fed's rock-bottom interest rates to spur economic growth, these investors are getting more and more reluctant to prop up our debt.
In fact, the Financial Times reported recently that so far this year, U.S. stock mutual funds have had an outflow of $6.3 billion, while international stock mutual funds have had positive inflows of nearly $20 billion! That means traders haven't just decided to pull their money out of dollar-backed securities, they're also pulling out of almost any American investments in favor of more favorable conditions abroad.
The U.S. currently gets a AAA rating because nobody thinks that America would ever fail to fulfill its debt obligations. However, the past 18 months have brought some pretty crazy occurrences on Wall Street, including the collapse of iconic investment banks JP Morgan and Bear Stearns, the bankruptcy of industrial giant GM and the nationalization of Citigroup and AIG.
Investors should know by now that nothing is a sure thing in the wake of the Great Recession.
If the U.S. can get its fiscal house in order, it could avert a downgrade to its credit rating. But since President Barack Obama publicly stated yesterday that we have to "spend our way" out of our current crisis, don't hold your breath.
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Stocks drift lower and bonds are hit as investors await the Fed. Prepare for higher volatility this week.
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