BY MALIA ZIMMERMAN – Standard & Poors downgraded the nation’s long-term credit rating on August 5 to AA+ from AAA and issued a “negative outlook” for the future.
The news sent U.S. stock market spiraling downward. The Dow Jones Industrial Average on Monday closed down 635 points below 11,000. This followed Thursday’s downturn when the Dow lost 512 points.
The downgrade is negatively impacting financial markets across the world.
Eileen Norcross and Matt Mitchell, scholars at the Mercatus Center, warned that this downgrade will have ripple effects on states and municipalities. They said borrowing costs of all governments will likely increase.
“As the federal government looks to get its fiscal house in order, it may choose to limit the amount of money it sends to the states,” said Mitchell.
If federal interest rates increase, the federal government will pay more to borrow money. States will have to compete for dollars, and with the increased cost for borrowing, the states will have to borrow less, increase taxes or lower spending, Mitchell said.
Gov. Neil Abercrombie’s Administration and the managers of the state’s Employee Retirement System are closely monitoring financial markets for what are the immediate reactions in both the equity and municipal debt areas over the next week or so, said Kalbert Young, director of the Hawaii state Department of Budget and Finance.
But he said the S&P news is not likely to affect Hawaii’s bonds or treasury directly.
“We will be monitoring the affect the downgrade has on the overall equity and municipal debt markets. Over the next week or so, if there is any affect, it will likely be seen in the recalibration of other U.S. municipal debt – especially, for those states that are also rated ‘AAA’. Hawaii is not a ‘AAA’ state. Hawaii is currently rated ‘AA’ by S&P with a stable outlook,” Young said.
The state treasury does hold U.S. treasury notes, Young said. “The Hawaii Revised Statutes provides U.S. Treasuries as one of the types of financial instruments allowable to be invested by the state treasury. The credit downgrade does not impact the legality of the state holding such instruments.”
There also is a question as to whether the downgrade will impact state retirement systems across the country, including the State Employee Retirement System (ERS).
“In checking with the State Employee Retirement System (ERS), they report that their standing investment policies for fixed income already provide enough flexibility that the U.S. credit downgrade would not affect current holdings. No change in either current holdings or in the investment policy would be necessary due to the direct result of the credit downgrade,” Young said.
“With that being said, there is likely to be some secondary and tertiary affect in the overall bond market (for corporate debt and other municipal debt) as well as the equity markets. Depending on the degree of that effect, there may some portfolio repositioning or re-balancing. However, at this point in time, I would not characterize any anticipated affects to be significant.”
U.S. Sen. Daniel Inouye, Chairman of the U.S. Senate Committee on Appropriations, told Hawaii reporters today that the federal debt ceiling crisis and credit rating downgrade should not be blamed on a political party or faction.
Inouye, who is one of six members of Congress on a bi-partisan task force organized by Vice President Joe Biden to negotiate reduce the nation’s deficit, advocated along with Sens. Max Baucus (D-Mont.), and Sen. Charles Schumer (D-N.Y.), and President Barack Obama for increased spending and more stimulus funds.
“Not necessarily raising taxes but closing loopholes,” Inouye said in Jim Dooley’s report today. “Why should I be able to use interest deductions for the purchase of my second home by purchasing a 150-foot yacht?” “I am doing everything possible to convince my colleagues on the committee to include (new) revenue sources.”
However, S&P advocated for $4 trillion in cuts rather than the $2.4 trillion in cuts that Inouye and the majority of House and Senate members agreed to. Mercatus experts said before the downgrade that if congress did not cut spending by $4 trillion, the S&P would likely announce a downgrade.