What Does the Credit Downgrade Mean for You and Me?

By now you (should) know that on August 5 Standard & Poor's, the world's leading independent provider of credit ratings, has downgraded the US credit ranking from AAA (the highest ranking it gives) to AA+.  Their rationale is as follows:

We lowered our long-term rating on the U.S. because we believe that the prolonged controversy over raising the statutory debt ceiling and the related  fiscal policy debate indicate that further near-term progress containing the growth in public spending, especially on entitlements, or on reaching an agreement on raising revenues is less likely than we previously assumed and will remain a contentious and fitful process. We also believe that the fiscal consolidation plan that Congress and the Administration agreed to this week falls short of the amount that we believe is necessary to stabilize the general government debt burden by the middle of the decade. (source)

Of course there is a lot of debate and finger-pointing over who is at fault for this. The usual back and forth between Democrats & Republicans has taken place in regards to who should have done what with the debt ceiling debacle. The White House staff is saying that it should be restored to the previous AAA rating because of an accounting error on S&P's part. Still others say that S&P's opinion isn't reliable anyway, since they deemed the screwed up mortgage practices that got us in this economic mess as "sound."

Regardless of who is at fault, the head's of S&P are remaining firm in that decision. So why does it matter? Well the US credit rating is just like an individual's credit rating. Lenders (other countries in the US' case) look at our score to see whether we are worthy of loans, our ability to pay loans back, and what interest rates will be assigned. In this borrow-happy country, that will have major impacts. And although the trickle-down theory hasn't worked with those tax cuts, you better believe there will be a trickle-down for you and me. Here are a few of the things we can expect to see:

Higher taxes. The interest on Treasuries will go up to reflect their higher risk, which means the cost of the nation's debt will increase accordingly. And the U.S. can't continue to maintain this course of no tax hikes indefinitely. The resistance to higher taxes by some politicians in the debt ceiling deal suggests the country isn't serious about paying its bills and is considered one of the reasons for the lower rating.

Higher home buying costs. Interest rates on mortgages track Treasury yields. "A 1.15% higher rate on a $200,000 loan would raise your interest payments by $36,573 over the course of the mortgage," Gandel said.

Guy Cecala, the publisher of trade magazine Inside Mortgage Finance, told Bankrate that homebuyers could face higher fees as Fannie Mae, Freddie Mac, the Federal Housing Administration and the Department of Veterans Affairs absorbed higher borrowing costs.

Higher inflation. If that's a result, you'll need to stash away even more money for retirement.  (source)

Of all these consequences, higher home buying costs is the biggie for me because it hits me twofold. On one hand, it makes it harder for people to buy houses (it's already pretty hard to get mortgages as it is) which means my real estate business would be put in an even bigger strain. But on a more personal level, I may not be able to buy the home that I want. Even though the one I have my eye on isn't that much, a higher interest rate could potentially knock me out of the running altogether. It's a scary prospect.

Now more than ever, we need to be conscious of our personal spending and saving habits. We may also want to look into more income-generating activities as well as learning how to sustain ourselves (yes, I'm talking farming/gardening here, people). Although I believe we can and will bounce back from this current economic meltdown, it may be a long time coming. We have to be able to survive until then.

Sidenote: It is really disturbing when life imitates art. I'm reading a book, Super Sad True Love Story by Gary Shteyngart, and just finished a chapter in which a Chinese official, Central Banker Li, calls America "An unstable, barely governable country presenting grave risk to the international system of corporate governance and exchange mechanisms." On Saturday, China lambasted the US over the downgrade. "The U.S. government has to come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone," Xinhua said. It said the rating cut would be followed by more "devastating credit rating cuts" and global financial turbulence if the U.S. fails to learn to "live within its means." (source)