The reaction to Moody’s action was mainly a shrug, but the downgrade is a warning that sooner or later, ‘something’ will happen that cannot be shrugged off.

Moody’s became the last of the three major rating agencies to downgrade U.S. debt from a AAA rating to its second-best grade (in Moody’s case, that’s  Aa1). Standard & Poor’s was the first to cut (to AA+), back in 2011 (prompting a call for arrests by Michael Moore) and Fitch followed suit in 2023.

The underlying concern is, of course, the debt, the seeming inability to tackle the deficit, the usual. Bloomberg’s John Authers notes however, that the Moody’s view that the outlook for the U.S. is stable is “contingent on some assumptions that shouldn’t need to be spelled out — but these days, do.” These are (1)  that the dollar continues to be a “global reserve currency” (which seems likely); (2) the U.S. operates an effective monetary policy led by an independent Federal Reserve (translation: appointing a successor to Powell who is seen as being in Trump’s pocket will go down very badly); and (3) the continuation of the “constitutional separation of powers among the three branches of government.” The last is a reminder that part of the appeal of U.S. debt is that it is backed by a stable system of government.

Meanwhile, after explaining some of the background — how the agencies work, the importance of ratings and so on — Bloomberg’s Matt Levine makes the point that Treasuries are sui generis — and that the ordinary consequences of a downgrade do not apply:

The credit rating of US government debt, for most purposes for which people would use a credit rating, is “US government debt.”

He continues:

Now, that is too glib, and Moody’s job is not only to issue binding rulings about what debt is and isn’t safe, but also to justify its quasi-regulatory status by doing correct and reasoned credit analysis. So they have to come up with some rating for the US government, and I suppose there is some pressure to react to fiscal profligacy or other embarrassments by saying “actually it’s Aa1 now.” The Moody’s downgrade is newsworthy because it reflects market sentiment — people are worried about the budget deficit, etc. — more than because it affects it.

That’s right, and it is not nothing. That deteriorating market sentiment will also be reflected in the price that investors demand for lending the U.S. their money. There’s no mathematical formula to quantify that extra — sentiment cannot be measured that precisely — and there will be times when that extra cost disappears. That’s because the investment process is always a choice. The U.S. might have become riskier, but, at any given moment, and for one reason or another, its debt may still be thought to be less risky than that, say, of other countries. But of course, any increase in the amount the U.S. must pay on its debt is going to make the burden even worse.

And, although this too is impossible to quantify, the perception that the U.S. is somehow less reliable a counterparty than it was (a conclusion that international investors are bound to reach after the dramas of recent months) will come at a price. The DXY index (the dollar measured against an outdated — no China, for one — basket of its trading counterparties’ currencies) is down around 7.5 percent this year and has not been helped by “liberation day.”

Yields on 30-year Treasuries touched 5 percent after the downgrade, and they were already rising. If they stay at this level, that will be for the first time since the run-up to the financial crisis.  At $3,230, gold, an alternative safe haven, is off its recent peaks in U.S. dollar terms (it reached $3,500 on April 22) but is still up 21 percent year to date. This all suggests unease, increasing the danger that market-sensitive news will be seen through a half-empty glass.

Today, at least, the reaction to the news from Moody’s was (mainly) a shrug, but the downgrade is yet another warning that sooner or later, “something” will happen that cannot just be shrugged off.