The silver lining to the S&P change in outlook

As most investors know already, the credit rating arm of Standard & Poor's yesterday lowered the outlook on the credit rating of the US to "negative" from "stable," saying:

Because the U.S. has, relative to its 'AAA' peers, what we consider to be very large budget deficits and rising government indebtedness and the path to addressing these is not clear to us, we have revised our outlook on the long-term rating to negative from stable.
By saying this, S&P is indicating that they see a "material risk" that the credit rating of the US will have to be downgraded if meaningful budget change does not take place by 2013 (by the budget for 2014).

The silver lining to this dark cloud is the fact that the question of the government's budget deficits and indebtedness is now very much on the table. The debate over the direction of government spending has taken center stage in a way that has not happened since the US embarked on the course of building an enormous welfare apparatus over seven decades ago.

Another sign that things have changed in a massive way is the interview this morning on ABC News with Senator Dick Durbin (D-Illinois) in which even he acknowledged that the current configuration of Social Security is unsustainable. Beginning at 2:40 in the above interview, Senator Durbin says:
Social Security, untouched, will make every promised payment for twenty-six years, but in 2037 -- as we know it -- Social Security falls off a cliff. There's a 22% reduction in payments, which is really not something we can tolerate. If we deal with it today, it's an easier solution than waiting. I think we ought to deal with it.
We have called this the Question of our Time, and we believe it is an absolutely critical threat to future prosperity. However, in this case, we agree with Senator Durbin: there is no reason that the problem cannot be fixed if it is dealt with in time.

Our preference is that the solution involve increased growth (see "Growth is the Answer") as opposed to European-style "austerity plans," but we absolutely agree that entitlement spending needs to be radically reduced, and for that to happen, the voting population needs to be ready for some changes in Social Security, Medicare, and Medicaid. Even though the public is waking up to the problem, recent polls show that the appetite among voters for these kinds of cuts is still low, and we don't think the politicians will have the courage to make them until the voters change their attitude towards reducing these "big-three" entitlements (see this recent post for more details).

The good news is that this debate is now getting the attention of people who never paid attention to it before, and we believe that is a cause for optimism.

As economist Scott Grannis has pointed out, we don't need ratings agencies such as Standard & Poor's to tell us that this deficit problem exists -- in fact, as he says, if the analysts at S&P were thinking about it the right way, the fact that this debate has reached this level should be a positive sign for the creditworthiness of the US! The budget problem was just as bad a year ago, but we weren't even having this debate at that time, so you could argue that the situation has really gotten better!

In any event, the fact that even the S&P analysts have added their voice to this debate shows how things have changed, and we take that as a potentially positive development.