According to recent reports, Washington’s decisions to open the government’s vault to support Wall Street banks, Freddie Mac, and Fannie Mae, among others, could have the collateral effect of costing the United States government its AAA credit rating. During the last several months, Washington has permitted the Federal Reserve to provide billions of dollars in government funds to an array of financial institutions in order to provide them with needed liquidity. Specifically, Washington has committed to provide financial support to numerous Wall Street banks, Freddie Mac and Fannie Mae. Many of these loans by the government have been secured by complex financial instruments of questionable value. Stated another way, much of the questionable debt associated with the ongoing subprime and credit crisis could become the government’s risk at substantial cost to American taxpayers.
Recent activity in the little known Treasury default swaps market shows that many sophisticated investors are concerned about the U.S. government maintaining its AAA rating. Bloomberg.com quoted Andrea Cicione, a credit strategist at BNP Paribas, as saying, “The ratings agencies said the risk for the U.S., if it bails out Fannie and Freddie, is it could lose its AAA rating.”
The loss of the U.S. government’s AAA rating could have significant negative effects on an already fragile U.S. economy. First, it would raise concerns throughout the world about the U.S. government’s creditworthiness. Second, it would increase the cost of borrowing for the U.S. government ? costs that would ultimately be passed on to and paid by the U.S. taxpayer. Third, a reduction in the U.S. credit rating would result in a drop in value of all outstanding U.S. obligations.
Bloomberg.com also quoted noted investor Jim Rogers, Chairman of Rogers Holdings, as saying, “I don’t know where these guys get the audacity to take our money, taxpayer money, and buy stock in Fannie Mae….So we’re going to bailout everyone else in the world. And it ruins the Federal Reserve’s balance sheet and it makes the dollar more vulnerable and it increases inflation.”
Unfortunately, Washington has set a trend that must be reversed. Thousands of American enterprises ranging from General Motors to airlines to retailers are all suffering significant financial reversals as a result of the current economic situation. Unless the government wants to end up owning everything, there are simply not enough funds in the government’s vault to prevent major failures from occurring.