Memo to Moody’s: It’s Accounting 101, Not Economics

[Joanne98]

Marshall Auerback explains why the rating agency needs a lesson in basic accounting — and how its REAL message is anti-private savings.


It took an accountant to take down Al Capone. Perhaps the accountants will be the ones who finally take down the deficit terrorists? They seem to be the only ones who understand that policy makers cannot coherently examine fiscal policy options without analyzing their implications for the financial balances of other sectors. For all of the talk about Greek “rescues”, or the US reducing its “structural fiscal deficits”, few seem to understand that imposing an arbitrary fiscal deficit to GDP ratio (or fixing an exchange at an arbitrary level) reduces the room available to achieve private sector net saving.

Deficit Hysteria Ignores Basic Accounting

Basically, it all comes down to Accounting 101. Those who continue to rail about “fiscal sustainability” or terrorize us with deficit hysteria are demonstrating phobias relating to private savings (if they truly considered the logic of their position).
And this includes our esteemed ratings agencies, which today issued another blast against both the US and UK. According to Moody’s, both countries have moved “substantially” closer to losing their AAA credit ratings and must bring down their debt. Somehow, the countries are supposed to do this without damaging growth, despite the fact that the very expansionary policies which Moody’s now decries have provided a floor under what could have been a collapse in income and employment similar to that of the 1930s.

Well, to paraphrase the famous baseball Hall of Famer, Yogi Berra, we have a sense of “déjà vu all over again”. The same thing happened to Japan in the late 1990s. In November 1998, the day after the Japanese government announced a large-scale fiscal stimulus to its ailing economy, Moody’s Investors Service began the first of a series of downgradings of the Japanese Government’s yen-denominated bonds, by taking the Aaa (triple A) rating away. The next major Moody’s downgrade occurred on September 8, 2000.

Then, in December 2001, Moody’s further downgraded the Japan Governments yen-denominated bond rating to Aa3 from Aa2. On May 31, 2002, Moody’s Investors Service cut Japan’s long-term credit rating by a further two grades to A2, or below that given to Botswana, Chile and Hungary.

Big deal. Japan today still borrows 10 year money at around 1.3%. Fortunately, deficit hysteria doesn’t translate very well in Japanese.

If our ratings agencies (and the vast majority of economists and market commentators) had a basic understanding of accounting, they might stop embarrassing themselves. To be sure, many do get it. Dean Baker, Rob Parenteau, Scott Fullwiler, Randy Wray, and Bill Mitchell, are conspicuous amongst the profession of those who adopt a coherent stock-flow analysis to macroeconomics.

Most, however, are reluctant to embrace this approach. And not just economists: Politicians and the media often argue that the government must balance its books, just like a household. If a household were to continually spend more than its income, it would eventually face insolvency; it is thus claimed that government is in a similar situation. Randy Wray has demolished this line of reasoning.

Neoliberal Nonsense

Part of the problem is ideological. At the most basic level, the combined income of all three sectors of an economy - the domestic private sector (including households and businesses), the government sector, and the foreign sector – must equal its expenditures. Sectors in the economy that are net issuing new financial liabilities are matched by sectors willingly owning new financial assets. This is not only true of the income and expenditure sides of the equation, but also the financing side, which is rarely well integrated into macro analysis. But the neoliberals hate the idea of placing the government sector on par with the private and external sectors. They view it as an unwanted appendage which adversely afflicts the operation of the private sector in a “free market” economy.

http://www.newdeal20.org/?p=8939

[midnight]

1. I wish someone would make flash cards with pictures for those of us to follow

this.

I love this part:if the debt is incurred today, but it is to be resolved in the future, the future resources to pay off the debt would have to be transmitted back to the present in order for there to be any burden in terms of lost consumption by the future generation! If it cannot be time-transmitted then it stays in the future, unless our grandchildren decide to engage in a gigantic potlatch and burn the resources and declare the debt to be extinguished.

Why are we not doing this with the debt incurred via underwater mortgages?

[jtuck004]

2. Whose assets are you burning?

I suspect the owner of the mortgage won't be too tickled with that. By that I mean the bank or company that actually holds title.

The asset(house) is no longer marked at the value which the bank "says" it should be, but at the value it will sell at. So not only the homeowner loses, but whoever owns the mortgage, usually a bank. But the bank loses again because their assets are now lowered, and their safety depends on the amount of their assets. They close, a lot of people lose jobs. Or the FDIC has to take money from taxes to prop them up. And the neighbors homes lose value while this is going on. And with all this loss in value, people lose the equity they were borrowing against, and until that is built up (10-20 years from now?), and 15 million or more people are re-employed (10 years plus?) there is little to no consumer buying, which is 70% of our economy.

A lot of loss from a little bonfire.