Bloomberg News

S&P Erred in U.S. Downgrade, Chairman of Canada Rival DBRS Says

October 13, 2011

Oct. 13 (Bloomberg) -- Standard & Poor’s erred in stripping the U.S. of its AAA credit rating for political reasons because of the federal government’s ability to raise taxes, according to the chairman and founder of Canadian rival DBRS Ltd.

“The cut to the U.S. rating was wrong,” Walter Schroeder, who founded Toronto-based DBRS in 1976, said at a presentation to investors in Montreal yesterday. “U.S. agencies have gotten political. They are playing with fire. The U.S. has the best taxation capacity of any country. Canada is heavily taxed, and the U.S. is not.”

Instead of eroding the value of U.S. government debt, the Aug. 5 rating cut sparked financial market turmoil that made Treasuries and the dollar the world’s best-performing asset classes in the third quarter. Investors turned to the dollar and U.S. government debt as a refuge from slowing growth and Europe’s sovereign-debt crisis.

In downgrading the U.S. to AA+, S&P said the U.S. government has become “less stable, less effective and less predictable” as lawmakers failed to meet targets for reducing the budget deficit. New York-based S&P downgraded the U.S. even after Treasury Department officials told the firm it had overestimated future national debt by $2 trillion. The company said the error didn’t affect its decision.

Value-Added Taxes

The U.S. can erase most of its deficit by introducing a single value-added tax, Schroeder said. While value-added taxes across Western Europe typically exceed 10 percent, reaching 19 percent in Germany, U.S. consumers generally only pay about 4 percent to 5 percent in sales taxes, depending on their state of residence, he said. In Ontario, Canada’s most populous province, value-added taxes amount to 13 percent.

DBRS rates the U.S. AAA, its highest ranking, and has no intention of following S&P’s lead, Schroeder said. DBRS assigned the AAA rating on Sept. 8, while also citing the benefit of the dollar’s status as the world’s largest reserve currency.

“I don’t think that in our case there is any rating cut imminent that we intend to make,” Schroeder said. “You have to rate through a cycle. You don’t react to headline news.”

The dollar’s 5.9 percent increase in the third quarter was topped only by Treasuries, which rallied 6.4 percent, according to Bank of America Merrill Lynch data. Sovereign debt in the rest of the world returned 3.15 percent, and AAA rated U.S. corporate bonds gained 6.4 percent. The MSCI Index of stocks fell 18 percent and S&P’s commodity index slumped 12 percent, the biggest quarterly decline since the three months ended in December 2008.

Eliminating the Deficit

Moody’s Investors Service and Fitch Ratings affirmed their top ratings for the U.S. after lawmakers agreed in August to lift a restriction on borrowing. Canada has the highest ratings from all four of the credit rating companies.

Introducing a 10 percent value-added tax in the U.S. could generate annual revenue for the federal government of about $840 billion, Schroeder said. The deficit totaled $1.23 trillion as of Aug. 31, according to Treasury Department data.

“With that one tax, they can eliminate about 70 percent of the deficit,” Schroeder said.

Any such value added tax probably wouldn’t be implemented until after the 2012 election, Schroeder said.

“They can’t do anything right now in the United States,” Schroeder said. “They are totally bogged down in politics. They don’t support each other. The U.S. has tremendous taxation capacity once they get their act together, which probably means after the next election. That’s going to be positive.”

Cutting the U.S. also creates a “terrific problem” in that it may force S&P to lower credit ratings on U.S. companies that wouldn’t otherwise deserve a downgrade, Schroeder said.

“If you move your base, you knock out all of your relative ratings and all of a sudden, every rating you have seems out of whack,” Schroeder said. “You create immense problems when you start fooling around with a key rating like the United States. And it’s safe to say we’re not going to do this.”

--Editors: Dave Liedtka, Dennis Fitzgerald

To contact the reporter for this story: Frederic Tomesco in Montreal at tomesco@bloomberg.net. To contact the editor responsible for this story: Dave Liedtka at dliedtka@bloomberg.net


The Good Business Issue
LIMITED-TIME OFFER SUBSCRIBE NOW
 
blog comments powered by Disqus