AA+

Economic and financial analysts met at their yearly fishing retreat (this year in Grand Lake Stream, Maine - sponsored by Cumberland Advisors) as the market had its largest sell-off since 2008 and the U.S. suffered its first credit rating downgrade. The participants, steeped in matters of global economics, had refreshingly clear answers and explanations for the current activity in the market, which acted as a counterpoint to the misinformation coming out of Congress:

1. S&P is playing politics: According to one of the analysts, a report by Standard and Poors miscalculated the financial burden on the U.S. credit rating by over $2 trillion. Once that was taken into account, S&P changed their reasoning for the downgrade from financial to political. After the financial collapse, the bipartisan commission to study the recession concluded that rating agencies who gave high-risk, subprime mortgages a high rating were the main driver of the housing and credit collapse. While S&P was just one of many agencies named in the report, there has been speculation that a downgrade was partially a response to that attack. Analysts also criticized S&P for using politics as a reason for the AA+ rating. While the political brinksmanship did have an affect on international markets, the fundamental financials of the United States should have been considered as the sole guide for a credit review. In that case, there is slightly less justification for a downgrade as there was a nearly unified consensus amongst mainstream Republicans and Democrats that a default was not on the table.

2. The market sell-off was an indication of a continuing rough patch in the economy - Before the downgrade, an analyst at the retreat was interviewed by NPR about the 500+ point sell off in U.S. stocks. The analyst said that people are already aware of the debt crises, the recession, the part shortages from Japan and the reaction that the market had to the political horse-trading in Washington. This, he said, was just a symptom of an already skittish market that is still on the road to recovery. He pointed to a combination of high oil prices from Arab Spring, automobile and electronic parts shortages from Japan, a stalemate over raising the debt ceiling and the economic crisis in Europe all coming to a head. He assured that a double-dip recession was unlikely, and that the sell off was a reaction to a perfect storm of economic news.

3. S&P Did a Good Thing - While many at the retreat were optimistic, there were some who, like many Americans, were sick of the political grandstanding in Washington. There was some talk of how the downgrade was a good wake up call that we need to control our debt with balanced means. The prevailing view was that the deal in Washington was not good enough, and that a balanced approach of revenues and cuts would have been seen a a better long-term solution. And, the downgrade showed that international markets have no confidence in Congress, and do not see this "super-committee" as being able to fulfill its job of finding $1.2-1.5 trillion in cuts. This news is not surprising, as Congress currently has a 12% approval rating.

4. Indicators are projecting different outcomes - Investors are selling and the stock market is tanking. But, key indicators are not completely foreshadowing a double dip recession. The price of gold, which usually has an inverse relationship with U.S. markets, is at an all time high of over $1,700/ounce. Oil, another good market indicator, is slipping in reaction to the possibility of lower demand in a slowing economy. But, even after the U.S. was downgraded, investors still remain optimistic about U.S. debt and continue to stay in the T-Note. This is because the T-Note is the best bet in town. While the U.S. seems to be completely gridlocked over how to reduce its growing deficits, the EU is having a much worse financial crises, which might spread from smaller economies (Greece, Ireland, Portugal) to larger economies (Italy, Spain), necessitating further bail-outs.

The downgrade is certainly a wake-up call for U.S. fiscal policy. The charge that S&P played politics with the world economies is completely baseless if it comes from anyone inside the beltway. It is the extreme wing of the Republican party who refused to back down from an unbalanced approach to deficit reduction, and instead decided to scream in an echo chamber instead of negotiating for a more substantial debt-reduction deal. It is the Administration and the speaker who cow-towed to an extreme wing by not having a robust discussion about a balanced approach to "live-within-our-means" fiscal policy. Regardless of who gets the blame, fault will fall on the Administration's head, as Obama will be the first President to see a U.S. downgrade. More importantly, it is the affirmation that partisanship has become an unprecedented polarizing force that has isolated Congress in such a way that the financial health of international markets has been an aside to stubborn political orthodoxies.

For Reference, here are some sections from the S&P downgrade language:

"The political brinksmanship of recent months highlights what we see as America's governance and policymaking becoming less stable, less effective, and less predictable than what we previously believed. The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy. Despite this year's wide-ranging debate, in our view, the differences between political parties have proven to be extraordinarily difficult to bridge, and, as we see it, the resulting agreement fell well short of the comprehensive fiscal consolidation program that some proponents had envisaged until quite recently. Republicans and Democrats have only been able to agree to relatively modest savings on discretionary spending while delegating to the Select Committee decisions on more comprehensive measures. It appears that for now, new revenues have dropped down on the menu of policy options. In addition, the plan envisions only minor policy changes on Medicare and little change in other entitlements, the containment of which we and most other independent observers regard as key to long-term fiscal sustainability."

"Compared with previous projections, our revised base case scenario now assumes that the 2001 and 2003 tax cuts, due to expire by the end of 2012, remain in place. We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act."

"Although in our view the credit standing of the U.S. government has deteriorated modestly, we see little indication that official interference of this kind is entering onto the policy agenda of either Congress or the Administration. Consequently, we continue to view this risk as being highly remote."

"On the other hand, as our upside scenario highlights, if the recommendations of the Congressional Joint Select Committee on Deficit Reduction--independently or coupled with other initiatives, such as the lapsing of the 2001 and 2003 tax cuts for high earners--lead to fiscal consolidation measures beyond the minimum mandated, and we believe they are likely to slow the deterioration of the government's debt dynamics, the long-term rating could stabilize at 'AA+'."

The most foreboding:

"We could lower the long-term rating to 'AA' within the next two years if we see that less reduction in spending than agreed to, higher interest rates, or new fiscal pressures during the period result in a higher general government debt trajectory than we currently assume in our base case."