In the wake of all the angst about Standard & Poor's downgrading the credit of the U.S. government, we need to consider what rating agencies are. They are exactly what they themselves say they are: publishers of opinions. In other words, they are one group of scribblers among others, trying to forecast the future and its risks like hundreds of other people, naturally making many mistakes, like everybody else.
It is a delicious irony that the opinions of these particular scribblers get special weight only because the federal government has given it to them. Government regulations require financial entities to use the ratings issued by government-designated rating agencies for investment decisions. Now S&P has turned on the source of its privileged position and profits. If the government does not like the force of this disloyal pontification, that's its own fault.
The Federal Reserve hastened to announce that the S&P downgrade would have no effect on the risk-based capital requirement for banks that invest in U.S. government debt. There is no reason it would need to be changed, but note: There is a deep conflict of interest on the part of financial regulators, who are employees of the government that issues--and needs to keep on issuing great amounts of--the debt in question. The regulators are not likely to be very critical of the debt of their employer. Indeed we can count on their continuing to promote it.
From an overall financial perspective, it is perfectly logical to think that internationally diversified, cash-generating, well-managed companies with low leverage are better credit risks than nationally concentrated, negative cash flow, poorly managed, highly leveraged governments.
Alex J. Pollock is a resident fellow at AEI.