According to Bob Sloan, S3 founder, credit downgrades are not well understood among everyday consumers—at least, not the kinds of credit downgrades that affect the entire nation. Surely, we all understand what it means to receive a low credit score; many of us have been in that very situation. When an individual receives a poor credit score, it effectively makes it harder, more expensive, for that consumer to borrow money. Interest rates go up; borrowing power decreases.
Much the same thing happens when the nation sees its credit rating downgraded. Bob Sloan, S3 founder, notes that, when the credit rating is cut, the national government’s borrowing power becomes similarly lessened—or at least, less cost effective. The question is, when the United States government loses some of its power to borrow, do the effects trickle down to hurt everyday consumers?
Understanding Credit Downgrades
Sadly, this is not a purely abstract or hypothetical query. Most consumers will remember when the United States saw its credit rating cut, just a matter of months back. Now, the same thing could potentially happen again. With a default looming, the United States is in a bad place, financially—and credit rating agencies have already threatened with a possible default.
This could indeed impact consumers, says Bob Sloan, S3 founder. It could make it harder to obtain loans, and some homeowners may themselves default on loan payments. The effects could ultimately be brutal for consumers and for the entire U.S. economy.
Bob Sloan, S3 Founder: What a Credit Downgrade Could Mean
Bob Sloan, S3 founder, explains that there are three credit rating organizations out there that seek to evaluate the creditworthiness of large institutions and national governments. These include Fitch, Moody’s, and S&P. For one agency to downgrade the U.S. would prove damaging; for all three to do so it would prove utterly terrifying.
A downgrade essentially reflects a loss of confidence, explains Bob Sloan, S3 founder. In this instance, it reflects a lack of confidence in the U.S. government to pay back its debts over time. Riskier countries, of course, pay higher interest rates to borrow—just as consumers do—so the downgrade is far from merely symbolic. With that said, the symbolism of it is not to be dismissed: When the U.S. was previously downgraded, it shook the whole world, because the U.S. has long been one of the safest investments there is.
When the Government Pays More, So Do Consumers
The interest rate that the United States pays on short-term loans is determined by the market for U.S. Treasury bills. The downgrade, should it happen, would increase the yield on those bonds. What this means, discloses Bob Sloan, S3 founder, is that the government would be put into a position where it would have to spend more money to borrow the same amount.
This could be bad news for many consumers. After all, a number of consumer loans—including credit cards and mortgages—are linked to the yield on Treasurys. They, too, would likely rise.
Consumer Protection Initiatives
This does not mean that everything would change, necessarily. Many consumer loans have fixed interest rates, and therefore they would not change—even if the government’s borrowing ability was strapped. Moreover, credit card regulations now prevent companies from boosting their interest rates without first giving 45 days notice. Meanwhile, credit card companies cannot raise their interest rates on old purchases—only new ones.
For others, there could be some real damage done by a credit downgrade. Some loans, including credit cards and home equity loans, have variable rates, and could be prone to fluctuation. Also, those looking to receive a loan for a new car, or to pay college tuition, would be hurt by this.
Good, Bad, and Ugly
What would the worst-case scenario be? According to Bob Sloan, S3 founder, the worst-case scenario would be that many homeowners would simply not be able to keep up with their monthly mortgage payments. Many of them could default, then—and in doing so, they could usher in a whole new financial crisis.
A downgrade would, without question, be a major blow to the economy. Would it be catastrophic? That depends on a number of factors. Certainly, it would be far worse if all three credit rating agencies opted to downgrade, not just one of them.
Regardless, it is clear that a credit downgrade is far from just a political concern. It would impact everyday consumers, and not for the better. It might even usher in a whole new financial crisis, or another housing market crash.
As such, it is something that political and financial leaders should work to avoid at all costs. This can only be done by minimizing the nation’s debt. Bob Sloan, S3 founder, hopes that this becomes a political priority.