US Government Has its Way with S&P


The credit raters at S&P just got beat by the US Government to the tune of $1.5 billion. What happened here is a case of extortion, dishonesty, and revenge.

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In August 2011, S&P downgraded US Government credit for the first time, down from AAA to AA+. For accumulating the largest debt in world history, you’d think it’s about time. Then, in February 2013, the Federal Government sued S&P for allegedly overrating certain mortgage backed securities, or MBSes, that it alleges caused the financial crisis of 2008.

Mortgage backed securities can be a bit difficult to understand, so before we get into the specifics of this settlement, here are the basics of MBSes. If you take a loan from a bank to buy a house, the right to your monthly payments is now worth something. Whoever owns the mortgage, owns your monthly payments. The bank you got the loan from, assuming you got it before 2008, inevitably sold the loan to Fannie Mae or Freddie Mac, so when you pay your mortgage, the money ultimately went there.

Fannie Mae and Freddie Mac were government sponsored enterprises, or GSE’s. They ended up owning most of the mortgages in the end because the banks always sold to them and they bought it all. A lot of these loans all bundled together from different mortgages constitutes an MBS. An MBS only has value if the people that took the loans that make up the MBS can pay them back. Otherwise the MBS is worthless.

So, after the S&P downgrade of the US credit rating, the US government sued S&P, and only S&P, for giving these MBSes a AAA rating just before everyone figured out they were worthless, sincethose taking out mortgages couldn’t repay them. Other rating agencies gave these same MBSes a AAA rating, but they weren’t sued. The US Government claims this is a coincidence.

Looking at it from the inside out though, the whole thing is convoluted. All these MBSes became the property of the Federal Government, more or less, through Fannie and Freddie, the two government sponsored enterprises which bought them. So in order to take revenge on S&P for downgrading US Government credit, the US sues S&P for overrating the MBSes that the US Government itself was sponsoring through Fannie and Freddie? If the Feds are unhappy that S&P overrated MBSes, why are they upset that S&P downgraded the US debt?

There is no consistency here. And now S&P has settled with the Feds to the tune of $1.5B in what was originally a $5B lawsuit.

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