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Dow plunges 635 points as downgrade fuels market turmoil

August 9, 2011


The Dow Jones Industrial Average closed down 635 points Monday, dropping below 11,000 as the impact of an unprecedented downgrade to the U.S. credit rating reverberated through financial markets.

The downturn came on the heels of a brutal week for the market, capped off when the Dow lost 512 points on Thursday. That gave the blue-chip stock index two of its 10 biggest point losses in the last three trading days.

The S&P 500 and NASDAQ stock indices were both down nearly 7 percent at the close of Monday’s trading.

The dramatic point drops followed the first-ever downgrade of United States debt by Standard & Poor’s late Friday evening. The credit rating agency, citing increasing concern over the nation’s political infighting and the relatively small amount of deficit reduction included in the deal to raise the debt limit, knocked America down from its top rating for the first time, moving it down one notch to AA+.

In an ironic twist, the financial product that was downgraded reaped the benefit of the move. Investors desperate for a safe investment swarmed Treasury bonds, driving down the yield on 10-year bonds to its lowest level in more than two years. In the continued search for safety, gold climbed to yet another new high, reaching over $1,700 an ounce.

President Obama tried to reassure the markets in a midday statement, insisting the U.S. will “always will be a AAA country,” regardless of what one agency decides.

But despite the apparent jab at the S&P’s decision, the president said policymakers need to come together to address the deficit via the newly established “supercommittee.”

“I realize that after what we just went through, there’s some skepticism that Republicans and Democrats on the so-called ‘supercommittee,’ this joint committee that’s been set up, will be able to reach a compromise,” Obama said. “But my hope is that Friday’s news will give us a renewed sense of urgency.”

The president said his administration would take an active role in the new round of debt talks, including by offering its own recommendations, which Obama said would include “tax reform that will ask those who can afford to pay their fair share” and “modest adjustments” to Medicare and other entitlements.

The S&P’s downgrade of U.S. debt was not the only development weighing down the markets.

The continued struggles in Europe to contain a debt crisis that has spread to Italy further exacerbated investor concern.

And a few hours into the day’s trading, S&P announced that mortgage giants Fannie Mae and Freddie Mac were also having their credit ratings downgraded also.

The move did not come as a major surprise to investors because the two government-sponsored enterprises have their fates tied closely to the federal government’s. Both came under federal conservatorship in 2008.

Later in the day, S&P downgraded five insurance groups from their top rating and lowered the outlook of five others, citing their significant holdings in U.S. debt.

Among those who saw their rating outlook go from stable to negative was Warren Buffett’s Berkshire Hathaway.

Buffett on Monday said the U.S. deserved a top credit rating, and he did not look at Treasury debt any differently following the downgrade.

“If anything, it may change my opinion on S&P,” he told CNBC.

Jumping back into the mix was Moody’s Investors Service, which reemphasized on Monday that its top rating for U.S. debt was not a foregone conclusion. Although it confirmed that rating after the deal to raise the debt limit was reached, it warned that it too could issue a downgrade before 2013 if the nation’s economy deteriorates or U.S. policymakers show any weakening in fiscal discipline.

Moody’s said it would “closely monitor” Washington for progress on deficit-reduction efforts going forward.

As Obama grapples with how to handle the first ever-rating downgrade in US history, he will at least be keeping his top economic adviser. Treasury Secretary Timothy Geithner announced Sunday evening that he would not be leaving the administration this year. The statement came after July reports that he was looking to leave once the debt limit had been raised, as his family is moving back to New York.

His place in the administration solidified, Geithner immediately embarked on the offensive against S&P Sunday, blasting the firm for “really terrible judgment.”

“They’ve shown a stunning lack of knowledge about basic U.S. fiscal budget math. And I think they drew exactly the wrong conclusion from this budget agreement,” he said in an interview with NBC News.

He also put Congress on the spot for the downgrade, saying it “owns the credit rating of the United States.”

Although S&P cited the increasingly hostile political climate as part of its rationale for the downgrade, Washington’s top politicians immediately responded to the move by trading barbs. Speaker John Boehner (R-Ohio) pointed the finger at Democrats, calling them unwilling to take on the nation’s debt. On the other side, Sen. John Kerry (D-Mass.) and top Obama adviser David Axelrod labeled it the “Tea Party downgrade.”

GOP presidential candidates vying to challenge Obama all quickly piled on the president for the downgrade, holding him culpable for the move and blasting his economic policies.

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