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Fitch downgraded the U.S. credit rating from AAA to AA+, a move that has economists examining the timing of this re-rating and future economic forecasts. “If you’re going to… downgrade the U.S., you have to change the whole grading system because everyone runs into trouble,” Kenneth Rogoff, Harvard University Maurits C. Boas Chair of International Economics, told Yahoo Finance Live.

Rogoff, who is also the Former Chief Economist at the International Monetary Fund (IMF), reasons that Fitch Ratings was forecasting ahead by almost 15 to 20 years, pointing to the “level of dysfunction” exemplified by a split Congress. Furthermore, Rogoff believes inflation will stay elevated for longer as the Fed is forced to stay “patient” to circumvent a hard landing scenario.

Rogoff also discusses his status as a chess grandmaster and the adoption of artificial intelligence.

Video Transcript

Fitch downgraded the US credit rating last week to AA+ from AAA, citing debt concerns, volatility, and governance as well. Was this the right call from the agency? We spoke to Mohamed El-Erian, Allianz’s chief economic advisor. He joined us last week to discuss the downgrade.

MOHAMED EL-ERIAN: What Fitch put in their statement has been true for a while. So why now? And that explains the reaction that I and many others have had, which is first, this is surprising. Second, when you look at the reason, you scratch your head as to the timing of this. And then thirdly, which is most important for our audience is the expectation that this will have minimal impact on the things that are sensitive to ratings.

And indeed, even though we did see bond yields rise to some degree in the wake of that, they’ve come back down a bit. Let’s get another view on this downgrade in the US economy more broadly. Joining us is Kenneth Rogoff, Harvard University chair of International Economics and former chief economist at the International Monetary Fund.

Ken, it’s great to see you. And it’s interesting how Mohamed framed it as even though some of these issues are around, we’ve known about them. So it’s interesting that it is happening now.

It does seem to come down to this sort of political maneuvering that we see in Washington that could hurt the fiscal position of the United States. How urgent do you think an issue that is?

KENNETH ROGOFF: Well, I think the reason Fitch did this was simply to, you know, think ahead maybe 15 or 20 years, if there’s some kind of bizarre problem, where were they? Did they say anything about it?

On the timing, as Mohamed El-Erian, I think, makes a lot of good points. It’s pretty clear Trump’s up and up in the polls. The possibility that he might be president has materially risen. And the possibility that there’s, you know, very divided president, the president’s one party, the House and Senate or another party in a very fractured system, there’s a level of dysfunction. Who– who– who can deny this? So they’re making a statement.

I– I think the– the thing that’s difficult to sort of reconcile is if the US runs into trouble, so does everybody else. So if you think the US should get downgraded because they’re gonna spark an international crisis, you kind of have to do that for everyone else. I-i-it– it’s– it’s not a statement about what they think the interest rate should be necessarily so much as, you know, making sure that they set it.

That said, certainly the possibility that we have higher inflation in the future I don’t think is fully factored into markets. I don’t know that that’s what that downgrade represents. But certainly, there’s higher chance of that than there was five years ago.

And just to kind of add on to that, are there other international economies that you foresee Fitch having to rerate after this– this US rerating?

KENNETH ROGOFF: Well, what I’m really trying to say is if you’re gonna call the US– downgrade the US, you’re kind of having to change the whole grading system because everybody runs into trouble if the US is. They’re looking at the institutional problems in the US. And I think they’re undeniable. You have to have your head in the sand not to think that there’s an issue.

What it will lead to, I don’t know. Usually when the US has a problem, it’s even worse for everybody else.

Well, it’s worse for everybody else, which is sort of how it has helped solve the problem for the US up until now. In other words, you know, if it’s the least dirty shirt or whatever analogy you wanna use that people have used for the United States, that has sort of safeguarded its status reserve currency as safe haven in terms of treasuries. What would change that?

KENNETH ROGOFF: Oh, I mean, I don’t know that there’s anything gonna change that overnight. But I think we have to distinguish between general problems that hit the world like the pandemic when the US is a safe haven and things like the financial crisis in the US, you know, creates some kind of artificial and it would be completely artificial debt crisis, which is also a world shock. That doesn’t necessarily lead to an appreciation of the dollar the way a pandemic might.

And so even with this downgrade that– that has rattled markets clearly, is– is there any more clarity around where– where the economy actually is– is sitting with regard to the analogy that we’ve used for now the better part of a year and change of a soft landing versus a hard landing or– or any other type of landing that– that could take place as induced by or as a result of Fed policy?

KENNETH ROGOFF: Well, what I think I’ve been saying for the last year and a half is we’re not going to see a hard landing or a soft landing because there’s not gonna be a complete landing. I think inflation is gonna stay elevated for quite a while. If the Fed wanted to have a landing, it would be a hard landing. But I don’t think they wanna have that. And so they’re gonna just be, quote unquote, “patient.” So I think those two analogies are missing what’s actually happening.

And so are we just in a sort of elevated inflation environment? But also, I guess the silver lining of that is that it’s accompanied by some level of growth.

KENNETH ROGOFF: Well, there’s no question the economy’s been better than anybody thought and particularly point to labor markets. I think it’s less easy to know what’s going on with the real economy because the gross national income and the gross domestic product are kind of saying different things. I tend to think the productivity is down quite a bit. The economy’s growing in the sense that there are jobs but not necessarily otherwise.

But yes, things are better. If the Fed– it’s– it’s been remarkable that interest rates have been raised this much. I would say we’re in the 90th percentile of outcomes that could have happened here. It definitely could have been, maybe was likely to have been worse as many people had said.

But you know, on the other hand, inflation’s not all the way down. And at some point, the Fed has to really look in the mirror and decide how quickly it wants to do it. And of course, the downside of waiting too long is that inflation expectations have remained remarkably stable.

I think they have moved up a bit. There’s more of a spread in inflation expectations. They’re not exactly solid as a rock, but they’ve stayed stable considering what’s happened, and considering what’s going on with fiscal policy, the need for defense spending, green transition, et cetera.

So so far, things have been stable. And I think the trade-off here for the Fed is, you know, can they take a couple more years, maybe even 3 or 4 more years to bring it down to 2%? Or is that taking too big a risk?

So– so what is the kind of larger driving forces around an elevated inflation environment for– for– for longer that’s still above the Fed target? I mean, is it– is it shelter, costs? Is it everybody buying tickets to go see Beyonce and Taylor Swift? You know, from– from your purview, w-what are the largest contributors to that?

KENNETH ROGOFF: Well, I think there are a lot of fundamentals that have turned against the economy. So defense spending is clearly going to go up a lot. Look at what happened with the Russian and Chinese ships coming to our– near our shores and our not having a big fleet to send up against them.

Look at what’s going on in Europe and the Taiwan Straits, the green transition. We have not begun to pay for that much less what needs to be done for developing economies.

Populism, whether it’s a Republican president or a Democratic president is going to redistribute income. That’s good. But that’s gonna also lead to greater spending, more price increases. And I– I think actually the list could go on quite a ways.

Deglobalization, no question about it that the era of peak China has come and gone. And that was also making it easier to keep prices low. So not the end of the world, but I think there were a lot of factors which made it easier and even pressed all central banks to be able to bring down inflation.

And I think it’s over. I think we’re at a turning point where we’ll see higher inflation, not just in the US, but everywhere. Not galloping inflation but where inflation had been shaded well below 2% I think in many places it’ll be shaded well above 2%.

And it sounds like, if I’m reading between the lines here, Ken, what you’re saying is that it’s worth it, in other words, that the– that the things you are getting for that higher inflation, the things you listed, for example, are by and large positive things for society and the economy now.

KENNETH ROGOFF: Well, the things that are happening in the world that I just listed off needing to pay for the green transition that’s just a deadweight cost no matter how you wanna portray it. It’s a good thing. I favor it, but it’s not a growth strategy. It’s something you need to do.

Things like defense spending those are negative things. Redistribution is probably a good thing.

Where I think I have think the Fed is wise to be slow is, you know, there’s a trade-off. We could have inflation at 3% or 3 and 1/2% instead of 2%, not good, but not as bad as having a deep recession. So Americans are complaining about inflation, but believe me, if we had another deep recession, it would be 10 times worse and of course, everyone would blame it on the Fed.

Ken, lastly, while we have you, I wanna ask you about something quite different, because while most people know you as an economist, some won’t be aware that you are also a chess grandmaster and you have been since 1974 when you earned that title. There is a link between chess and one of the big things– themes that we’ve talked a lot about every day, although we haven’t talked about it yet, and that is artificial intelligence.

And AlphaZero was for many one of the original big AI breakthroughs back in 2017. It was a computer program developed by AI research company DeepMind to master the game of chess. I’m sure you’re familiar with that. So I’m curious about your take on AI, both as it relates to chess but also as it relates to our lives right now.

KENNETH ROGOFF: Well, first as it relates to chess, I mean, chess has been at the center of artificial intelligence research since the ’60s and ’70s. And I knew Richard Greenblatt who was a pioneer at MIT in the ’70s played his program, Ken Thompson who’s now at Google.

And this is– this was one of the most popular events at any AI conference for a very long time. Indeed, as you say, the DeepMind program which eventually Google bought, it was a phenomenal breakthrough. And what’s been interesting, I think, to chess players is it just keeps getting better. They thought computers were gods in 2000, and then the DeepMind came along and it was even better. So the rate of improvement is phenomenal.

I’ll also say that it turns out hasn’t been bad for chess. It would– it’s actually made it more interesting so far. I hope there are other aspects of our lives which are true, but I think, you know, having seen how fast it evolves in chess, and it’s not once– I think with ChatGPT, we’ve just seen the beginning. I think in five years, you won’t even recognize how phenomenal it will be.

So yes, this has been a long time coming. I’ve speculated about it for a long time based on chess. And I think we’re finally at the dawn of this. I don’t wanna sound evangelical because I don’t know which way it’s gonna go.

But yes, if you look at the experience of chess, faster than you think and for longer than you think but also not necessarily as detrimental as you might think, humans have adjusted. And it’s been very good.

Well, can you elaborate on that a little bit? You said it’s made chess more interesting. How?

KENNETH ROGOFF: Well, first of all, people had thought a lot of possessions were boring that the computer shows. Well, try me at this position and it turns out to be just wellsprings of creativity, positions where the best player in the world, Bobby Fischer, I think would have maybe even given me a draw back in 1975 now is the beginning of the game for many players. So this depth of learning players venture much more complicated and interesting positions because they have other ways to explore them.

So surprisingly, we thought it would lead to more draws, right? If you figured out better, you’re gonna get more draws, not at all. So here’s this simple compared to human intelligence game which you would think you would solve out, and yet you find these layers of interest. I think we’ll see this in art and many, many things. I don’t wanna get into the whole socioeconomic ramifications, but I– I think chess has been the cutting edge and will continue– it gives a hint at what we’re gonna see with other things.

Kenneth, really fascinating. Thanks so much for taking the time here with us today. Kenneth Rogoff, Harvard University chair of International Economics and former chief economist at the IMF. Thanks so much.




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