The week following the S&P ratings downgrade of the USA was a week of remarkable volatility, of a marked strengthening of the long-term US treasury bond, and of a steep decline in US equity values. That is not what we expect to follow a sovereign ratings downgrade--at least not one that carries new information or transmits information to a wider audience.
A sovereign ratings downgrade should see the sovereign's currency weaken, should see its bonds weaken, and should see equity values denominated in the sovereign's currency rise.
That is not what happened.
What is going on?
A couple of possibilities:
The first possibility is that S&P's ratings are completely without influence. After the decade of the 2000 you would have to be an idiot to rely on S and P, and while there are idiots there is a limit to their idiocy. The US macro situation and the European debt crisis are the drivers of market price movements. S&P is simply the dog running in front of the parade that thinks it is leading it.
Second, perhaps there is a disjunction between the people who have the money and the people who manage the money. Perhaps the people who have the money think that the downgrade increases risk and that they want to get risk off of their portfolios. Thus they pull their money out of the hands of managers with an appetite for risk and give it to managers with an appetite for conserving value. If so, each individual manager could respond to the ratings downgrade in the normal way, but the composition effect from the changing amount of money in the hands of different types of managers overwhelms the normal response.
The third possibility is that the market is treating this not as an economic but rather a political intervention: an intervention against full employment and reflation, an intervention for austerity and deflation, and an intervention that will succeed in pushing policy in a destructive direction and raise the chances that the lost half decade of the Lesser Depression will turn into a lost decade or two.
All three of these are consistent with the pattern of asset price movements we have seen: collapsing equities, rising debt, slight weakening in the currency.
But, above all, note that the one story not consistent with the data is the one you see on the teevee: "investors panic because of US government debt". That story would see falling stocks, a sharply falling currency, and falling bond prices.
