Brian Fallow: It is up to us to prove them wrong

The downgrading of the country's credit rating is bad news, not because it will change anything much, but because it recognises that the world has already changed and not in a New Zealand-friendly way.

Normally a downgrade would mean higher interest rates.

But these are not normal times; since Standard & Poor's downgraded the United States, US interest rates have fallen.

The risk premium New Zealand banks face for that third of their funding they get from skittish international financial markets has already risen, but the banks are cashed up and demand for credit is weak. So it would be opportunistic if the banks respond to the downgrade by immediately hiking interest rates.

It will stiffen the Government's resolve, if re-elected, to return to fiscal surplus by the 2014/15 financial year. Finance Minister Bill English argues, plausibly, that the downgrades are more a reflection of an ugly mood in global markets generally than any deterioration in New Zealand's position.

The agencies for years have had to balance the fact that the Government's accounts are relatively good - and even with the recession and the earthquake that remains true - against the high level of debt built up by households and farmers.

The level of New Zealand's net international debt over the first half of this year, around $140 billion, was the lowest it has been, relative to the size of the economy, for seven years.

But the improvement reflects the impact of recession and some one-off and temporary factors.

It only means we have gone from being up to our nostrils in debt to the rest of the world to up to our armpits, while the international waves have got a lot higher.

The rating agencies are entitled to point out that the external deficit - the gap between what we earn and what we spend in our dealings with the rest of the world - has been widening for more than a year.

And if the country lives up to its forecasts and is one of the better-performing western economies over the next year or two, why should they not reckon we will slip back into the spendthrift ways of old?

It is up to us to prove them wrong.

The legacy of decades of external deficits leaves us vulnerable when, as now, they take a darker view either of New Zealand or of debt per se.