U.S. default deniers could get what they wish for

June 9, 2011

By Richard Beales
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Fitch Ratings is the latest credit watchdog to warn about the consequences of a missed interest payment by the United States. Yet there’s a faction in Washington that seems increasingly inclined to push the country’s debt fight that far. Maybe only the ensuing mess could persuade the brinkmen to back off.

At least it would explode the false choice on offer. Republicans who say they’re willing to risk a brief, technical default by the federal government mostly think a timely political deal to raise the statutory U.S. debt cap would encourage further excessive taxation and government spending at the hands of Democrats. They reckon a temporary default would be worth it to bring a long-term deal on spiraling healthcare and retirement obligations.

Action to reduce federal deficits is needed, or one day the government really will run out of money. But the struggle in Washington to coalesce on anything suggests another temporary budget agreement is the most likely result of the current fight. And if a technical default followed, it could be far worse than the gung-ho GOPers are imagining. Peru got away, more or less, with a missed payment in 2000, but had a clear rationale and was a known risky and peripheral credit. For America, the world’s credit benchmark and issuer of its reserve currency, most evidence and analyst opinion suggest a scarier outcome.

The credit rating and borrowing cost impact could be severe. But Fitch also points to repo markets — crucial plumbing for the global financial system — where an estimated $4 trillion of U.S. Treasuries are used as collateral. There are implications for the stability of money market funds, too.

Trouble in either place would echo the 2008 crisis. JPMorgan analysts also note the 40 percent decline in foreign holdings of the debt of Fannie Mae, Freddie Mac and other agencies in the year after they were bailed out, despite government backing for their credit.

That’s a hint that even if a technical default wasn’t disastrous in the short term, deciding not to pay would damage trust in U.S. debt and the dollar for the long term. The danger for chicken-playing legislators is that Mr. Market, who has turned perhaps too benign an eye so far, starts delivering a harsh verdict sooner than the putative August deadline. Even reaching that date doesn’t mean Uncle Sam will inevitably miss a payment. But a loss of confidence would not be easily reversed even if Washington compromises.

Comments

This is should be on the negotiating table:
4 Day work weeks (32 hrs) for many if not most public employees would save big, save jobs, it’s the green thing to do, boost productivity, etc! 20%+ of private sector jobs now are PT/Temp-should be much closer to the same in the public sector! 1 out of 5 work in government now-more than manufacturing and construction combined (fact!)! Also, too many empty suits in management in the public sector with 6 figure income for life! Think lean or the tax payers will get mean!

Posted by DrJJJJ | Report as abusive
 

Has anyone actually suggested that we default on our interest payments? I thought the debate was over the debt limit. If the debt limit is not increased the Govt still has plenty of money to pay our creditors, they will just be forced to cut some of the numerous duplicative programs. If I were a creditor, I would not be happy that the person who owed me money was borrowing ever more money to pay me, so the loss of confidence is already happening regardless of wich way the vote goes.

Posted by zotdoc | Report as abusive
 

I could see the government allowing a technical default regarding American debt in order to blur the lines regarding what constitutes a default. Those blurred lines might also be of assistance in Europe as ECB/IMF/EU tries to resolve their debt issues.

It would be a dangerous game but the conventional, honest approach to world finance is set to yield dangerous results, as well.

Posted by breezinthru | Report as abusive
 

The mere fact that we are actually discussing the possibility of the United States of America defaulting on it’s debt obligations is the most frightening think I have ever experienced in my lifetime. Shame on our elected officials for letting it get this bad. All the while showering themselves with bigger staffs and saleries, world-wide junkets (a/k/a boondoggles), lifetime pay and medical insurance, yadda, yadda, yadda. It’s disgusting.

Posted by captbeau | Report as abusive
 

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