Why the US debt crisis is a good thing

Jul 27, 2011 15:29 UTC

I must politely disagree with Felix Salmon of Reuters, Ben White at Politico and others who wring their hands and fret about the undoing of the world in the prospective debt default by the US. The damage is done, Felix declared on Reuters.com. I have heard similar views from many friends and colleagues, but I must disagree.

First the debate over the budget, pathetic as it may seem, represents an increase in the intensity of the public discourse over the nature of the American economy. Debate is good. It is the essence of checks and balances, the key feature that separates American democracy from the authoritarian states of Europe and Asia.

For too long Americans have been on auto pilot, relying upon elected representatives and various flavors of hired agents in Washington and on Wall Street to manage our money and our nation. It’s time to start paying attention again.

Second and more important, the debate over federal spending and the tradeoff between higher taxes and greater fiscal discipline begins a larger discussion about the nature of the American political system. After 80 years of borrow, spend and inflate to finance the Cold War, Housing Bubbles and the rest of the world’s growth needs, the US economy has reached an endpoint. The experiment in corporate statism begun by FDR in the 1930s and extended through and after WWII has brought us to the brink of insolvency.

Political gridlock in Washington means not only an end to growth in government spending, but also that we are no longer willing to serve as the overdraft account for the world in terms of demand for imported goods and services. As I noted in my 2010 book Inflated, the US has bailed out the no growth states of Europe three times since WWI. Each time our allies in western Europe have defaulted on their debts. Bring the US troops in Europe home, I say, right now.

Asia, likewise, has grown at the expense of American jobs, the bitter legacy of owning the world’s reserve currency. As the US reins in spending and the monetary excesses that created the illusion of economic growth since the 1980s, an illusion funded with inflation and vast amounts of public debt, our ability to bail out the EU will fade. Remember George Washington’s warning about “European entanglements.”

But the third and most important side effect of the fiscal crisis in Washington is that people around the world will start to diversify both commerce and financial transactions out of dollars and into other currencies. Far from being a threat, I welcome such an evolution. The less of world trade and finance that flows through dollars, the less easy it will be for the Treasury to issue debt or for the Fed to monetize this borrowing on the backs of US consumers and businesses via steady, unrelenting inflation.

Of course Nobel Prize winning economist Paul Krugman rightly notes that a reduction in federal spending will result in pain for many Americans. But what he fails to tell these Americans, especially low income working people he pretends to love, is that the cost of the borrow and spend policies advocated by second generation New Dealers is persistent inflation, a diminution of purchasing power that is just as surely killing the hopes and dreams of all Americans.

I have long argued that a low growth, low inflation environment is better for the working people that the manic, boom and bust cycles caused by big federal deficits and following accommodative Fed policies to make this all seem to work in a nominal sense. Alan Greenspan, after all, was at best a tool; a cog in the machine.

Americans need to understand that we face not a mid-cycle slowdown, to paraphrase the economist Richard Alford, but a post-stimulus adjustment to economic reality. Think post WWII in fact. If this crisis helps to break the cycle of debt and inflation, that is a big plus for America’s long term prospects.

The right choice for Americans is to say no to ever more debt and to instead embrace debt reduction and restructuring of insolvent banks and markets to restore economic solidity. Both in the EU and the US, debt levels by governments and consumers must be reduced to restore national and personal solvency, and thereby start the great growth game all over again.

Do Americans have the courage to make the tough choices, cut spending and also generate more revenue, and thereby set an example for the world? I think the answer is yes, but it may take some time. That is why I am in no hurry to pass the new debt ceiling. A few days or weeks of pain will raise the political temperature in Washington even further and bring all Americans into the proverbial kitchen for a long overdue family discussion about money. And that is a very good thing.



The Author should recognize the pattern of cut, retrench, attempt to restructure and final collapse that brought about the end of the Soviet Union after its disastrous term in Afghanistan.

The fall of the USSR brought about the break up of its territory, the collapse of it creaking social support system and opened the door to years of chaos and economic power grabbing by insiders in the emerging political order.

The trick for the aspiring oligarchs here will be finding the insiders that somehow manage to keep their heads and influence in what will no doubt be a very “fast paced and exciting environment” for the most treacherous and greedy bastards one could possibly imagine.

They will simply never be able to set foot outside their armored limousines and securely gated compounds without armed escorts.

Posted by paintcan | Report as abusive

On debt ceilings and conforming loan caps

Jul 11, 2011 21:56 UTC

“The dollar is our currency, but your problem.”

–Former Treasury Secretary John Connally

As the deadline nears for raising the US debt ceiling, the advocates of extend and pretend are attacking anyone and everyone who says that the federal debt ceiling should not be extended without extracting serious spending cuts. The Democrats in Congress see the proverbial writing on the wall, namely that 80 years of borrow and spend as the national ethic is about to end. Unfortunately neither the Democrats nor Republicans in Washington can see little else.

The fight over the budget is more than a fiscal debate, but also suggests the death knell of the two-party system in America. The socialist tendency we know as the Democratic Party is, to paraphrase President Ronald Reagan, the party of government. Prior to 1932, the Democratic Party was only marginally competitive in national politics. From FDR on through to today, the Democrats built their political fortunes on ever-increasing public spending and a corrupt relationship with the private and public sector unions.

Many Democratic political careers and institutions are now under attack in Washington as the Treasury is nearing the ends of its ability to borrow. Consider that current tax revenues just about cover transfer payments, where Washington taxes one American and subsidizes another. This leaves all of the other operations of government funded by debt. The reason for the conflict over the debt ceiling is obvious — except for members of the Democratic party and their surrogates in the big media.

“Bill Clinton was an Eisenhower Republican, but Obama is a more of a Nixon Republican, betraying core liberal beliefs on many issues,” notes economics writer and former Treasury official Bruce Bartlett, who sees President Barack Obama eventually cutting a spending deal with Republicans with less “smoke and mirrors” than President Clinton would never have accepted.

Back in April, we talked about why a delay in raising the debt ceiling is not the end of the world (see “Default, debt ceilings and democracy”). If it takes a financial crisis to change the fiscal behavior of the US, then so be it. You need courage to say no to more debt, but it is easy to borrow. The people of the US have the right and even the obligation to withhold approval of further debt issuance unless real changes are made in federal spending.

The Democratic party headed by Obama is making common cause with the large banks and corporations in the US to raise the debt ceiling without making significant cuts in federal spending. Big companies hate spending cuts, but don’t really worry about things like inflation. This quarter’s earnings is all that matters.

Ironically enough, the pro-democracy movement in American politics is now defended by the Republican Party, which finds itself almost forced to become more populist with each passing day. This is an uncomfortable position for established members of the GOP, many of whom are functionally indistinguishable from their Democratic peers on fiscal issues. With each election, though, the fiscally conservative tendency among conservatives is coming to dominate the Republican leadership. Even mainstream conservatives such as John Boehner cannot hold back more radical fiscal and social agendas of the GOP.

As the two institutional political parties wrestle over national spending, and paying attention only to each other, the US economy is entering a new and potentially dangerous period of deflation. The continued process of de-leveraging in the financial sector is causing banks to shrink and credit availability to dry up. And the government is about to make things a lot worse by allowing the conforming limit for loans sold by banks to federal housing agencies like Freddie Mac and Fannie Mae to fall dramatically.

After September 30, 2011, the maximum loan limit for single family homes in San Diego, CA, will fall from  $729,000 to $483,000 or to the pre-July 2007 levels. What this means is that the amount of mortgage financing available to markets all over the US is going to drop dramatically. While there are many markets where there will be little or no change, the markets most affected are also the areas where banks have the most exposure to future credit losses, the east and west coasts in particular.

“These housing markets are going to get clubbed to death like baby seals,” said one mortgage market veteran who assembled a list of the counties where the conforming loan limit is likely to drop the most.  The impact of this change is already being felt in real estate markets around the nation, especially in markets such as Washington, DC, New York, Los Angeles and Southern California. The maximum loan limit for Fairfax County, VA, dropped from $729,000 to just over $600,000.

The impending decrease in the conforming loan limit will accelerate the drop in home prices this year, adding fuel to the fires of deflation. Even as President Obama and the Democrats draw a line in the sand against spending cuts, the inattention of the White House to accelerating deflation in the housing market is creating a new crisis.

The Republicans welcome crisis as a means to destroy the Democrats as a national political force, but at what price?  The Democrats are resisting budget cuts, and in doing so only give the GOP the crisis that they seek. By the time the 2012 election cycle begins in earnest, for President Obama and both political parties, raising the debt ceiling will be the least of our problems.



I cannot believe that Obama, the man that is suppose to protect the American people is now using scare tactics and threating the American people with their social security checks. You go right ahead and do this and watch we the people go absolutely crazy. How dare you use scare tactics and threaten with social security. Your trying to shove what you want down our throats just like you did with medical reform. We need some reform alright within our government starting with you,Obama. Threatening U.S. American forces with their checks. That looks real good while Michelle is on her little campaign to help them.I find it an outrage for you to even say such a thing. The money is there for s.s. myself and everyone I have spoken with are highly ticked off at your statement. You need to raise taxes on the rich like you promised to do. If you would have done this right off the bat I’m sure it would have helped to keep our debt down. You have done nothing but drive this country further in debt and know you want to make the American people pay for it. You are like a spoiled little child. My way or the highway. You are the one who is not willing to compromise. You better think long and hard before you even think about spewing those words out of your mouth again. How dare you, and shame on you Mr.President,SHAME ON YOU!!!!!!!!!!!!!!!!!!!!!!!You go right ahead and hold those checks and see what happens. If I’m this ticked off you can just imagine what the rest of America is thinking.Never in my life have I ever seen another President use scare tactics and it’s quite disgusting.You make me sick!!!!!!!!!!!!!!

Posted by byrnie | Report as abusive

Why Congress should vote no on raising the debt ceiling

Apr 13, 2011 14:38 UTC

By Christopher Whalen
The opinions expressed are his own.

“A spectre is haunting Europe — the spectre of communism. All the powers of old Europe have entered into a holy alliance to exorcise this spectre: Pope and Tsar, Metternich and Guizot, French Radicals and German police-spies.”

–Karl Marx – Friedrich Engels
The Communist Manifesto

There is a specter haunting the industrial nations, too — the specter of debt default and deflation. All of the powers of the post-WWII regime of neo-Keynesian economic management have entered into a holy alliance to exorcise this specter: Fed Chairman Bernanke, European Central Bank Head Jean-Claude Trichet, Democrats in the American Congress and the German centrist tendency under Angela Merkel.

All of these champions of the status quo ante are, ironically enough, serving as agents for the bond holders of the largest US and EU banks, the clients of PIMCO, Black Rock and even my friend David Kotok at Cumberland Advisors. These agents of the global creditor class are betting on the likes of Bernanke, Trichet and Merkel to collect their debts for them like so many China gunboats — and thereby plunge hundreds of millions of people into penury for decades to come.

It is no small irony that the interests of the banks and bond holders in the US are being protected by a Democrat from Chicago named Barack Obama. Far from being a leftist, Obama is a global technocrat who turned out to be the most perfectly compliant stooge for the interests of the large banks and institutional investors. With Timothy Geithner at Treasury and former JPMorgan banker William Daley at the White House, the only decision Obama needs to make every day is what shirt to wear.

On Capitol Hill, however, the long slumbering Republicans are starting to discover the political power of fiscal sobriety. In the negotiations with the White House over the budget for fiscal 2011, House Speaker John Boehner (R-OH) managed to win some significant concessions from the White House on spending issues — even if entitlements and military spending were off the table this time around. The next and more important fight comes over the question of raising the US debt ceiling. Once again, President Obama is not even in the game.

Secretary Geithner and his boss, JP Morgan Chase CEO Jaime Dimon, have made clear their distaste for a fight over extending the debt ceiling, in part because a debt default by the US would end the pretense of “too big to fail.” If Washington is willing to contemplate a default by the US Treasury, who cares about the fortress balance sheet of JP Morgan and other US zombie banks? But for a number of reasons, democratically elected governments from Lisbon to Dublin to Washington need to begin the process of financial restructuring whether the banks like it or not. And all of the political servants of the banksters are doing their best to avoid debt write downs.

In Ireland, for example, the new government of Fine Gael leader Enda Kenny is in a struggle with Trichet and his vile contemporaries at the ECB. The Euro central bank is essentially trying to keep together an under-funded bailout of the continent’s corporate and bank debts at the expense of public taxpayers. So muted is the political discourse in Western Europe that people are barely protesting — at least not yet. But offering Ireland the choice of default or decades of deflation and unemployment to repay its foreign obligations at par is untenable and risks comparisons with the German war reparations after WWI.

The Kenny government should reject the self-serving advice of the German-dominated ECB as well as the technocrats inside Ireland’s finance ministry, and tell Angela Merkel and French President Nicholas Sarkozy to try harder. Specifically, if the ECB and the core nations of the EU are not willing to offer Ireland more generous terms to bail out the private debts of EU banks, then the Kenny government should take the example of the people of Iceland and tell the technocrats in Brussels an emphatic “no” to bailing in the Irish bank debt at public expense.

Frankly, if you weigh the trade off between the immediate cash flow benefit to Ireland of walking away from its foreign debt and being cut off from the global capital markets, as Trichet has threatened to Kenny, a default seems the obvious choice. And with Portugal and other “peripheral” states of the EU tottering, the Kenny government has more leverage than it knows. Putting a gun to the head of Trichet right about now and daring him to blink might prove a very satisfying experience for any Irish officials with the guts to play the hand God has dealt to them.

In Washington as well, some Republicans are starting to appreciate that saying no to more debt and devaluation a la the Paul Krugman school of economic mismanagement is good politics. It is wrong to call Krugman and his ilk “Keynesians.” Lord Keynes was neither an apologist for debt or inflation, nor was he a free trader. He valued strong national industry and financial markets that were only supplemented by global capital and trade flows. What would Keynes tell Ireland today?

For the same reasons that the Kenny government needs to impose haircuts on Ireland’s creditors, the US Congress needs to vote no on the debt ceiling increase as part of a larger shift in thinking on debt and spending in Congress. Just as the people of Iceland have done the right thing by saying no to repaying corporate debts of UK and Dutch banks (all of which are now nationalized naturally), Americans need to take a page from the history books and begin the actual process of default on all manner of debt and entitlements obligations.

The only way we can force our citizens and also our trading partners to talk about the economic issues that are driving America’s growing mountain of debt is to stop adding to the pile. The role of the dollar as the primary means of exchange for global commerce and finance are the twin evils at the heart of the US fiscal disease. The role of the dollar as the world’s “reserve currency” is likewise a terrible millstone around the necks of American workers.

Saying “no” on raising the debt ceiling is the way for deficit hawks in Congress in both parties to seize the fiscal agenda and start a long overdue conversation about America’s place in the world. As I wrote in my book, Inflated: How Money and Debt Built the American Dream, this discussion must include an end to the dollar as the primary global means of exchange. When the dollar ceases to be the global currency, then the Fed can no longer monetize deficits with impunity as today.

One way of forcing this adjustment process is to start imposing losses on holders of dollar debt. Painful as it will be, helping the world to readjust the level of debt in the industrial nations back to realistic levels and rebalance the global currency markets into a peer-to-peer framework is a necessary process if America is ever to achieve a sustainable economic model. The only question is when and where will emerge the political leadership to do the right thing and begin to actively restructure debts.

Barack Obama has already failed that test of leadership by studiously avoiding any response to the US real estate meltdown, but new leaders in many heavily indebted nations will face the same issues — chronic levels of debt that will only grow heavier as and when global interest rates rise. If the ECB manages to bully Prime Minister Kenny in Ireland, do they really expect a more malleable regime after the next election?

The looming threat of debt is why we should expect to see a majority of Republicans and perhaps more than a few Democrats in Congress seek to block any increase in the US debt ceiling unless the measure includes a balanced budget amendment to the US Constitution.

My view is that Congress should vote down any debt ceiling measure unless President Obama agrees to sign the balanced budget amendment. Even if Secretary Geithner has to run the US government on cash, like the good people of Iceland and Ireland today, it will be a good thing for America’s political debate to default — at least for a few weeks. Then people will know that the once unthinkable is very possible.


I find it disappointing that Reuters would publish such a trite and hypocritical commentary on such an important issue. The suggestion that the government should switch in mid-course to a cash budget is utterly absurd for one. For another, the ideological bias of the author’s opinions demonstrates profound ignorance of the intricacies of central banking. The interrelation of inflation, interest rates, exchange rates, liquidity, and economic growth are far too complex to be dismissed as a conspiracy.

But above all, the idea that Americans will have to work like slaves to pay off the national debt to angry Chinese is both comical and utterly fictitious. The worst case scenario in the far future if we were to amass unrepayable amounts of debt is no worse than the author is proposing as the solution in the present day – default. So why default today when we can default tomorrow? This makes no sense.

Posted by prometheo | Report as abusive