Is there a real risk of the US defaulting?

By Felix Salmon
May 5, 2011
Binya Appelbaum is on the front page of the NYT this morning with what seems like a pretty standard examination of the effects of hitting the debt ceiling.

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Binya Appelbaum is on the front page of the NYT this morning with what seems like a pretty standard examination of the effects of hitting the debt ceiling. I think the reason is its alarming headline: “Debt Ceiling Has Some Give, Until Roof Falls In.” I’m not entirely clear what exactly a caving roof comprises — but the general story is clear: there are various cash reserves and other assets that the government can tap, and then spending has to be cut.

The Treasury secretary, Timothy F. Geithner, warned Congress in April that once those resources were exhausted, the government would have to default.

“A broad range of government payments would have to be stopped, limited or delayed, including military salaries and retirement benefits, Social Security and Medicare payments, interest on the debt, unemployment benefits and tax refunds,” he wrote.

Among the resources to be exhausted is a whopping $400 billion in gold reserves — that’s the current value of the government’s store of 261 million ounces of gold. Selling at these prices seems like quite a good idea to me: I can’t think of any particularly good reason why the government should be storing $3,500 of gold for every household in the country.

After that, the list of things to be cut includes, buried in the middle there, “interest on the debt.” Including that item seems to be a party-political decision:

Republicans — also backed by economists and financial experts — say investors would not punish the government for failing to fulfill other financial obligations.

“I think the important thing to do would be to make it clear to markets that the government is not going to default on its debt,” said Senator Patrick Toomey, Republican of Pennsylvania, whose bill assigns priority to interest payments. “It would be easy, I think, to make it clear to the markets that they don’t have to worry about this.”

Treasury officials respond that the failure to pay any obligations would set off a crisis.

“What participant in the market would want to buy our debt as we are defaulting on other obligations?” asked Ms. Miller. “I think the markets would be completely spooked.”

I agree with the Republicans on this one. Government tax revenues dwarf its interest payments — there’s no need to default on the debt. Treasury, for reasons I don’t fully understand, is pushing the silly line that commitments to, say, Social Security recipients are somehow pari passu with T-bond coupon payments, and that there’s some kind of implicit cross-default clause which says that if tax refunds get delayed, then there will be “the same catastrophic economic consequences” as there would be with a bond default.

In fact, the Treasury markets will be fine, just so long as they get their interest payments in full and on time. And I simply can’t believe that Tim Geithner would be so stunningly irresponsible as to default on those payments just to make the point that they’re not senior to other government obligations.

The roof caving in, then, is just the government living within its means — a forced and drastic austerity program which would probably send the economy spiralling back into a double-dip recession. An outright debt default is still extremely unlikely. Still, it’s a sobering thought: we can spend no more than we receive in taxes, or we can have an economy which grows rather than shrinks. But we can’t have both.

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