The Very Real Threat of a U.S. Debt Default

This morning, CEA chairman Austan Goolsbee warned Republicans against playing games with the nation’s credit rating by refusing to raise the debt limit and creating a technical default. I have been warning people about this problem for more than a year because I know there is a widespread belief among the nuttier right-wingers that a debt default is just what the country needs to force massive spending cuts into effect. Many stupidly believe that the budget would be balanced overnight because the government couldn’t spend any more than the available cash flow from taxes would permit.

Since I first started writing about this danger, some of these nutty right-wingers have been elected to Congress under the Tea Party banner. Since many have never served in elected office before and know virtually nothing about economics or finance, I don’t think they realize that they are playing with fire when they even hint at the possibility of a debt default. They are like children playing with matches.

What I haven’t figured out how to properly convey is that a default triggered by a failure to raise the debt ceiling is of a completely different nature than the sort of default that Ken Rogoff and Carmen Reinhart wrote about in their book. All of those cases were market-driven, where investors refused to buy or refinance a nation’s debt because of fiscal profligacy, irresponsible monetary policies etc. A U.S. default, by contrast, would be 100% self-inflicted based on loss of the Treasury’s legal authority to issue bonds, not because of a lack of market demand for those bonds. The historically low level of real and nominal interest rates on Treasury securities is proof that there is still strong demand for Treasury securities.

I have spent considerable time trying to figure out what exactly would happen in the event that, at some point, the Treasury literally had no cash to pay interest on the debt, redeem maturing securities, pay Social Security benefits and so on. Some people believe that the Treasury has an almost unlimited ability to fudge the problem indefinitely. But I know that there are analysts at the GAO who are very concerned about hitting a hard limit on the Treasury’s legal authority not long after the debt ceiling is breached. The law is very unclear and has never been tested in court.

As far as I am aware, no other country on Earth has the idiotic policy that the United States has of having a legal limit on the amount of bonds the central government can issue. They correctly recognize that the deficit and the debt are simply residuals resulting from the government’s tax and spending policies. It makes no sense to treat the debt as if it is an independent variable.

Some argue that the debt limit has the virtue of focusing the attention of policymakers on the debt. But Congress already has a budget process designed to do that on an annual basis. Having a separate debate on the debt limit is at best superfluous. But it’s also dangerous because it allows members of Congress to try and compensate for being fiscally irresponsible – voting for new entitlement programs such as Medicare Part D or massive tax cuts that are not offset with spending cuts – by casting a vote against the debt limit.

I reprint below a column I wrote for the Fiscal Times last year that goes into more detail on the debt limit and the very real prospects for default. The important thing for readers to realize is that the prospect of default is not theoretical; it is real. The Tea Party people really are crazy enough to do it and may have the votes to make it happen. It simply cannot be assumed that there are enough adults left in the Republican Party to take responsibility and do what is necessary on this issue. It’s best to assume the worst, in my opinion.

Debt Default: It Can Happen Here
June 11, 2010

The recent financial crisis in Greece has led to a lot of discussion about whether the United States might one day have a public debt so large that default becomes a real possibility. While the sort of problem Greece is experiencing is impossible here, we have another problem that, to my knowledge, no other nation on Earth has: a legal limit on government debt that Congress must raise periodically. This peculiarity of our fiscal system could indeed lead to a default on the debt, with repercussions that advocates of default — yes, they exist — have absolutely no clue about.

The main reason the U.S. cannot suffer the sort of debt problems of Greece and other eurozone countries is that all our debt is denominated in dollars, of which we essentially have an unlimited supply. Because its monetary policy is controlled by the European Central Bank, Greece can’t just print euros the way we can print dollars. And the Federal Reserve will always ensure the success of a Treasury bond auction. De facto monetization of the debt could be inflationary, but default resulting from a lack of demand for Treasury bonds is not really possible.

This does not mean that default is impossible, however, because there is always a danger that Congress will not raise the debt ceiling in a timely manner, meaning that the Treasury may not have sufficient cash to make interest payments or redeem maturing securities. If that happens, there would be a technical default.

As of right now, outstanding debt subject to limit is a little over $13 trillion and the debt limit is $14.3 trillion. At the rate the Treasury is borrowing, it can continue for about 10 months before the debt limit must be raised again. It has been difficult enough, politically, to raise the debt limit when Democrats control both houses of Congress. But next year there is almost certain to be a very substantial increase in the number of Republicans in both the House and Senate, with Republican control of the House being well within the realm of possibility.

The party opposite the White House always demagogues increases in the debt limit to score cheap political points. Economist Donald Marron calls the vote on raising the debt limit a tax on the party in power. Barack Obama knows this very well. As a U.S. senator he voted against a debt limit increase in 2006, saying that the necessity of raising the limit was “a sign of leadership failure.”

To be sure, the debt limit has always been raised in time to prevent a default, although Treasury sometimes had to push the limits of the law to move money around to pay the government’s bills. However, I believe the game has changed because Republicans have become extremely bold in using the filibuster to make it extraordinarily difficult to pass any major legislation without at least 60 votes in the Senate.

Furthermore, a growing number of conservatives have suggested that default on the debt wouldn’t be such a bad thing. It is often said that default would lead to an instantaneous balanced budget because no one would lend to the U.S. government ever again. Therefore, spending would have to be cut to the level of current revenues.

Writing in Forbes last month, the Cato Institute’s John Tamny was enthusiastic about the prospects of default. Said Tamny, “It’s time we learn to love the idea of a U.S. default . . . For Americans to worry about a debt default is like the parent of a heroin addict fearing that his dealers will cease feeding the addiction.”

While acknowledging there might be some pain from default, he dismissed it as trivial compared to the enormous blessing of a massive reduction in federal spending.

Tamny is not an isolated crackpot; reputable conservative economists have been writing sympathetically about the idea of default for decades. These include Nobel Prize-winning economist James M. Buchanan, whose 1987 essay, “The Ethics of Debt Default,” defended the morality of default on the grounds that deficits weren’t financing public capital but current consumption, with the bills being passed on to future generations.

Other prominent conservatives who have been favorable, even enthusiastic, about debt default include Murray Rothbard, Dan Pilla, Jeffrey Rogers Hummel, and Christopher Whalen. In 1995, then House speaker Newt Gingrich publicly warned the Public Securities Association that he was prepared to default on the debt unless Bill Clinton acceded to Republican demands for budget cuts. “I don’t care what the price is,” Gingrich said.

Consequently, it is becoming increasingly common for the idea of default to be discussed as a realistic possibility even by responsible analysts. Last year, The Economist’s Greg Ip wrote an article in the Washington Post saying that financial markets were placing the risk of default at 6 percent over the next 10 years. “Default is unlikely,” he said. “But it is no longer unthinkable.”

My purpose today is not to make the case against default or explain all of its ramifications — that would require a separate column. Rather, my purpose is simply to alert readers to the consequences of increased Republican membership in the next Congress, a Democratic administration, the need for 60 votes in the Senate on major bills, and a debt limit that will run out early next year. I believe we could be in for the biggest debt crisis we have seen since Alexander Hamilton was Treasury secretary.

One way of forestalling such a crisis would be for Congress to require that bills breaching the budget resolution’s revenue floor or spending caps — those designated as “emergency” legislation — would have to include an increase in the debt limit equal to the increase in the deficit. This won’t eliminate the need to raise the debt limit eventually, but it would at least put members of Congress on record as accepting the consequences of deficit spending, rather than trying to have it both ways — voting for deficits but then scoring political points by voting against an increase in the debt limit.

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About Bruce Bartlett 76 Articles

Affiliation: Forbes

Bruce Bartlett is a columnist for, the online side of Forbes, the nation’s premier financial magazine.

He served for many years in prominent governmental positions including executive director of the Joint Economic Committee of Congress, Deputy Assistant Secretary for economic policy at the U.S. Treasury Department during the George H.W. Bush Administration, and as a senior policy analyst in the White House for Ronald Reagan.

Bruce is the author of seven books, including the New York Times best-selling Impostor: How George W. Bankrupted America and Betrayed the Reagan Legacy, and thousands of articles in national publications including the Wall Street Journal, New York Times, Washington Post, New Republic, Fortune and many others. He appears frequently on CNN, CNBC, C-SPAN and Fox News, and has been a guest on both the Daily Show with Jon Stewart and the Colbert Report.

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2 Comments on The Very Real Threat of a U.S. Debt Default

  1. Subject: Raising the Federal Debt Ceiling

    Speaker Boehner and the Republicans are threatening to refuse to raise the debt ceiling on the accumulated Federal deficit of approximately $14 Trillion Dollars. This is difficult to understand since all Americans should realize that the Republican Party is directly proposed and approved at least $8 Trillion Dollars of the outstanding Federal debt created since 2001.

    The Republican answer to the need for increased Federal budgets in challenging times was to tell the country (individuals, businesses, and government) to go shopping on borrowed money. For once, Americans heeded the call of the politicians. Unfortunately, the various forces at play over the next seven years ended in the financial debacle of 2008.

    A Republican President and a Republican Congress provided us with the unfunded tax cuts of 2001 and 2003 ($4 Trillion), unfunded military operations ($1 Trillion) in Iraq and Afghanistan, an unfunded Medicare Rx plan ($400 Billion), unfunded Medicare Advantage outlays (500+Billion), unfunded bank bailouts ($700 – $800 Billion and counting), and an unfunded extension of the 2001 and 2003 tax cuts ($950 Billion).

    These miscellaneous Republican deficits were added to the estimated $2 Trillion Dollars of Federal debt in place when President Bush assumed office in 2001 and passed to President Obama when he assumed office in 2009.

    Thus, President Obama is responsible for approximately $3-4 Trillion Dollars of the $14 Trillion (through April 2011) for FY 2009-2011. It appears that the pyromaniac is blaming the fire department for not arriving promptly.

    The time for Republicans to question government budget costs was when they spent six years passing unfunded legislation, not four years later when they realized the interest on the Federal deficits they funded with money borrowed from the Chinese, Saudis, hedge funds, and pension funds was being paid for with real (taxpayer) money.

    After increasing governmental budget liabilities by lack of funding while they reduced tax revenues, the Republicans now propose to offset the shortfall in Federal tax revenues on the backs of retirees, veterans, members of the Armed Forces, and the nation’s employees and employers.

    The creative Republican offsets include reducing the retirement and medical benefits members of our Armed Forces after nine years of continuous war, and the Medicare and Social Security benefits of all retirees and all working Americans. Republicans are proposing means testing and extending eligibility ages for benefits while they continue collecting a working lifetime of FICA (Social Security and Medicare) payroll taxes from employees, independent contractors, self-employed, and employers.

    Welcome to 2011. The new mantra is “Greed is good“. Not to worry, the Republicans do not plan to cut the interest payments on the Trillions of Dollars of U.S. Treasury Securities they sold to the Chinese and Saudis to finance the deficits they helped to create.

    The United States of America has gradually evolved to an environment where nobody wants to pay bills. Multi-billion dollar corporations regularly make use of corporate tax loopholes to avoid taxes and walk away from billions of dollars of obligations for debts. Millions of working and retired people of all income sectors feel they should be able to walk away from obligations for debt for a variety of reasons. Millions of Americans say they want their schools operating, their roads paved, their garbage picked up, their water and sewer service working, their mail delivered, and their country secure. They just don’t want to pay taxes.

    Our business, media, and political leaders have little interest in understanding how we got to the level of hypocrisy and self-indulgence so many people and organizations are wallowing in, or if anything should be done about it; other than to let greed and self-interest reign forever.

    Mr. Boehner doesn’t realize that there are Americans who consider it a privilege to be able to pay Federal income taxes and serve in the Armed Forces in order to live in a country that represents a beacon of Liberty to the entire world and works vigorously to provide everyone with the opportunity to reach their goals. U.S. citizenship should imply love of country, community, family, and responsibility; not self-indulgence.

    Perhaps Mr. Boehner doesn’t realize that tens of millions of Americans are tired of the hypocrisy emanating from our political, media, and business leaders. Concerned Americans need to get the undivided attention of Speaker Boehner, and that of all the other individual, business, media, and political entities that don’t, wont, or can’t pay their bills (taxes and otherwise).

    Perhaps American workers, retirees, veterans, members of the Armed Forces, and businesses who feel holding the credit-worthiness of the United States of America hostage to narrow political interests is wrong could get their attention if they simply considered adjusting the payments for their withholding amounts for FICA payroll taxes, Federal income taxes, and Quarterly Estimated Payments (for Federal taxes) down to zero.

    If the Republican leadership doesn’t believe America should pay its’ bills by refusing to raise the Federal debt limit for congressionally legislated expenses, why shouldn’t the American electorate and business community have the same opportunity?

  2. What Speaker Boehner and the Republicans (and yes, the Tea Party candidates who frighten the socialists who apparently run this site) are attempting to do is to bring to light the fiscal crisis created by government. Many may remember the same shrill cries of terror when Liberals threatened that Reagan would torture and starve seniors or that Gingrich would steal Christmas and starve children. The wars in Iraq and Afghanistan are not unfunded mandates. They are national security actions and while their merit is indeed subject to discussion, it is conservatives (namely Ron Paul) not Liberals who wish to deal with such expenses by eliminating our foreign intervention. The fact is that this administration more than any other in U.S. History based on GAO figures has expended the U.S. deficit and its corresponding debt and if Obamacare is not stopped, will signal the fiscal death of America. Lastly, who in their right mind would consider it a “privilege” to pay federal income taxes? Government extracts from us, the efforts of our labor via forced taxes – paying such is not a privilege, its an onerous burden which Liberals (among whom I hereby place George Bush) foist upon citizens of the world who have fallen asleep. It was once a Republican ideal that citizens should keep their money (the Kennedy/Reagan tax cuts) – let’s hope the current crop of electees will return to this ideal.

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