One the best overround ups of how the worst case could unfold, that I’ve seen.
So the tone of my posts railing against default seems to have conveyed one of two false impressions to many of my readers: that I believe there is now a 100% chance that we will fail to increase the debt ceiling; and/or that I believe a failure to raise the debt ceiling will be a catastrophe on par with 6-mile asteroids and volcanic eruptions the size of modern Iran.
Since neither of these is the case, I thought it was probably time to write down what might unfold over the next few days.
I’ll start by saying, however, that I have no idea whether we’ll get a deal or not. There is one thing I’m sure of: Obama is indeed bluffing with the veto threat, and badly. They could send him a repeal of Obamacare attached to a debt ceiling increase, and he’d sign it. He is not going to endanger our credit rating, or social security checks, in order to prove a point.
Beyond that, I have no idea what is going to happen politically. Either the GOP is going to pass the Boehner bill, go into conference with the Senate, and come out with something Obama will sign–or they won’t. I tend to think they will because it would be so damn crazy not to. On the other hand, I thought Democrats were going to back off on health care because it was so obviously career suicide to pass the thing. And I was right–it was career suicide. But they passed it anyway. After a certain point, these things take on a life of their own: it’s hard to back down when you’re so publicly committed–and when something you want so badly feels like it’s almost in reach. So who knows.
Then there’s the wild card: will the GOP old guard do a deal with the Democrats if the tea party won’t play ball? I don’t know. It would cost them their jobs, but it would be the right thing to do. But it’s hard to get people to do the right thing when it will cost them their jobs.
But okay, let’s say they don’t pass anything, what then?
Here’s what I think I know about what will happen:
- August 2nd isn’t the date when we can no longer pay all of our obligations. But it is quite close to the date. When the next round of social security checks goes out, the government will be out of money
- We will almost certainly pay the interest on our national debt, military payrolls, VA benefits, and Social Security. That is going to leave precious little money for anything else.
- Standard & Poor will downgrade our bonds. Fitch and Moody’s, however, are not going to downgrade us unless we actually default–which, as I’ve said, I don’t think we’ll do.
- Economics of Contempt argues that this will actually have less impact on markets than people are predicting, because most contracts and regulations that require institutions to buy AAA rated securities do not force those institutions to sell unless two out of three of the agencies have downgraded. As long as Fitch and Moody’s hold the line, we won’t see the absolute chaos that would follow a downgrade of the US short-term credit rating from all three.
- Nonetheless, there will be considerable disruption in markets, less because of the direct regulatory problem, than because markets–like the rest of us–like to believe that there is some sheriff in town. The level of political instability implied by a congress that does not raise the debt ceiling is a level of political instability that makes all financial transactions riskier. The willingness of people–foreigners especially, but also Americans–to hold our debt will be permanently impaired. That will be expensive. Also, voters are going to be unhappy when their 401(k) portfolios start behaving like a manic depressive coke addict in detox.
- We also don’t know if Fitch and Moody’s will hold the line. They’re telling reporters they will–but how will they feel in a month? Who knows? If they downgraded us significantly, the resulting sell-off just from money market funds could feel a lot like a replay of 2008. Only this time, it’s not clear that anyone in the government has the authority to step in and stop a run on the money markets; the issue was left conspicuously unaddressed by Dodd-Frank.
- Geithner will not take the 14th amendment route, not only because its legality is dubious, but also because it would trigger an even deeper political crisis, and quite possibly end with President Obama being impeached.
- Geithner may have some other gimmick up his sleeve, like minting $2 trillion platinum coins, swapping Social Security treasuries for public debt, or selling our gold reserves. (Good riddance!) If so, expect screaming from the left (he’s raiding the social security trust fund!) or the right (plundering our nation’s vital stores of precious metal), and the thing may drag on for months.
- If he does not have these tricks up his sleeve, many things people like–a lot!--will probably stop.
- Whatever happens will not last long. The constituencies which make up the tea party do not necessarily understand how much of their life is underwritten by the government. But they will. When the market starts convulsing, and checks stop coming, and states have to do emergency property tax hikes to make up for lost federal revenue, angry constituents are going to mob their congressmen. About five minutes after the first doctor tells a senior citizen that he can’t treat any more Medicare patients until he gets paid, the tea party caucus is going to crawl back to Capitol Hill and beg to pass whatever will make it stop.
- In the aftermath, we will, over the long term, pay more to borrow money. At least some of that is going to be paid for with higher taxes.
- Everyone else is probably going to pay more to borrow money, too. The US is a net borrower, and this sort of instability means paying more to attract capital. And a whole lot of debt, including fixed-rate debt, is priced off of treasuries.
- Consumer confidence, already shaky, will take a blow. It’s hard to say how much this matters, but it certainly matters some; like markets, consumers want to think that there’s someone in charge.
- This also raises the regulatory risk that the GOP says they care about. A mildly bad rule that’s stable is better for business than a good rule that changes every two years.
- The political situation in DC will get even worse. The last two decades have been market by one party doing something kind of raw to the other party, who then goes even further because after all, look what they did . . . If the Tea Party, and the GOP, precipitate a crisis, then the GOP, and the Tea Party, will pay for it eventually.
So the world is not actually going to end, and I am not buying canned goods and ammunition for my portfolio.
Convulsions in the market, lives disrupted by, say, an inability to actually close on the house you need to sell in order to move cross country and start your new job, higher interest rates, an even more poisonous partisanship . . . these are bad things. Of course, some bad things will happen to people as we struggle to get this country back on sound fiscal footing, which is what the tea partiers keep telling me when I point this out.
The problem is, this doesn’t put the country back on a sound fiscal footing. There’s nothing on the positive side of the ledger. The GOP deals itself a heavy political blow, loses their best chance to repeal the hated health care bill, and kicks a frail economy in the teeth in order to . . . what? Let Democrats know they’re stubborn and angry? Hey, guys, message received!
What Happens if We Don’t Raise the Debt Ceiling?
Thu, 28 Jul 2011 16:41:20 GMT