A Default Silver Liner Would Abolish Debt Ceiling Completely | American Institute of Business



By Steven B. Kamin

Would you lend money to someone who said, “I’m going to keep borrowing until my debt hits $ X, then I’m going to default?” ” I do not think so. But that’s what the US government has done year after year, and yet there has been no shortage of people willing to buy US Treasuries. As long as Congress periodically raises the debt ceiling, this obscure rule – which is shared by very few other countries in the world – must not undermine the promise of Treasuries as the safest and most secure asset. most liquid in the world. And investors around the world know that Congress will certainly raise the cap because it would be irrational not to raise it, because failing to do so would trigger default and financial chaos.

The faith of global investors in the rationality of Congress and the sanctity of US Treasuries, while never broken, has been periodically tested and even shaken. Notably in 2011, Congress’ trip to the brink of collapse led to the downgrade of the government’s credit rating from AAA to AA +. Another testing period is now upon us. According to Treasury Secretary Janet Yellen, the limit will likely be reached sometime in October, which will require a further increase in the debt ceiling if the US government is to honor its obligations. And if any investors still hold their faith in the rationality of the American political system after the events of the past year and a half, well, God bless them!

To be clear, the political class is more rational than ever. No one has ever accused Mitch McConnell, who urged Senate Republicans to vote against lifting the debt ceiling, of acting other than out of self-interest. But many voters clearly seem crazier than they were in 2011. How else to explain: (1) the roughly 25% of the eligible population who have given up on Covid-19 vaccinations, even as shortages horse dewormers have emerged amid an increase in hospitalizations and deaths from the pandemic; (2) governors who find it politically advantageous to vigorously oppose masking demands by local governments and school districts in their states; and (3) polls that show that 29% of people still believe Donald Trump won the 2020 election.

With large swathes of the electorate either delusional or, at a minimum, visibly distracted by culture wars, the pressure on political leaders to act responsibly is greatly reduced and the risk of accidents, that is, ie an unintentional failure to raise the debt ceiling – are therefore much higher. Everyone agrees that the consequences of failing to raise the ceiling will be catastrophic: soaring interest rates, falling stock prices, collapsing credit and a global recession. There is therefore a good chance that one side or the other will back down from this pool game and that a global financial crisis will be avoided.

But even if we squeak then, what about next time? Our national aversion to raising taxes to pay for expanding government services ensures that the debt will rise to meet each new limit. And neither our hyper-partisan politics nor our vulnerability to mass illusions generated by social media seem likely to dissipate anytime soon. As a result, the odds seem good that if the debt limit rule is maintained, repeated testing of it will eventually lead to failure, and perhaps sooner rather than later.

Obviously, the debt ceiling must be removed completely. What could generate the political momentum to make this happen? Republicans are not going to free their most precious hostage out of the goodness of their hearts. Although a political backlash against the debt ceiling scam may force them to do so if the consequences become viscerally apparent. And the most plausible scenario to make these effects obvious to all could be a temporary (perhaps a few hours or days) default on US Treasury bonds, enough to panic the financial markets and lower the rating a bit more. government credit. notches, but hopefully not enough to plunge the economy back into recession.

There is a precedent for the motivational effectiveness of an economic crisis: on September 29, 2008, the House rejected the TARP bailout bill; this triggered massive stock price declines which laid the groundwork for TARP’s approval by the House days later. However, it is not clear whether a temporary default could actually disrupt financial markets without triggering a severe economic contraction (the financial equivalent of being a little pregnant). And so I’m certainly not advocating that our leaders deliberately develop such a scenario. But if that did happen, it would be the perfect opportunity to lift the debt ceiling once and for all.

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