Some questions on the debt ceiling... and then some more

[luzribeiro.livejournal.com]

Frankly, I haven't stopped watching this counter for a few minutes. It's mesmerizing:

U.S. National Debt Clock: Real Time

Alright. Now that all most of the hubbub surrounding the shenanigans on Capitol Hill has subsided somewhat, time to get back on topic, i.e. "Speculative Scenarios". And the topic I'm gonna occupy you with, is again... the debt ceiling! :)

Anyone know for sure what would've happened if Thursday came and went and Congress was still stuck at an impasse without being able to raise the debt ceiling? It's not like the US won't arrive at exactly the same point next year, right? Sure, we already know that, simplistically put, not raising the debt ceiling would mean the government would no longer have the authority to borrow money to pay its bills. Sounds bad at a first reading, that's for sure.

But what next? What would be the longer-term consequences? Could someone more well-versed in the financial matters spell it out to me, step by step? 'Cause, from what I've been able to gather from the various talking-heads on the media, it all sounds like a nightmare scenario. The government no longer being able to pay the interest on the debt, financial markets sinking, social security checks being delayed, and ultimately, another recession? Am I on the right track?

What exactly is the idea behind a borrowing limit? What's the rationale behind it? For a time it seemed to me-the-layperson that the US had deliberately put a system of obstacles and traps in its own path, relying that it'd never even consider stepping into them (deliberately) - only to realize that yes, yes it's perfectly possible to step into your own traps (as seen in the recent days). Or shoot yourself in the leg. Or stick a muddy rug inside your own throat. Etc.

And, since the national debt limit had already been reached once in May this year, isn't any subsequent measure that's been taken by the Treasury only an effort to postpone the inevitable, and treat cocaine addiction with increased cocaine intake? (Or as the PC term is, "extraordinary measures"). It's all starting to look more and more like an inflating balloon which can't go on pumping up forever.

Just one more thing I may not be competent enough to grasp. Couldn't the president just, you know, ignore the borrowing limit? From the 14th Amendment: "The validity of the public debt of the United States, authorized by law ... shall not be questioned". So does he or does he not have the authority to do that? Is "authorized by law" = "sanctioned by Congress"? And even if not so, would any investor buy bonds issued without congressional approval?

And while we're about the markets, ultimately, how would investors meet the news that the government of the world's presumed economic superpower has been compelled to prioritize among its payments, giving precedence of some of its obligations but falling behind on others? And all that said, in these circumstances why should anyone be surprised that governments around the world are already seriously considering shifting away from the US dollar as a reserve currency? How many more countries would have to be threatened of being bombed after having done that step, before a critical threshold is reached where national treasuries worldwide would start abandoning the increasingly worthless main US export (namely: green papers), regardless of the potential repercussions for such a bold/crazy action?

I know. These are probably too many questions. But, see, we furrinners have been compelled to listen to this stuff over and over for many many days now, so, methinks you guys do owe us at least some small explanation, even if it comes in the form of funny macros. I'm all ears/eyes!

Comments

[meus-ovatio.livejournal.com]

From what I understand, American treasury bonds are still considered the safest, rock-solid debt-investment instrument in the world. So people buy them by the billions. Because we're a nation of 315 million with a gigantic, technological economy, and as long as the government can raise taxes, collect taxes, and make payments, people will keep giving us money for bonds until the cows come home or the sun explodes. If you had a billion dollars, and you wanted to protect that money, you would definitely put a large chunk of it into American bonds, you wouldn't put it all into equities (that would be crazy). So, since our bonds are so great, their interest remains pretty low so it's very very cheap for the government to borrow money (even free at times). A deficit represents stimulus. Whatever the government borrows to spend into the economy, represents, basically, a subsidy to businesses and rich folk, which is why we will always have deficits, because deficits represent a wealth transfer to the 1 percent. The total amount of debt is almost irrelevant as long as bond holders get paid on time, every time. You can float a multi-trillion dollar debt level until the cows come home or the sun explodes.

[sophia-sadek.livejournal.com]

Please, please, you are making the Koch brothers jealous.

[rowsdowerisms.livejournal.com]

I'm with everything you're saying except, "Whatever the government borrows to spend into the economy, represents, basically, a subsidy to businesses and rich folk, which is why we will always have deficits, because deficits represent a wealth transfer to the 1 percent."

At 0% or negative real interest rates, how is this the case? At best, isn't it a wash for the wealthy and an influx of cash for the proles?

[meus-ovatio.livejournal.com]

Not if the government keeps paying contractors with debt money. That makes people at the top rich, at least those who need those dollars. So basically it recoups taxation at the higher levels in the form of direct payments back to their companies.

[rowsdowerisms.livejournal.com]

I see what you're saying, but with private contractors at ~14% of the federal budget, around ~24% of GDP, that comes to 3.2% of GDP. Deficits in 2012 were running 8.7% of GDP. That's a difference of around 800 billion that was financed with real negative interest rates. If the deficit is financed by the well to do, and they're recouping their 3.2% GDP bond investment in business contracts, but paying a negative interest rate, then how doesn't the remaining 800 billion + their negative interest transfer from, not to, the wealthy?

[meus-ovatio.livejournal.com]

Because banks are making money on taking Fed money and giving it back to the Treasury for a small premium.

[soliloquy76.livejournal.com]

Anyone know for sure what would've happened if Thursday came and went and Congress was still stuck at an impasse without being able to raise the debt ceiling?

I'm by no means an economics expert, but based on what I've read about this, a few things would happen. First, there would be panic on Wall Street. Investors would start dumping stocks and bonds, and there would likely be runs on banks -- essentially the same shitstorm that happened in 2008 that triggered a global recession. To compound this problem, most government employees would likely not be paid, causing unemployment to jump sharply, which would also have an effect on Wall Street. Other problems, which we're already seeing now simply due to the threat of default, are:

• Increased borrowing costs. Investors demand more money for riskier investments. S&P and Fitch were minutes away from sinking our credit rating last night.
• Economic output slows because a large chunk of the economy -- the federal government -- is stalled and federal employees aren't spending.
• Businesses halt spending and hiring due to economic uncertainty.

I'm sure I'm missing a few things, but you get the idea.

Couldn't the president just, you know, ignore the borrowing limit?

Probably, but until the issue is resolved in an official capacity (the Supreme Court), investors will be wary of buying bonds in a questionably legal way. There's apparently a commemorative coin law in which a loophole exists that allows the Treasury to mint a trillion dollar platinum coin and deposit it into the Treasury's account. "Mint the coin!" was a popular chant during previous debt crises, though I'm not sure how realistic this is from a legal standpoint. It's certainly not a great precedent to set.

[peristaltor.livejournal.com]

There's apparently a commemorative coin law. . . .

Not a law, an idea. The Constitution restricts the issue of "coin" to the Federal Government. Dollars, paper and electronic, aren't literally coins. (Paper was very rare in the Constitution's day.) Therefore, the Mint would create a single trillion dollar penny and lock it in a vault. This would raise Treasury's assets by one billion dollars. Need more? Make more coins.

Treasury would then pay off bonds with this money. On the back of every bond is legalese explaining that the holder can be issued paper money at any time by the debtor (Treasury), instead of allowing the bond to accrue interest through its term.

Sadly, the value of both a bond and a bill are the same: what people believe they are. Bond holders would not be happy to lose the even modest interest.

There's another, really, really big problem with this. If it was done, bonds that were time dependent would become dollars overnight. The only way to get value from a dollar is to spend it. If there were not enough products available for sale, we could create overnight hyper-inflation as the unleased dollar supply swamped the markets and drowned everyone's purchasing power.

[sophia-sadek.livejournal.com]

A fundamentalist fanatic who works as a stenographer for the US Congress recently tried to preach the gospel of anti-Masonry on the House floor (http://politicalticker.blogs.cnn.com/2013/10/17/stenographer-snaps-rants-on-house-floor/comment-page-28/). If there was no Federal government, people like her would have a free hand to purge American society of those who fail to worship the material Creator of the flat and immobile Earth.

I am truly sorry that "furrinners have been compelled to listen" as American politicians go through the ugly process of making fiscal sausage. I wish they had the same ability that we have to tune out the noise.

[luzribeiro.livejournal.com]

Not when the noise constitutes 95% of the entire traffic. Then it's not possible to tune out.

In the meantime, I'm aware that this is a potentially serious issue with possible effects worldwide (not the political bickering; the government default), so I understand that sometimes it's worthwhile listening. Nevertheless, much of the noise has been painful to the ears, I assure you.

[fizzyland.livejournal.com]

Freemasons get a bad rap. Sure, they wrote the Constitution and had generally deist ideas about the "Creator". Doesn't seem to have worked out badly for the rest of us.

[sophia-sadek.livejournal.com]

I have nothing against the Masons, except their male chauvinism. I am far more concerned about anti-Masonic reaction.

[yes-justice.livejournal.com]

NO GIRLZ ALLOWED!!!!

[badlydrawnjeff.livejournal.com]

Anyone know for sure what would've happened if Thursday came and went and Congress was still stuck at an impasse without being able to raise the debt ceiling?

No one knows for sure, and the assumption that the markets would have reacted significantly and the banks seizing up would probably be the case, but it's worth noting that, unlike the spin in the media, this was never going to happen. Congress was not going to default over this. A long term shutdown? Sure. Default? No. The Constitutional crisis that would come about wouldn't be worth the trouble, never mind the possible/probable impacts.

What exactly is the idea behind a borrowing limit? What's the rationale behind it?

The point is to ensure that we're talking about how much debt we're taking on. That's why this fantasy that we don't negotiate over the debt limit is just that - the whole point of the debt limit is to call attention to the amount of debt we're taking on, not to cause a default.

Couldn't the president just, you know, ignore the borrowing limit?

This is the Constitutional crisis I spoke of. If the President does ignore the limit, he runs into a separation of powers issue. If he doesn't and we go into default, is that calling the debt into question? Does the 14th even mean any debts, or is it just a reference to Civil War debts?

We'll never hit default under normal circumstances, so there will never be a lawsuit to get to the point where those questions get answered.

[yes-justice.livejournal.com]

unlike the spin in the media, this was never going to happen.

18 republican senators and 144 congressmen voted against avoiding the default.

Flirting with defaulting caused ripples worldwide causing actual harm.

[badlydrawnjeff.livejournal.com]

They voted against the final bill knowing it was going to pass. This is called "giving cover," allowing them to use it as part of their reelection bids.

There was zero chance that the bill wasn't going to pass if they didn't support it, and the danger to those representatives was greater had they voted yes. Votes are often political.

[yes-justice.livejournal.com]

I will grant you that for half of them if you grant that the other half is actually serious.

"The danger" to the ones who voted yes implies that we have some seriously suicidal constituency they are appealing towards. That cannot bode well for the health of this nation.

[badlydrawnjeff.livejournal.com]

It really only implies that if you think this is an issue of people actually wanting default.

Is there possibly one or two people who might have been okay with default under the assumption that it wouldn't be so bad? Sure. But I think the whole idea that default was actually a threat is being overblown, and probably for political reasons. Even Obama tried to get Wall Street worked up about it and they didn't bite.

[rimpala.livejournal.com]

That is a wholly irresponsible reason to vote for avoiding default

[badlydrawnjeff.livejournal.com]

I would agree if the end result was known to be default.

[rimpala.livejournal.com]

Seems an awful lot like playing with fire to me

[badlydrawnjeff.livejournal.com]

Those who voted no knew that the bill was going to pass. That's the point of having cover to vote a certain way.

[rimpala.livejournal.com]

But what if it did pass?

[badlydrawnjeff.livejournal.com]

It wasn't going to, it's a moot point. Default was never going to happen.

[dexeron.livejournal.com]

And even ignoring the votes, one need only listen to what Republican leaders (and many, many of the voters they need to please through their actions) to see that there were many who thought that harm default would cause was preferable, or even worse, not even harmful at all.

This granting of the benefit of the doubt only works if we were dealing with rational actors. Too many among the tea party constituency have shown themselves not to be, and too many among the Republican leadership have shown themselves willing to follow these people off of a cliff in return for their votes, regardless of the long-term harm it might cause to this country.

[malasadas.livejournal.com]

I'd say at this point it is very silly to not take Representatives Bachmann, Gohmert, Yoho and King at their words that they truly do not see a threat in default. And their outsized influence over the Speaker shows no sign of abating.

[yes-justice.livejournal.com]

So, they will do the same thing with sharper duller bloodier swords this christmas. Sigh.

[soliloquy76.livejournal.com]

John McCain and Mitch McConnell assure us that another shutdown won't happen this time.

[yes-justice.livejournal.com]

I will take your icon at its tone at that one. McCain's blood relatives are getting drained.

[mahnmut.livejournal.com]

As it turns out, similarly to the 2008 crisis, the world would actually be more affected by a US default than the US itself.

Makes you wonder how big the temptation could be to just pull a switch whenever things need a little shaking-up worldwide, to gain some advantage over international competitors.

[rimpala.livejournal.com]

I question how damming a default would be to Congress, I mean, besides the obvious backlash that would come from allowing it to happen, eventually their paychecks would have to go along with other cuts the American Government would have to make due to running out of funds, hopefully it goes long before essential functions such as first responders, defense, and air traffic control. I mean, yes the 27 amendment to the constitution says "No law, varying the compensation for the services of the Senators and Representatives, shall take effect, until an election of Representatives shall have intervened."

One of the concerns I have is that it's clear that congress can simply choose to deny the government the ability to fund itself while still keeping themselves comfortable. They're so rich anyways that the world can fall apart around them and they wouldn't have any reason to care.

[brother-dour.livejournal.com]

From what I understand, the following would have happened:

~ everyone's interest rates would have went up (credit rating downgrade)
~ senior citizens would have been storming DC over Social Security checks
~ Recession 2.0!
~ All our foreign creditors would be pissed
~ the Teabaggers would continue to play their fiddles

[ironhawke.livejournal.com]

In fact, Social Security affects many more people than just the retired oldies. Children who have lost a parent prior to turning 18 are entitled to death benefits, many disabled people are on disability, and 10s of thousands of others receive some sort of SSI payouts each month, many of whom (myself included, not disability) rely on those payments to make ends meet.

[brother-dour.livejournal.com]

Of course. But old people vote a lot, which is why they got special mention.

[peristaltor.livejournal.com]

No one knows the answers to any of these questions. This is an unprecedented time.

In the olden days, debts were paid with gold and silver and all the shiny baubles and trinkets the debtor could loot from people too weak to defend themselves. This booty was delivered directly to the creditor, and the delivery could take months, if not years.

Now? Push a button, and *plink!* a screen acknowledges receipt of a string of specifically strung ones and zeros. No galleons to worry about sinking off of [pick a coast, any coast], no royal caravans to defend against brigands [or worry about the brigands you hired for its defense].

What many, if not most are missing is that the dollars, the bonds, the debt, it really doesn't matter, not here, not in Greece, not in Basel. Debt is the promise of providing future riches—gladly paying Tuesday the price of a burger and fries in return for just a hamburger today—and lately the ability to create these riches has been interrupted not just by certain actors in any given economy but by everyone. This means growth has stopped. It doesn't matter that the numbers on this printed pretty bond I'm holding shows interest; either the debt rolls over or we have to admit that actually creating the interest, let alone the principal, is a trick those of yesteryear could do but failed to share. (The funny part of this is that most of us are those people of yesteryear!)

This near-failure, Greece, Spain . . . the world has not been in this position of chronic non-growth for about 200 years, and many still don't see a way to comfortably return to yesteryear.

[rowsdowerisms.livejournal.com]

But what next? What would be the longer-term consequences? Could someone more well-versed in the financial matters spell it out to me, step by step? 'Cause, from what I've been able to gather from the various talking-heads on the media, it all sounds like a nightmare scenario. The government no longer being able to pay the interest on the debt, financial markets sinking, social security checks being delayed, and ultimately, another recession? Am I on the right track?


This is pretty plausible.

1. In scenario one, risk aversion rises, financing costs rise, prices of risk assets fall, and the economy enters a recession. Exacerbated by the Fed’s inability to lower short-term interest rates, growth only begins to rebound at end of 2014 and the unemployment rate rises to a peak of 8.5% before starting to decline. At its peak, 2.5 million jobs would be lost.
2. Scenario two implies a longer and deeper recession than in the first scenario, but one characterized by extreme volatility. Annualized GDP growth fluctuates rapidly between plus and minus 8% until the oscillations diminish in 2015. Unemployment rises to a peak of 8.9% — equivalent to 3.1 million lost jobs — before trending down.


And while we're about the markets, ultimately, how would investors meet the news that the government of the world's presumed economic superpower has been compelled to prioritize among its payments, giving precedence of some of its obligations but falling behind on others? And all that said, in these circumstances why should anyone be surprised that governments around the world are already seriously considering shifting away from the US dollar as a reserve currency?
While most of the effects of default would be what one could consider a "bad" thing, the loss of reserve currency status would lower the relative value of the dollar and increase our exports, decreasing our trade deficit. This would be a good thing employment wise, though the immediate effects of default would be worse.

[kylinrouge.livejournal.com]

The last 4th of that graph, 2-3 years, is in the future. The amount of dotted lines that actually occurred happened within the span of a couple/few months.

That is QUITE a bit of extrapolation.

[rowsdowerisms.livejournal.com]

I'm not entirely sold on the report it's based on, it relies to a degree on volatility estimates. Still, it's looks rather optimistic, if you can call a 2 month default destroying 3% of GDP that, as it assumes gov getting its act together and ignores a lack of automatic stabilizers. A much scarier straightforward extrapolation would be an immediate across the board cut of 4% GDP to balance the budget. That and the destruction of unemployment insurance could easily take 10% of the economy with it.

[mikeyxw.livejournal.com]

While I don't believe we'd default, as it would be and act of stupidity and irresponsibility that I believe is even beyond congress. Even if the debt ceiling is hit, we should be able to cover our bonds and pensioners would be the ones who get hit... which would be politically intolerable. If the US government just decided to be ornery and thumb their noses at a bunch of debts which we have the ability to service, here's my take on what would happen.

US bonds are used to store liquid assets by a whole lot of people. They are perfectly liquid and can be changed to dollars at any time, guaranteed. Also, there is a really good expectation about how much they're worth at any given time. The trade in US bonds is somewhere around $180 trillion per year. Since only about $9 trillion of our debt is actually in bonds held by private parties (i.e. not Social Security or something similar), this means that each T-bill use in a transaction every two or three weeks on average for such things as banks using them for collateral on short term loans. Their predictability and liquidity are what provide their use, it's like having a stack of dollars that yield 3% or so.

If we delayed paying, the liquidity of US bonds would be brought into question. We would essentially be saying that we're not going to redeem them because of political whims, which clearly makes them non-liquid. This would affect about $6 billion worth of bonds on Oct 31st, which isn't a big amount globally speaking. It could convince those who are on the lending end of the $180 trillion per year that US bonds are not liquid and therefore not acceptable collateral for short term loans. If this happened, it would cause a cash crunch and therefore a recession.

I've heard different opinions about what would happen to T-bill rates in the future. It would definitely make US bonds less attractive, but in the short term it might make other choices even less attractive, which would actually reduce the US government's borrowing costs at least until things settled down.