Could the US government go into default?

[August1991]

Thanks to the advent of credit derivatives -- financial contracts that allow investors to speculate on or protect against default -- we can now observe how likely global markets think it is that Uncle Sam will renege on America's mounting debts. Last week, markets pegged the probability of a U.S. default at 6 percent over the next 10 years, compared with just 1 percent a year ago. For technical reasons, this is not a precise reading of investors' views. Nonetheless, the trend is real, and it is grounded in some pretty fundamental concerns.

Washington Post

This is noteworthy because first such markets now exist to measure such probabilities and second because Obama plans to borrow/spend a whack of money. Keep in mind that the US government's revenue stream is based on its ability to tax the American population. For the US government to default, it would be tantamount to it losing its legitimacy among the American people.

[Riverwind]

For the US government to default, it would be tantamount to it losing its legitimacy among the American people.

Not necessarily. Threats to default on the debt could be a tool used in some geo-political postering in the future. I doubt it though. The meltdown in China is reminding the Beijing thugs that funding huge trade surpluses by loaning money to your customers will eventually make you entirely dependent on your customers with nothing to show for it. Edited January 15, 2009 by Riverwind

[BubberMiley]

I think they'd respond to the debtload with hyperinflation before they would default.

[msj]

This is noteworthy because first such markets now exist to measure such probabilities and second because Obama plans to borrow/spend a whack of money.

Oh, so debt isn't a problem under Bush (what's that, a $1 trillion dollar deficit for '08? - never mind all those "small" deficits for prior years) but now it's going to be a problem under Obama because he wants to "borrow/spend a whack of money?"

Sure, Bush et al. have only pushed $8.5 trillion plus another $5 trillion for Fannie/Freddie onto the taxpayers (granted, this would be an absolute worst case scenario - a more reasonable estimate of the cost, assuming 80 cents on the dollar would mean a cost of ~$2.8 trillion).

But no, since Obama's coming in it must be all his fault.

[August1991]

Oh, so debt isn't a problem under Bush (what's that, a $1 trillion dollar deficit for '08? - never mind all those "small" deficits for prior years) but now it's going to be a problem under Obama because he wants to "borrow/spend a whack of money?"

Between Bush and Obama, there are several orders of magnitude. And for the moment, the US federal debt remains a manageable 70% of GDP.

Anyway, the OP concerned the interesting market pricing of the chance of US federal government default which has increased from 1% to 6%.

----

But msj, here's a thought for you.

If the US government goes into deficit by borrowing money (at a low interest rate) and giving it to Americans, then Americans had the money to do something intelligent. By and large, I trust the practical, even greedy, sense of ordinary Americans.

But if the US government goes into deficit by borrowing money (at a low interest rate) and giving it to government bureaucrats to spend, I'm not so sure the end result will work. Government bureaucrats around the world have a reputation for wasting money.

Maybe this change in the use of the borrowed money explains the higher market valuation of default.

Not necessarily. Threats to default on the debt could be a tool used in some geo-political postering in the future.

No Riverwind. The State's ability to make good on its promises is ultimately tied to its ability to tax.

The true measure of a democratic State's legitimacy is not voter turn out or even census responses; it is the percentage of citizens who pay honestly their taxes.

We should not care about voter turnout or voting systems. As long as Canadians pay their taxes, then we will have a civilized society.

Edited January 15, 2009 by August1991

[msj]

Between Bush and Obama, there are several orders of magnitude. And for the moment, the US federal debt remains a manageable 70% of GDP.

Anyway, the OP concerned the interesting market pricing of the chance of US federal government default which has increased from 1% to 6%.

----

But msj, here's a thought for you.

If the US government goes into deficit by borrowing money (at a low interest rate) and giving it to Americans, then Americans had the money to do something intelligent. By and large, I trust the practical, even greedy, sense of ordinary Americans.

But if the US government goes into deficit by borrowing money (at a low interest rate) and giving it to government bureaucrats to spend, I'm not so sure the end result will work. Government bureaucrats around the world have a reputation for wasting money.

Maybe this change in the use of the borrowed money explains the higher market valuation of default.

And this is what you fail to understand - dynamic scoring.

You also fail to understand things like net present value of investments and the moral hazard that Greenspan/Bush/Bernanke continue to feed on Wall Street.

Oh, and then there is the amount added to the deficit from TARP and all those other programs that Paulson has thrown onto the taxpayer - $8.5 trillion plus $5 trillion in Fannie/Freddie guarantees - this thing is going to cost close to $3 trillion in the end and that's just to bail out the financial sector.

Oh, right, but that's not the "real" economy so you'll ignore all of that.

It is laughable how you and your ilk start complaining now about deficits. When Bush spends on unproductive war mongering then that spending is okay and those deficits are acceptable.

When Obama wants to inject stimulus in a productive capacity (or, at least, something more productive than spending taxpayers money on bombs which are then exploded - talk about digging holes and then filling them up again) then, all of a sudden, it is Obama who is bringing the US to default.

No, let's ignore Bush's economic legacy and blame the next guy.

[krazy kanuck]

IMHO the government should declare bankruptcy. The debt clock is ticking and each and every second of every minute of every hour or every day it is increasing by massive amounts. I have serious doubts that America can recover from this debt load. They should admit this, go bankrupt and start over with sensible fiscal policies.

[bush_cheney2004]

IMHO the government should declare bankruptcy. The debt clock is ticking and each and every second of every minute of every hour or every day it is increasing by massive amounts. I have serious doubts that America can recover from this debt load. They should admit this, go bankrupt and start over with sensible fiscal policies.

Sure...as soon as other nations with even larger debt to GDP loads do the same. Why is this focus only on the US? Canada came far closer to insolvency in the 1990's.

Edited January 16, 2009 by bush_cheney2004

[guyser]

Why is this focus only on the US?

The title of this thread is....?

[bush_cheney2004]

The title of this thread is....?

So when did that make any difference around here? My question stands..including the thread's title.

[guyser]

My question stands..

Ok, Ill answer.

Because this particular forum is called US Politics and the thread title asks, "Could the US government go into default".

Pretty simple really.

[bush_cheney2004]

Pretty simple really.

Of course, and as I have indicated via other nation's experiences....the answer is Yes.

See...now that didn't hurt so bad.

[BubberMiley]

Sure...as soon as other nations with even larger debt to GDP loads do the same. Why is this focus only on the US? Canada came far closer to insolvency in the 1990's.

I know you’re incapable of expressing a thought that isn’t “what about Canada/Clinton?”, but perhaps the answer to your question is that events in the 1990s provide interesting historical information but are irrelevant in a discussion of current events.

[bush_cheney2004]

I know you’re incapable of expressing a thought that isn’t “what about Canada/Clinton?”, but perhaps the answer to your question is that events in the 1990s provide interesting historical information but are irrelevant in a discussion of current events.

I guess you have never heard of the "ruble", or its collapse in 1998.

[Oleg Bach]

I guess you have never heard of the "ruble", or its collapse in 1998.

I have noticed of late that you are less generous with your Canadian counter parts then before. You no longer dole out highly informative and useful information - could be the pearls before swine syndrome that has slowed you down. Or it could be the simple fact that I have degraded this site to the point that all the real movers and shakers have left...anyway - we can have fun ----hate to be a hero worshipper - but you are cool...to bad they did not understand that there are wonderful and bright people in the states - maybe they are nationally prejudiced against you...Canadians have always had a problem handling reality...could be that nanny state thing - mummy might not allow them to play with the tough and pragmatic American..

[bush_cheney2004]

.....Canadians have always had a problem handling reality...could be that nanny state thing - mummy might not allow them to play with the tough and pragmatic American..

But they seem to be very comfortable handling American reality. I guess we have better train wrecks.

Just in my short time here the tone has gone from "piss off America" to "we should wait to see what the Americans do".

Amazing.....

[August1991]

Sure...as soon as other nations with even larger debt to GDP loads do the same. Why is this focus only on the US? Canada came far closer to insolvency in the 1990's.

That's a fair point, b_c (although I doubt whether Canada was close to insolvency in the 1990s).

In the OP, I simply remarked that markets exist to value the chance of US government default, that it has priced the chance of default at 6% (compared to 1% previously) and that the Washington Post reported all this. (Incidentally, the article refers to these markets as "credit derivatives" but they are also known as "credit default swaps". Some people fear that such arcane markets are at the base of the current financial crisis. I question that but believe such markets will only deepen in the future. Traders for one love them.)

I added the idea that when a government defaults, it is ultimately stating that it cannot tax its citizens - a government in default has lost popular legitimacy.

Or, to look for a conspiracy theory, maybe The Washington Post is setting a bad baseline so that when the 2010 Congressionals arrive, they can point to 2008 and say how much better Obama has made things.

-----

And this is what you fail to understand - dynamic scoring.

"Dynamic scoring" is merely the "Keynesian multiplier" by another name.

From your link:

The government is going to use most of that money to hire people and to buy things. Many of the people it will hire are people who were previously unemployed. Many are leaving other jobs which will subsequently be filled by people who were unemployed. These previously unemployed people, who may have been collecting benefits, will now be paying taxes. Those taxes will reduce the deficit, as will the reduced benefit payments. Moreover, for the businesses from which the government purchases, their profits will rise, and they will pay additional taxes on those additional profits. And they may expand and hire new people, or retain people that would otherwise have been laid off. And (if you believe in a multiplier effect), all the newly employed people, as well as the owners of the businesses, will spend more money, thus providing more profits and more employment for others, who will also pay taxes and stop collecting benefits. And so on. The ultimate effect of the original expenditure on the budget deficit will be considerably smaller than $100 billion.

This is called dynamic scoring. ...

While Keynes first developed modern monetary policy, he also thought that western economies were in a "liquidity trap" in the 1930s and so monetary policy would be ineffective. (Incidentally, msj, it appears that you too seem to think that western economies are in a liquidity trap now.) A liquidity trap is when banks hoard cash rather than lend it because they are fearful of insufficient reserves, default or bankruptcy.

Hence, Keynes argued in favour of fiscal policy since this would get people working (US unemployment reached around 30% in the early 1930s) and these people would spend their money.

You also fail to understand things like net present value of investments and the moral hazard that Greenspan/Bush/Bernanke continue to feed on Wall Street.

Where government is concerned, net present value has a slightly different meaning than it does for General Motors. Government bureaucrats presumably care for us all. As to moral hazard, I have argued here that IMHO, the US Fed is playing around too much with something that is not well understood. With that said, I was impressed with how Greenspan played.

It is laughable how you and your ilk start complaining now about deficits. When Bush spends on unproductive war mongering then that spending is okay and those deficits are acceptable.

I don't really care about government deficits - unless someone like Bernie Madoff gets elected to Congress and the government budget turns into a Ponzi scheme where new taxpayers are desperately sought to cover constantly increasing interest payments.

For me, it is government spending that matters. If the government borrows money at 2% (roughly the case of the US federal government) and then gives it to people (through tax cuts), what's the problem? OTOH, if the government borrows the money and then government bureaucrats spend it, I see much potential waste. IOW, a government deficit is not a problem if it is due to a tax cut but it is a problem if it is due to government spending. IOW, government spending is the problem - however the spending is financed.

When Obama wants to inject stimulus in a productive capacity (or, at least, something more productive than spending taxpayers money on bombs which are then exploded - talk about digging holes and then filling them up again) then, all of a sudden, it is Obama who is bringing the US to default.

Heh, don't say that I'm against all government spending. But governments in modern societies take about half of our incomes and then use about half of the loot either to buy stuff or give the money back to us in various transfer schemes.

But msj, you get to the root of the stimulus package idea, and multiplicators (or dynamic accounting, or whatever it's called now).

If the government hires you at $100 to dig a ditch, then GDP goes up immediately by $100. In addition, according to an arbitrary calculation based on your willingness to buy Canadian stuff (and not save your earnings or spend it on foreign stuff), then GDP will increase by an additional $70 or so.

But what if we don't need a ditch? And why this arbitrary calculation?

----

If US unemployment were at 30%, I could possibly consider such a scenario (but I would be more curious to know what circumstances lead to 30% unemployment). At the moment, US unemployment is around 7%, a little above the lowest rates of the past 35 years or so.

And if the US Fed had not just injected a massive amount of new cash into the banking system, then I too might be intrigued by this fiscal policy idea.

Heck, even Obama plans to have tax cuts as a major part of his fiscal stimulus package.

Edited January 17, 2009 by August1991

[punked]

If US unemployment were at 30%, I could possibly consider such a scenario (but I would be more curious to know what circumstances lead to 30% unemployment). At the moment, US unemployment is around 7%, a little above the lowest rates of the past 35 years or so.

And if the US Fed had not just injected a massive amount of new cash into the banking system, then I too might be intrigued by this fiscal policy idea.

Heck, even Obama plans to have tax cuts as a major part of his fiscal stimulus package.

Reagan Changed the way unemployment was measured. The true number is closer to 12-14% and going up.

[msj]

-----

"Dynamic scoring" is merely the "Keynesian multiplier" by another name.

From your link:

While Keynes first developed modern monetary policy, he also thought that western economies were in a "liquidity trap" in the 1930s and so monetary policy would be ineffective. (Incidentally, msj, it appears that you too seem to think that western economies are in a liquidity trap now.) A liquidity trap is when banks hoard cash rather than lend it because they are fearful of insufficient reserves, default or bankruptcy.

Hence, Keynes argued in favour of fiscal policy since this would get people working (US unemployment reached around 30% in the early 1930s) and these people would spend their money.

1) I know what a liquidity trap is.

2) I have been watching various credit measures (linked to enough time in enough other threads so you can find it yourself) so I know that the world has been in a liquidity trap although the degree and length are uncertain.

3) The current Bush/Bernanke/Paulson/Greenspan doctrine of low interest rates and shoveling taxpayer money to incompetent bankers, Big 3 CEO's and other failed "private sector managers" is a disaster that continues to reward incompetence (i.e. create moral hazard) and threatens the competent managers/CEO's who were not stupid enough to allow their business models to deteriorate in the first place.

4) US employment was measured differently in the 1930's. In fact, it was measured differently prior to 1994 and at various other points in time in between.

I know better than to waste my time trying to explain the details of such changes to a "headline reader" type of person such as yourself.

Where government is concerned, net present value has a slightly different meaning than it does for General Motors. Government bureaucrats presumably care for us all. As to moral hazard, I have argued here that IMHO, the US Fed is playing around too much with something that is not well understood. With that said, I was impressed with how Greenspan played.

1) Not surprised you still worship at the altar of Greenie. He was an important cause of these events so I find it funny that you are impressed with this man.

2) GM squanders billions of dollars of former shareholder equity (i.e. GM is an example of net present value in disinvestment) whereas the government should seek infrastructure projects where the private sector will not take on the necessary risk and, yet, will prove to be an investment to future generations.

I don't really care about government deficits - unless someone like Bernie Madoff gets elected to Congress and the government budget turns into a Ponzi scheme where new taxpayers are desperately sought to cover constantly increasing interest payments.

Fair enough.

For me, it is government spending that matters. If the government borrows money at 2% (roughly the case of the US federal government) and then gives it to people (through tax cuts), what's the problem?

There are many problems and I will only look at two:

1) The US is not properly accounting for its spending and any permanent tax cut will prove to undermine future government programs like Social Security, medicaid etc...

Sure, to the extent that Americans don't want these programs then that is good and fine.

But we will see what happens to them over the next 20+ years as they see a combination of spending cuts and tax increases to deal with these issues.

2) Tax cuts are not a good way to stimulate an economy during a recession - people save the tax cuts (often in "risk free" investments so its not like the money is going into the economy through productive investments to create more jobs).

Then there is the issue of continuing to encourage Americans that they can continue on their free ride and spend their way to prosperity.

Giving an American a tax cut so they can consume another flat screen TV is not nearly as productive as investing in infrastructure which will really be an asset with a useful life measured in decades.

OTOH, if the government borrows the money and then government bureaucrats spend it, I see much potential waste. IOW, a government deficit is not a problem if it is due to a tax cut but it is a problem if it is due to government spending. IOW, government spending is the problem - however the spending is financed.

Sure there will be some waste. It is a matter of degree though. You think that most government spending is wasted and I think some is wasted (i.e. not enough to be materially important).

Of course, as we know, the private sector never wastes money. No, California does not have suburbs and strip malls sitting empty for the past year.

But msj, you get to the root of the stimulus package idea, and multiplicators (or dynamic accounting, or whatever it's called now).

If the government hires you at $100 to dig a ditch, then GDP goes up immediately by $100. In addition, according to an arbitrary calculation based on your willingness to buy Canadian stuff (and not save your earnings or spend it on foreign stuff), then GDP will increase by an additional $70 or so.

But what if we don't need a ditch? And why this arbitrary calculation?

Further proof of you being a "headline reader." I'm not going to waste my time answering this one.

If US unemployment were at 30%, I could possibly consider such a scenario (but I would be more curious to know what circumstances lead to 30% unemployment). At the moment, US unemployment is around 7%, a little above the lowest rates of the past 35 years or so.

See above comments about changes in measuring US employment. I do note, however, that U6 is at 12.5% and increasing. But, once again, this only has real meaning going back to 1994 and some meaning going back to, iirc, 1947, if one accounts for some methodology changes (and, once again, I will not waste my time with you on such details).

And if the US Fed had not just injected a massive amount of new cash into the banking system, then I too might be intrigued by this fiscal policy idea.

Heck, even Obama plans to have tax cuts as a major part of his fiscal stimulus package.

1) The credit crisis is not over yet and hyperinflation may not rear its ugly head as soon as some think.

2) Of course Obama has tax cuts - that's political. He has to to get some Republican support to make his plan look quasi "bi-partisan." (Whatever happened to trying to be non-partisan? That's for a different thread I suppose).

[BubberMiley]

I guess you have never heard of the "ruble", or its collapse in 1998.

I have. I don't think the U.S. is that far gone yet though. Fortunately, there is new leadership to turn things around.

[bush_cheney2004]

I have. I don't think the U.S. is that far gone yet though. Fortunately, there is new leadership to turn things around.

Actually, the "new leadership" is the same as the old leadership. My specific purpose in pointing to other nations that have actually collapsed was to draw parallels in peril and cure.

[BubberMiley]

Actually, the "new leadership" is the same as the old leadership.

Yes, but it will change on Tuesday.

[bush_cheney2004]

Yes, but it will change on Tuesday.

Won't matter...not even fireside chats from Obama. We are running in safe mode.

[Smallc]

The US still has a AAA credit rating. its not going to default any time soon.

[August1991]

2) I have been watching various credit measures (linked to enough time in enough other threads so you can find it yourself) so I know that the world has been in a liquidity trap although the degree and length are uncertain.

We are far from a "liquidity trap", as Keynes imagined it.

We are not even like the example of Japan in the 1990s, and it wasn't a Keynesian liquidity trap.

Incidentally, I'm of two minds here. Give monetary policy more time to work - a few months at least. In addition, I really don't like amateurs turning knobs.

3) The current Bush/Bernanke/Paulson/Greenspan doctrine of low interest rates and shoveling taxpayer money to incompetent bankers, Big 3 CEO's and other failed "private sector managers" is a disaster that continues to reward incompetence (i.e. create moral hazard) and threatens the competent managers/CEO's who were not stupid enough to allow their business models to deteriorate in the first place.

This happens often when government gets involved. It's a learning experience, like communism. Yet, the world without government would not be civilized.

4) US employment was measured differently in the 1930's. In fact, it was measured differently prior to 1994 and at various other points in time in between.

You're like punked above. I have a fair grasp of the changes in CPI, unemployment and GDP calculations over the past 40 or so years.

Who cares? If you try to convince me that unemployment in America in 2009 is like unemployment in America in 1933, everyone will just laugh. You'll sound like one of those people who claims that the Americans never landed on the moon or that the CIA organized 9/11.

======

1) The US is not properly accounting for its spending and any permanent tax cut will prove to undermine future government programs like Social Security, medicaid etc...

It's interesting that we in Canada don't properly account for future health care (including pharmaceutical costs) either.

Canadians provinces have no fund to cover future health care liabilities. Our public health (and pharmaceutical) insurance schemes are not funded at all - and in Canada, this is the bulk of the sector's future liabilities.

Here's another example of the the striking hypocrisy of most Canadians.

2) Tax cuts are not a good way to stimulate an economy during a recession - people save the tax cuts (often in "risk free" investments so its not like the money is going into the economy through productive investments to create more jobs).

So, msj. You think that it's better to tax me, and hire someone to dig a ditch instead. In your narrow world, the hired person reduces the unemployment rate and the ditch increases Canada's GDP.

In msj-World, Canada is out of a recession because unemployment is lower and GDP is higher.

In my world, I just paid for a ditch that I don't want or need.

If Harper wants to stimulate the economy, he can borrow money on international markets at 2% and cut my taxes. I'll use the money to pay down my 4% mortgage. Canada wins.

The US still has a AAA credit rating. its not going to default any time soon.

Sorry, smallc. But where does that AAA rating come from? Who decides it and how?

That's kind of the issue of this thread. Markets now exist to determine these risk or credit ratings and these markets have recently raised the probability of a US government default from 1% to 6%.

I know better than to waste my time trying to explain the details of such changes to a "headline reader" type of person such as yourself.

Why read headlines when Internet links are faster?