Flirting with Default: Issues Raised by Debt Confrontations in the United States

Expert Views from the Peterson Institute for International Economics

Revised, February 12, 2014

The past several years in Washington have been marked by an unfortunate cycle of lurching from crisis to crisis, the most dangerous of which has been the repeated practice of risking default on our nation’s obligations. While policymakers agreed to appropriations for 2014 and took steps to prevent another government shutdown, fiscal uncertainty has already damaged our economy, and a new risk looms in coming weeks.

Lawmakers face yet another fiscal deadline on February 8th, when the debt limit is reinstated (it was suspended in October 2013). With no additional room to borrow, the Treasury warns that it will be unable to meet all of its financial obligations by late February. The Bipartisan Policy Center independently estimates that Treasury will run short of resources as soon as February 28 and no later than March 25.

Crisis-driven policy is not only frustrating for the American people, it also has significant consequences for the economy. A new collection of papers, prepared by the Peterson Institute for International Economics, explores the consequences of sustained U.S. fiscal uncertainty on the national and global economy.

Major findings include:

• Borrowing costs rise, investments fall. "U.S. Treasury securities, universally regarded as a completely safe asset, have enabled the U.S. government to borrow on favorable terms in global financial markets... But repeated actions that threaten the possibility of default are challenging that underlying presumption, with negative consequences on markets, including higher private borrowing rates and reduced incentives for private investment."—David Stockton
• Avoidable crises threaten fragile recovery. “Unquestionably this entirely self-inflicted wound is speeding up America’s decline as well as undermining economic recovery."—Adam Posen
• Trade goals imperiled, position weakened. “At the IMF-World Bank and G-7 meetings in October 2013, the first agenda item was criticism of the United States (deservedly). Nothing else got tackled. The Obama administration’s ambitious trade opening agenda of concluding Trans-Pacific and Trans-Atlantic partnerships is stalled because of negotiating partners (rightly) doubting the ability of the US government to win congressional approval."—Adam Posen
• U.S. Treasuries, dollar eroded. "Fiscal games erode, little by little, the credibility — and thus the intrinsic value — of U.S. Treasuries and the U.S. dollar... These recurrent self-inflicted fiscal crises will only further erode the attractiveness of the dollar as a reserve currency."—Angel Ubide
• International implications. "The dollar’s preeminent role in the world economy guarantees that the damage of a U.S. default, or even the serious threat of a default, would reverberate far beyond U.S. borders."—Joseph E. Gagnon and Kent Troutman
• Increased cost to homeowners. "Private borrowing spreads have been lifted nearly 40 basis points by heightened fiscal uncertainty since 2010. If that increase was fully reflected in higher mortgage interest rates, it would translate into roughly a $450 higher annual mortgage payment on the median existing home in the United States."—David Stockton

The report’s introduction concludes: "People and their elected representatives can legitimately disagree with each other about the speed and seriousness needed to tackle U.S. public debt problems. They certainly can disagree about the way that such problems would be dealt with, whether through tax increases or spending cuts, of any given combination. There is no room for disagreement, however, that a budget process that threatens recurrent deadlock and even possible default on U.S. government debt is seriously harmful to American well-being and international standing. (...)"

Read the whole report here.

This report was funded by a grant from the Peter G. Peterson Foundation. The statements made and views expressed are solely those of the individual authors.