Thursday, July 28, 2011

Getting serious

For weeks the word was that Wall Street was not panicking about Washington's inability to raise the debt ceiling because it was understood that, in the end, some kind of deal would be reached. After all, the thinking went, the leadership of both parties knows how potentially serious and far-reaching the consequences would be of default. In the past few days, however, markets around the world have started to drop and there is now a real feeling that "these guys could screw this thing up." We are, indeed, in interesting times.

One article that most still cling to is that the US will not default -- in other words, miss payments on the debt to creditors. Because of what would certainly be the cataclysmic results of the world's safest asset suddenly unable to pay its obligations, the widely held view is that even if no agreement is reached the Treasury would first pay the $90 billion due to bondholders. After that, the government would need to prioritize, as incoming tax dollars only cover 40% of outlays. More than half of government would not be funded: Social Security or homeland security or troop salaries or Medicare, etc. Some essential programs would be on hold.

This assumes that, absent a Congressional vote, President Obama doesn't invoke the 14th Amendment to the Constitution, which some Democrats are publicly pushing him to do. Obama, a Constitutional law professor, has said that his Administration's lawyers have reviewed the 14th Amendment -- part of which reads, "The validity of the public debt of the United States ... shall not be questioned." -- and concluded that it is not "a winning argument." Using such a tactic spuriously, some say, could lead to impeachment.

What has many analysts concerned is that even if an agreement is reached and the debt ceiling is raised this entire dramatic and drawn-out episode has already done its damage. Though the mounting total of US government debt -- currently $14.3 trillion -- has always been in plain sight, investing in that debt through US Treasury bonds was still considered the safest bet in the financial world. Now, the spotlight is on and some may start to second guess the wisdom of such an investment, for even if obligations are met this time the idea that there could come a time when this is not so is beginning to creep into worldwide financial markets. And the idea that the Tea Party segment of the political spectrum is actually playing chicken with America's financial affairs and that this most unstable and irresponsible movement may grow in power and is even looking to take the White House -- well, such a possibility could, right now, cause investors to panic and ratings agencies to lower the AAA rating of American debt.

Coupled with the current flat recovery from the Great Recession, it seems that we are forging new economic ground. The Tea Party and its lackeys in Congress think they know what they're doing, but we have seen how their conception of reality is not fact-based. We can only hope that saner heads step in and quickly fix this mess.

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