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Memo To Congress - The Markets Are Getting Worried About that Debt Ceiling


The battle over the budget deficit, and the Treasury debt ceiling, have been pushed off the front page, temporarily, by coverage of Newt Gingrich's charge account at Tiffany. But our national debt capacity is still running out, and Congress is still locked up over it. Meanwhile the global markets are showing a few worries. By at least one measure, the market is saying that the U.S. is more likely to default on its debt in the next year than Indonesia or Slovenia, according to the Financial Times.

House Republicans are trying to ram through big reductions to the federal budget by standing in the way of what should be a perfunctory act of raising the federal debt ceiling. In exchange for a technicality, they want budgets cut in an equal amount. Of course federal borrowing and federal spending are related, but it's more complicated than that. The U.S. bond market is the backbone of the world financial markets, and in that way far larger than the federal budget.

Don't get me wrong -- I'm all for cutting government spending. It's too big, and destabilizing our national financial position. We need to adjust Social Security, and Medicare, and lots of other things, but we can't do it with simple-minded measures like the Republicans are proposing. One dollar here does not equal one dollar there, and the debt ceiling is an immediate issue, while reducing the budget is something that needs to be negotiated with a long view. As I wrote last month, the debt ceiling is not a slogan.

Simply put, not raising the debt ceiling would risk the U.S. defaulting on its bonds. That would cause a credit downgrade, which means many investors would have to stop buying our bonds, because it's in their charters that they have to buy only AAA bonds. That would be a massive disruption. Besides, it's in the constitution somewhere that the government will not let a default happen.

The excellent New York Times economics writer Catherine Rampell wrote about the unthinkable about a month ago, reproducing a letter from a banker to Treasury Secretary Timothy Geithner.

The writer outlines five things that might develop, and they are all terrible. Interest rates around the world would go up; another financial crisis could erupt. There could be another run on money market funds.

Until lately the market didn't seem to place much stock in the idea that the debt ceiling would not be increased in an orderly way. Recent auctions of Treasury notes have gone very well -- the world still likes U.S. bonds.

But there is one market sign that is clearly negative -- credit default swaps. They are insurance you can buy against someone going broke. A company called Markit watches them carefully, and gave me a rundown of recent trading in the cost of insuring against the default of the U.S. government over the next 12 months.


The market for these swaps is not large, so it is liable to wide swings, but nevertheless the market is saying that the U.S.'s debt is a riskier investment in the next year than that of Indonesia's or Slovenia's, says the Financial Times. Indonesia CDS were at 34 basis points Thursday, and Slovenia at 30 basis points, versus the U.S. at 50 basis points.

Thus there are real consequences to taking the Treasury market hostage. So Congress, please raise the debt ceiling, as is done every year, and then move on to the serious adult work of negotiating budget cuts in an orderly way.

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