Debt Ceiling Hysteria

Or how I learned to love the default

As usual, the media is once again exagerating everything and telling falsehoods to the public. Let’s get a few things straight, not raising the debt:

• would not force the federal government to default,
• would not stifle economic growth,
• would not burden taxpayers,
• and would not significantly hamper the politicians fantasy: “job creation”.

While refusing to raise the debt ceiling wouldn’t force the US defaults on any of its obligations, the suddenness at which the budget crunch would come would mean that its unlikely the government could organize a spending reduction of the necessary size without delaying some owed payments: interest payments on existing debt, salary payments already owed for work done this month, etc. The US has been borrowing about 30% of the money it spends each year. This includes massive interest payments amounting to 6.8% of yearly federal spending because of the $31 trillion debt which is now higher than the entire yearly GDP of the country. So, not raising the debt ceiling would mean that budget cuts amounting to 30% would need to be made. This is somewhat similar to the situation that happens during a government shutdown, but about 5 times as extreme.

Federal government shutdowns have happend three times in the past 10 years. The CBO estimated that the shutdown in December 2018 estimated about $26 billion less was spent over the 35-day shutdown, amounting to a 6.6% reduction of spending during that time (of course most was just delayed and spent when the government unshut down). So budget cuts would have to be about 4.5 times more substantial if the debt ceiling isn’t raised, and without eventually raising the debt ceiling, these couldn’t be only spending delays but actual sustained reductions.

The CBOs claims of economic loss for that government shutdown aren’t really credible tho. Its not a loss as much as it is a transfer. Instead of the government spending that money, someone else will be able to spend it. Yes there are economic frictions and losses resulting from unexpeted changes of plan, but most of this is not lost money to the economy — just lost money to the government that is then gained by another part of the economy.

The white house likes to paint a rosy picture of the federal government creating jobs and “economic gains” that wouldn’t happen without massive government spending. By contrast, any economic analysis of government operations inevitiably finds massive and systemic inefficiencies stemming from many kinds of misaligned incentives in government that simply don’t incentivize efficiency. Most any job the federal government has “created” comes at the cost of two that the private market would have created. Most any economic “growth” caused by government spending comes at the cost of twice that growth if that money were used instead by private people and businesses.

Since the 1939 Public Debts Act, Congress has delegated authority to the US Treasury to issue bonds for the purposes of allocating money to government departments, as long as the amounts don’t exceed the debt limit.

However, the debt limit has basically become a joke, and another excuse for the two major parties to be at each others’ throats. The ceiling is inevitably raised every time, sometimes in the final hour. Rather than congress acting like adults and gradually adjusting spending to be affordable with incoming tax revenue, they spend as much as possible until the last moment where stopping suddenly is the only other option. Congress caused this problem and they once again refuse to take any real steps to preventing the problem from happening yet again for the 100th time.

But let’s talk about default

The federal government surely won’t reneg on salaries or contractual payments, so the most likely default is on paying back interest on government bonds.

Has the US defaulted before? If you’ve been listening to the news, or the president, you might think it hasn’t. But it has broken obligations at least 4 times on obligations related to commodity backed bearer instruments like the gold-backed dollar. Would it be more accurate to say that the US hasn’t defaulted on interest bearing bonds before? Well not even. The US has also defaulted for several days on T-bill interest obligations in 1978. Regardless, the distinction is minor.

If the US did default, it would likely eventually pay back all its obligations, just at a later timeline than expected contractually.

The majority of Americans (56% according to one poll) want congress to stop raising the debt ceiling (granted some of them change their mind when scared straight by horror stories about default). Its completely irresponsible for our government to continue spending substantially more than it receives as tax revenue. The US currently owes almost $250,000 per taxpayer. The madness must stop. We should want the federal government to default so its harder for them to be financially irresponsible in the future. We haven’t had a surplus in 22 years. We need to weather withdrawals to get off the addiction. Yes there will be consequences, but they are consequnces caused by past fiscal mismanagement, not by failing to spend more money we don’t have.

Would it be better to not default and for congress to make spending cuts so new debt isn’t needed in the future? Sure. But will they do it? I certainly won’t hold my breath for that. I’d say its better to default and force them to deal with the realities of having to actually balance the budget vs hoping they’ll do the right thing. Of course, I also don’t think its likely they’ll fail to raise the debt ceiling. And bond holders seem to agree since they’re showing little concern about it. As CIO of Bahnsen Group David Bahnsen put it:

“No one in the market really believes some lasting catastrophe will come from the debt ceiling because it won’t. It is pure political theater. A debt ceiling deal is a certainty and every market actor knows it.”

The disgusting tradition of raising the debt ceiling every time our government reaches it faster than the last time must die. Don’t believe the scare mongering, the US defaulting on its debt for a few days won’t lead to armageddon. Worst case, the govt has 30% less to spend each month. Maybe we get a short shutdown then a higher debt ceiling. Most likely, they’ll raise it at the last minute as usual.

But what would happen if we simply didn’t raise the debt ceiling and defaulted on interest obligations? The federal government would have to delay payments of salaries and interest on bonds. It would have to make significant cuts to spending. Some businesses that expected repeat business from the feds might have hard times. But this would be no huge economy crashing catastrophy. The economy isn’t propped up by the government. In most cases, the government holds it back. The money not spent on government in the years after such a situation would be likely significantly positive for the economy. And the federal government would have to make hard choices about what spending to prioritize and what activity is not worth the money.

But congress got us here, and only congress can get us out of it.

A better solution: The Debt Taper

Like all things, cliffs are bad. They’re bad in welfare and they’re bad in debt limits. What we should have instead of a single debt limit is a debt taper. This would be a smooth reduction in how much debt can be taken out each day.

This could be implemented as a trigger debt amount (similar to the debt limit) after which debt that could be borrowed each day would be capped at a percentage of income. For example, we could say that when the debt limit of $31.4 trillion is reached, after that, only debt amounting to 20% more than incomes could be borrowed, when we reach $31.8 trillion in debt, this percentage could be reduced to 10%, and when $32.2 trillion is reached, this could be a true hard debt limit. This could be represented as a line between $31.4 trillion and $32.2 trillion where the percentage limit is smoothly reduced.

This way, hitting a limit would require modest reductions in spending, rather than a wall of spending cuts that represents a logistical nightmare. This would give the government a practical an managable way to reduce spending without massive disruptions.

This is not a complicated mechanism. The powers that be want to weild more power, which requires ever more of your money. The government machine is built to grow ever larger and give federal bureaucrats and politicians more and more power until we tell them enough is enough.

We should not be calling for them to take more of our money. We should be saying enough is enough!