The U.S. government has stumbled into the second week of a partial shutdown, but it’s the looming debt ceiling that is dominating the fiscal conversation in the country. Treasury Secretary Jack Lew has made clear that the extraordinary financing measures currently being employed to pay the nation’s bills will run dry come October 17.
After this, the U.S. government will only be able to spend as much much as it brings in. There’s really just one question that is setting the tone of the conversation surrounding the debt ceiling: what is the possibility of a default?
The answer is somewhat nebulous, but there’s really only one workable solution. Economists and market participants are operating under the assumption that despite the vehement partisan bickering, the actual chance of a default is slim to none. The economic damage that would follow a default would be so catastrophic that Congress will act, no matter what, to prevent it.
But there are shades of gray here, and it’s absolutely worth pointing out that the U.S. will not necessarily default on its debt obligations (which is the nightmare scenario) if the debt ceiling is not raised. The government must borrow money to fund approximately one-third of its obligations, meaning that it can fund two-thirds of its obligations with tax revenue. Even if the government’s borrowing authority is not expanded, it can continue to meet its debt obligations and avoid actually defaulting.
So the risk of default is low because either way, the government is highly likely to make good on its debt payments. No matter what happens, the government will have the ability to pay. A default would only occur if policymakers somehow lose the willingness to pay.
Moody’s echoed this view in its latest credit outlook, reaffirming what has generally been a placid market reaction to the fiscal impasse. Moody’s wrote that, “We believe the government would continue to pay interest and principal on its debt even in the event that the debt limit is not raised, leaving its creditworthiness intact. The debt limit restricts government expenditures to the amount of its incoming revenues; it does not prohibit the government from servicing its debt. There is no direct connection between the debt limit (actually the exhaustion of the Treasury’s extraordinary measures to raise funds) and a default.”
But brinksmanship — the art of eleventh-hour deal making — is a game in which the party that pushes Uncle Sam closest to the edge of a cliff without actually sending him toppling over wins, and it is absolutely self-destructive. Even though economists, business leaders, and market participants are operating under the assumption that the U.S. won’t, in fact, default on its financial obligations, the likelihood of such an event appears to be increasing every day as the government is pushed closer and closer to the cliff.
This risk, even if it is just perceived, manifests as uncertainty and has a negative impact on markets all around the world. Foreign leaders, many of whom hold massive amounts of U.S. sovereign debt, have called on the nation to get its act together and put its fiscal house in order.
Don’t Miss: Is the Senate Cooking Up a Way to Dodge Default?