econscius

Long-Term Downgrade for a Short-Term “Problem”?

In Debt Ceiling, Economy, Federal Deficit, Standard & Poor's USA Downgrade on August 9, 2011 at 11:56 pm

Eugene Robinson happens to be one of my favorite liberal columnists because he writes with flair and tends to be ideologically consistent.  Whereas many writers are predictably partisan hacks, Mr. Robinson is willing to take on President Obama and the Democrat Party when he believes they are wrong. 

I take exception, however, with two points in today’s column. [1]   

Mr. Robinson says the downgrade has Republican “footprints” because he thinks S&P is afraid the GOP will force a default.  He says, “This isn’t the rationale that S&P gave, but it’s the only one that makes sense”.  Many on the Left are trying to blame the downgrade not on the party in power but on Republicans (see: https://econscius.wordpress.com/2011/08/07/jay-carneys-4-trillion-lie/).  Never mind S&P’s own words about the growing debt or their repeated warnings in recent years, warnings issued before there even was a Tea Party (see https://econscius.wordpress.com/2011/07/28/us-aaa-credit-rating-downgrade-was-expected/).

If Mr. Robinson believes S&P based – or should have based – its decision not on the growing US debt but on a near-term Republican “threat” to default, then why downgrade the long-term debt to “AA+” and keep the short-term debt at “AAA”?  Isn’t it the shorter term debt supposedly at risk of Eric Cantor?  Why worry about the 30 year T-bond and not the one year T-bill?  Mr. Robinson quotes S&P, “A new political consensus might (or might not) emerge after the 2012 elections.”  True; so why worry more about who will be in Congress 20 or 30 years from now?  

We do not know how fast the deficit will grow; we might bump up against the Debt Ceiling faster than expected, possibly before the 2012 elections if the economy dips into another recession.  Many financial commentators are predicting a new recession. [2] [3]   S&P specifically says, “we believe [the Debt Ceiling] act provides sufficient clarity to allow us to evaluate the likely course of US fiscal policy for the next few years.” [4]   The short-term “AAA” rating was affirmed even with John Boehner on the loose in the Capitol?  Wow.

Secondly, Mr. Robinson disputes the merit of any downgrade, saying:

“There is no plausible scenario under which the United States would be unable to service its debt. If political gridlock were to persist, our government would be able to pay bondholders with a combination of tax revenues and funds raised by selling more Treasury bills. And in the final analysis, as Alan Greenspan noted Sunday on “Meet the Press,” the United States “can pay any debt it has because we can always print money to do that.” [1]

Yes, it is true the US can pay bonds out of current tax receipts or just “print money”. [5]  But there is a massive risk to printing money.  Firing up the government printing press debases the currency a la Weimar Germany.  

Running the printing press would be a short-term solution.  US government debt is a series of hundreds of outstanding debt issues.  Approximately every week, a series of Treasury debt matures and needs to be replaced with a new issue.  Treasury bills mature in less than one year. [6]  As of 7/31/11, the public held $1.5 Trillion of T-bills. [7]  All mature in the next 12 months and needs to be rolled over into new Treasury debts.  Other, older series of Treasury notes and long-term Treasury bonds mature regularly throughout each year, too.  For example, 30 year Treasury bonds issued in fall 1981 mature in coming months. 

If the US government decided to inflate away debt obligations by printing money, the US Dollar would decline in value.   That would lose investor confidence.  This would precipitate a crisis:  investors would soon enough refuse to buy new issues of Treasury debt at anything like current low rates, if at all.  Imagine yourself as China, lending to the US in the expectation of receiving US Dollars for your debt upon maturity.  If your interest and principal started being paid with rapidly depreciating Dollars created out of thin air, would you want to keep lending?  You’d demand higher interest rates, if you lent at all.  Alternatively, you might be willing to lend, but only in bonds denominated in Chinese Yuan.  You know the US government cannot inflate the Yuan, because the US printing press cannot print Yuan.  Amusing as it would be, I cannot picture Timothy Geithner changing out the US Mint’s printing blocks with Chinese characters.

Running the printing press is not a feasible bond payment option. 

[1] http://www.realclearpolitics.com/articles/2011/08/09/a_downgrades_gop_fingerprints_110861.html

[2] http://www.marketwatch.com/story/get-ready-for-great-recession-20-2011-08-08?link=home_carousel

[3] http://www.marketwatch.com/story/how-to-brace-your-portfolio-for-another-recession-2011-08-05?link=kiosk

[4] http://www.standardandpoors.com/servlet/BlobServer?blobheadername3=MDT-Type&blobcol=urldata&blobtable=MungoBlobs&blobheadervalue2=inline%3B+filename%3DUS_Downgraded_AA%2B.pdf&blobheadername2=Content-Disposition&blobheadervalue1=application%2Fpdf&blobkey=id&blobheadername1=content-type&blobwhere=1243942957443&blobheadervalue3=UTF-8

[5] Note that Mr. Robinson is actually stating one reason a “default” was unlikely no matter what happened in the recent Debt Ceiling controversy:  the government could have paid bond interest first out of tax revenues.  

[6] T-bills mature in less than one year.  Notes mature in 1-10 years and T-bonds mature in more than 10 years.

[7] http://www.treasurydirect.gov/govt/reports/pd/mspd/2011/opds072011.pdf

Picture from Wikipedia commons.

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