Ambrose Evans-Pritchard: The Kabuki theater of America's debt ceiling

Section:

By Ambrose Evans-Pritchard
The Telegraph, London
Tuesday, July 26, 2011

http://blogs.telegraph.co.uk/finance/ambroseevans-pritchard/100011099/th...

Calm down. The United States will not miss a coupon payment on its $14.3 trillion debt next Wednesday.

A genuine default would be "Lehman on Steroids" in the words of Ex-Treasury secretary Larry Summers. Precisely for that reason President Obama will not pull the trigger, even if the debt ceiling talks break down in acrimony.

Obama still has a clutch of cards to play, in extremis.

As Yves Smith from Naked Capitalism argues, the White House can challenge the constitutionality of the debt ceiling in Congress.

The 14th Amendment of the Constitution states that the "validity of the public debt of the United States shall not be questioned."

Such recourse would kick it up to the Supreme Court, which would take its own sweet time. (Fortuitously a complex matter.)

... Dispatch continues below ...



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Bill Clinton advised Obama to do just that: blaze ahead, break the debt ceiling in defiance of Congress, and "force the courts to stop me."

Or the US Treasury could eliminate the Fed's entire holding of Treasury bonds at a stroke, gaining an extra two years. This would be a simple accounting transaction. Ben Bernanke might feel uncomfortable, and gold might blast to $3,000, but the Bernanke Fed has proved itself supple.

The Treasury also has the authority to issue infinite amounts of platinum coins at any denomination it chooses (ie, like fiat paper currency, far above the metallic value): a chest of $1 billion coins, say. This is seignorage on steroids, pace Professor Summers.

You get the drift: nothing will in fact change when the deadline expires on August 2. The US is the world's paramount strategic and economic power, with debts in its own sovereign currency. It can do as it pleases.

Yes, the US may be stripped of its AAA by Standard & Poor's. A nice one-day story, but otherwise irrelevant. Global bond vigilantes are quite able to make their own judgement on the substantive default risk of the US. The rating agencies are out of their league on this one.

(By the way, the serial downgrades of Japan did not stop the yield on 10-year Japanese bonds falling to 0.5 percent at one stage. What matters is whether investors really believe that they will be stiffed. In Japan they did not, and still do not.)

Clearly, the bond markets do not yet take the threat of US default seriously, though currency markets are less sanguine. I know this puzzles many in Europe, and angers some, but the cold reality is that yield are still just 0.4 percent on two-year US debt, and 3.02 percent on 10-year bonds.

Those of us who have lived through many such soap operas on Capitol Hill (I covered the Clinton-Gingrich debt standoff in 1995 during my Washington years, as well as a few under the elder Bush and even Ronald Reagan) watch this brinkmanship with a jaundiced eye.

Perhaps for that reason we may be caught off guard. (Just as veteran gold analysts were the last to understand that gold was in a bull market early. We stick lazily to our outdated paradigms.)

This time the drama certainly has a more threatening feel, and it comes at moment when sovereign states themselves have lost their sanctity.

I did not like the tone of President Obama's speech. Rather than trying to find a way out of the impasse, he seemed to be preparing the ground to blame Republicans for default. That creates a very nasty mood.

An epic battle is undoubtedly under way over the future shape of America: whether it should return to the frontier spirit and low taxation of the early Republic or ratchet ever upwards toward cradle-to-grave welfare and Euro-paternalism. And, of course, whether it really does drift toward bankruptcy down the road.

My sympathies are with those want to shrink the federal state, though I am not quite willing to join the chorus of abuse against President Obama. He has pledged to cut Social Security and the big entitlements of Medicare and Medicaid, and at one stage did commit himself to a $4 trillion fiscal squeeze over 10 years, much to the fury of arch-Keynesians such as Paul Krugman.

It is not clear to me that John Boehner's Republicans are more fiscally rigorous or genuinely willing to cull the sacred cows of entitlement.

The great health care cartel is in my view the villain here. It is the root cause of US ruin, and is itself responsible for the epidemic of diabetes, Alzheimer's, and several other mass ailments afflicting America. It has systematically failed to keep up with the scientific literature and refuses to abandon grievous policies when shown to be wrong. Americans need to confront this huge vested interest (nearly a fifth of GDP) before it destroys the country. But that is a rant for another day.

S&P cited Winston Churchill in its downgrade warning that "you can always count on Americans to do the right thing after they've tried everything else."

Or to quote the other Clinton as she tried to reassure Asians holding of $3 trillion of US bonds: "The political wrangling in Washington is intense right now. But these kinds of debates have been a constant in our political life throughout the history of our republic."

"Sometimes they are messy, but this is how an open and democratic society ultimately comes together to reach the right solution."

Exactly.

If I am wrong, we will all need to take shelter in nuclear bunkers next Wednesday.

* * *

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