Tea Party Republican Paul Ryan doesn’t want to pay bondholders. Tea Party Conservative Paul Ryan doesn’t want to pay our bills. Ironically, the party of fiscal righteousness believes dissing bond holders is the right thing to do. The popular Chairman of the House Budget Committee said on that it would be okay if the US ceased paying holders of Treasury bonds for three or more days because it would give the country a few days to catch a breather and pay those debts later on.
Really? Argentina defaulted on its $132 billion interest payments to foreign bond investors in 2002 and while it is starting to get back on track now, it took nearly eight years to do so and the legacy of Buenos Aires being the reliable Paris of the South has been destroyed forever.
If US politicians continue talking default and behaving irresponsibly on the fiscal side, the likely outcome is that faith in the dollar will erode, says Eliot Kalter, Senior Fellow at the Center for Emerging Market Enterprises at the Fletcher School of Tufts University in Boston.
A default, even for a day, would cut the US credit risk rating from its coveted AAA status, forcing bond prices lower and yields higher. Investment grade corporate bonds would also be affected as the cost of insuring those bonds rises with the risk and real possibility of future defaults. To bring investors back to the US market, corporations would have to entice them with higher interest rates. The US Treasury might even have to do the same. Higher interest rates at a time of slow growth would hamper the US economy, already running a sack race rather than anything remotely resembling a healthy sprint.
“China and others will further diversify away from the dollar through their central bank and sovereign wealth fund holdings, and that will hurt demand for US bonds and push interest rates higher, contributing to fiscal deterioration,” says Kalter. “While many Latin countries are now enjoying virtuous debt dynamics, the US is facing a debt dynamic where debt service absorbs an increasing proportion of fiscal revenue. The US has never been closer to losing the advantages of reserve currency status,” he says.
Kalter retired from the International Monetary Fund in June 2007 as Assistant Director of the Monetary and Capital Markets Department. His career at the IMF started in 1979.
So is the US the next Argentina? A look at the numbers shows that when it comes to the Americas — from North to South — it’s in the worst fiscal position and is the only one facing the risk of a credit downgrade. While talk of default is mostly political tactics, the government fiscal position is indeed precarious. What’s helping now is a combination of low interest rates and the fact that the US dollar is the world trade and reserve currency, creating a constant demand for dollars and US Treasurys.