Will The US Have A “Debt Crisis”?

Pa3741c_thumb3 Simon Johnson in Project Syndicate:

John Boehner, Speaker of the United States House of Representatives, is leading the Republican Party’s charge on fiscal policy, arguing that his side needs to see “trillions of dollars” in spending cuts in order for Congress to approve an increase in the US government’s debt ceiling. But framing the issue this way creates a major problem for Boehner: it will directly, completely, and quickly antagonize one of the Republicans’ most important constituencies – the US corporate sector.

Focusing on the debt ceiling creates a political trap for Boehner and the Republicans. It is true that the US Treasury’s ability to borrow will reach its legally authorized limit in early August. It is also true that whenever Republicans rattle their sabers about the debt ceiling, and threaten not to raise it, the bond market yawns and there is no significant impact on yields.

If the Republicans’ threats were credible, any news that increased the likelihood of a problem with the debt ceiling would send Treasury bond prices down and yields up. This is not happening, because bond traders cannot imagine that the Republicans would be able – or even willing – to follow through.

After all, the consequences of failing to increase the debt ceiling would be catastrophic. The entire credit system in the US – and in much of the rest of the world – is based on the notion that there are “risk-free assets,” namely US government securities. There is no provision in the US Constitution to guarantee that the US will always pay its debts, but the American Republic has proven itself for 200-plus years to be about as good a credit risk as has ever existed.