The Debt Limit and Beyond

sterner queenMaybe we need a stern, bossy matron in D.C. to “kick some butt.” Barron’s pointed out Saturday that back in 1975, the Australian government shut down in 1975 over a budget impasse. Queen Elizabeth II (queen of Britain and Australia) came in and fixed the problem. She and the local governor-general fired the prime minister, passed a temporary funding bill, and held elections to replace the culpable Parliament. Australia hasn’t had another shutdown since.

Since that time, our American politicians have shut down our government 18 times. This time, the stock market seems to be treating the shutdown like the boy who cried wolf. Investors have seen this show before and the markets haven’t dropped. In fact, it appears that the current debacle in D.C. has some convinced that QE “tapering” is even further off, and therefore, it’s “a great time to buy.”

As we have pointed out in previous blogs, one of the greatest assets, if not the greatest, we have in America is the fact that Treasury debt is the only risk-free asset in the world. It’s the backbone of the world’s financial system. China and others invest their money in Treasury bills. Today, the U.S. dollar is not even close to being unseated as the world’s primary reserve and trading currency. Can you imagine how the world would be viewing our mess in Washington if the worldwide currency was not U.S. dollars? We certainly wouldn’t be borrowing 10 year money to finance our deficits at 2.70%. We might be paying twice that rate and increasing our annual deficits commensurately.

We’re all hoping that an agreement is put in place by October 17th. If not, the government loses its borrowing authority and it can only pay out the cash it has on hand. By the end of the month, that would mean the U.S. could miss a bond payment, which would create a huge mess. The banks rely on treasuries to trade with each other overnight. If you take away trust in the financial system or U.S. debt, it would be, as Joe Nocera on NPR Saturday expressed, “cataclysmic”. In Mr. Nocera’s worst-case scenario: “The banks would freeze up. There will be no borrowing. It’ll be like Lehman. The stock market will go down. It has the potential to be a real disaster.”

Certainly, we all hope and expect that our government will pull us through this short-term mess once again in the next couple of weeks. However, at some point in time, people worldwide may stop trusting the dollar. At that point, it will lose its advantage as the world’s only risk-free currency. Then, America will be on the same slippery slope as many countries around the world are today.

Yes, wouldn’t it be nice to have a stern, bossy matron to “kick some butt” in D.C.? If she isn’t coming soon, perhaps, as NYT writer Thomas Friedman and the Rootstrikers group have suggested, we should push for a third major political party. Two days ago, a Gallup poll showed 60% of Americans, disgusted with Washington, would support this option. Let’s hope it happens, sooner rather than later.