Predicting the US defaulting on it’s debt…

Ok, not tomorrow but only “after” 2019. But still..
First the article, below our commments.

Economist Warns: Coming U.S. Bond Default
Friday, November 6, 2009 8:59 AM
By: Gene J. Koprowski 

The U.S. may have to default on its debt payments after 2019, writes economist Robert Samuelson.

If the deficit spending continues on the current path it will consume 82 percent of gross domestic product within a decade. There will be no wiggle room for tax cuts, and spending cuts may be politically unpalatable, he surmises.

“The Congressional Budget Office reckons the Obama administration’s planned budgets would increase the debt-to-GDP ratio from 41 percent in 2008 to 82 percent in 2019. Higher interest rates would aggravate the debt burden,” writes Samuelson in The Washington Post.

Anticipating higher interest rates, the CBO estimates annual interest payments on the federal debt at $799 billion in 2019, up from $170 billion today.

“Even the size of exposed debt is unclear; adding Fannie Mae’s and Freddie Mac’s debts — effectively guaranteed by the government — to Treasury debt would raise the total sharply,” writes Samuelson.

However, constraining future debt by spending cuts or tax increases will involve “wrenching and unpopular measures” and may backfire.

“Some advanced country might decide that a partial or complete default, though dire, would be less damaging economically and politically than the alternatives,” writes Samuelson.

“Deprived of international or domestic credit, defaulting countries in the past have suffered deep economic downturns, hyperinflation, or both.”

The odds may be against the U.S trying that, but even the “remote possibility” of that demonstrates the difficulty of the economic situation.

“The arguments over whether we need more stimulus — and debt — obscure the larger reality that past debt increasingly constricts governments’ economic maneuvering room,” writes Samuelson.

Debt default is a reality for many in the corporate bond market now.

The Wall Street Journal is reporting that 11 issuers defaulted on bonds last month, and the default rate is now at 11.33 percent.

——–[End of article]——–

Let’s see, it’s hard to choose where to start.

1. Economic forecast have a bad rap, and deservedly so. No economic model forecasted the biggest economic crisis since the depression of the 1930s and few economist did. Most economic predictions a decade out are, well, hardly worth the paper they’re written on.
2. Most of the increase in public spending is related to the stimulus and bank bail-outs and will fade pretty soon (in fact, too soon, according to many, risking the economy will fall back into recession).
3. US debt to GDP ratio stands at some 60%. That’s high, but certainly not shockingly high. Japan, the world’s second largest economy, has a debt to GDP ratio approaching 200%. After the second world war, the US ratio was 125% (and that of the UK some 300%!).
4. How was this managed. Fairly simple, actually (although the jury is still out on Japan). Economic growth and mild inflation both increase the GDP number, by at least 5% a year in those post-war years. Over a couple of decades, that is a powerful force.
5. Scaring people with these kind of predictions might actually help bringing them about, as it could scare potential buyers of Government bonds, thereby driving up interest rates, increasing financing cost of the debt.
6. The financial markets do not seem to be worried about this yet, witness the record low interest rates, even for bonds with long maturities.
7. We’re not saying a higher debt ratio is better, far from it. In itself, it’s bad, for obvious reasons (the related interest expenditures could crowd out other public expenditures). However, faced with two bad alternatives (the threat of the economy spiralling downwards into a debt-deflationary spiral, where a retrenching private sector spends and saves less, weakening the economy further, which reduces asset prices further leading to further forced asset sales further reducing prices, etc. etc.), it’s by far the lesser evil. You have to realize the public debt to GDP ratio is a ratio, it is affected by both the public debt ànd GDP. If the latter sinks, the ratio increases even without the debt increasing.
8. It has to be stressed that with the private sector retrenching (that is, repairing their balance sheets), demand for goods and services has to come from somewhere. The only alternative to public spending are exports, but since the world economy is in a rot, the latter cannot be relied upon to drag us out of recession. That only leaves public expenditures.
9. And there are two further arguments for increasing public expenditures now. The public sector can borrow at much lower cost compared to the private sector, giving us more bang (spending) for the buck (per borrowed dollar). Also, arguably, public investment in infrastructure, health care, education, science and technology, etc., have been rather neglected the last decades and these investments (especially those in education) increase the economic structure, enabling it to grow at a faster pace. To what extent depends on the actual composition of these public stimulus programs (and here criticism is possible, as this is invariably the outcome of political bargaining and sub-optimal from an economic point of view).
10. We sometimes wonder, where where those debt and deficit hawks when the previous US administration squandered the best fiscal position in generations, basically on war that (arguably) accomplished little and tax cuts that were so sqewed to the rich that they led to little extra spending, and even less benefits for the economy at large?