Risk of default
January 13, 2013 2 Comments
A common fallback position I’m seeing when I point out that not-raising-the-debt-ceiling is not, and does not mean, ‘default’ is to mumble something like: well, it ‘increases the risk of’ default.
This is an interesting statement. On the one hand, the ‘risk of default’ is precisely 0.0 as long as we have confidence that nobody in government will decide to default. After all, there is nothing numerically that would force us to default. Everyone agrees that we can cover our debt-service easily. So it would have to be a decision.
So, which member(s) of the Executive Branch do all these people fear would decide to default with some nonzero probability if the debt-ceiling isn’t raised (and no Clever Solutions are found)? President Obama? Outgoing Secretary Geithner? Incoming Secretary Lew? The list of people who could make such a decision is not very huge and does not extend far beyond those three. I wish they’d tell us who they think will make that decision, because if their real point is ‘I’m afraid if we don’t mint The Coin, then President Obama will decide to default’, that actually might be a fair claim – but would color the debate in a much different way, n’est-ce pas?
Most of the people fretting about this ‘risk of default’ are quite familiar with this sort of reasoning when it comes to – say – Social Security. ‘Social Security isn’t going bankrupt’, they will say. ‘It is an obligation of the United States, and so, as long as the United States continues to make its obligations, Social Security will be fine. If you don’t think it will be fine, you must be saying that some future government will decide to renege.’
Okay, why don’t they apply that same logic to this situation?
But of course there’s another actuarial / accounting / assets-vs.-liabilities way of speaking of one’s ‘risk of default’, and if that’s the way the default-fretters want to use the term, fine by me. The problem there though is that there’s no special reason to worry about the debt-ceiling in particular as ‘increasing our risk of default’. In fact, it’s a minor contributing factor to that sort of risk.
You know what really increases our ‘risk of default’? Spending. On anything. Every penny spent on something is one penny less of a cushion against possible default. If you build a Merton-style, asset-pricing model of The Probability That The US Defaults, your model’s hazard rate h(t) and resulting cumulative-probability-of-default-by-time-t p(t) will be higher, all else equal, the more that the US spends on stuff in your model scenarios. So when Congress passed all those spending/appropriations bills stating an intent to spend $3.6 trillion or whatever it is, that act itself ‘increased our risk of default’ a lot! Where were Joe Weisenthal, Matthew Yglesias, Josh Barro, Ezra Klein etc. then to fret about how much Congress ‘increased our default risk’ by passing all that discretionary spending?
And you know what else ‘increases our risk of default’? Borrowing. After all, the more debt we take on, the more our interest costs, and the less our ability to plausibly take on new debt. There is a reason you’ll have a harder time getting a loan if you have a bunch of other outstanding loans. Someone with a bunch of debt might be able to get new debt, but at a higher interest rate. The higher interest rate is a cost that inhibits their ability to cushion against default. Etc. From this point of view, increasing the debt-ceiling and taking on more debt would, all else equal, have to be said to increase our ‘default risk’. Yes that’s what all the let’s-raise-the-debt-ceiling-because-I’m-afraid-we’ll-default-if-we-don’t people, paradoxically, want us to do.
It sure would be nice if the commentator class tasked with enlightening us on all these matters, and which puts ideas like The Coin into public debate, knew what they were talking about a bit more. Just a bit.