USA: Could a Debt Deal Lead to a Credit Crisis?

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Opinião do Blog:

The answer is: YES, OF COURSE! USA is not Triple-A anymore...

Ricardo Bampa - Qua, 27 de jul de 2011 | 21:47:59
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The Curious Capitalist

Time Mobile
(http://curiouscapitalist.blogs.time.com/2011/07/27/could-a-debt-deal-lead-to-a-credit-crisis/)

Posted by Roya Wolverson
July 27, 2011 at 5:00 am

The biggest fear in Washington right now is that a standoff over the debt ceiling might lead to a swift U.S. default. But a growing chorus of economists and investors say they're less worried about what happens on August 2 than what comes after. After all, politicians are bound to reach a compromise on the debt ceiling at some point, even if the deal comes late. And, as Zachary Karabell notes, the Treasury can probably continue paying the country's bills and stave off default for some time after its August 2 deadline. The real question -- which will be around long after the debt ceiling debacle is over -- is whether this country is still credit-worthy, and how long it will stay that way.

Bond fund manager PIMCO's Mohamed El-Erian, for instance, has his doubts about the country's long-term credit-worthiness, care of the New York Times:

What I think is underappreciated until now is a possible outcome whereby the debt ceiling is increased, debt default is avoided, but one of the rating agencies feels compelled to downgrade America's AAA because of insufficient agreement on medium-term fiscal reform.

Indeed, I've argued that the likelihood of a massive sell-off of U.S. Treasuries in the near-term is slim to none, given the fact that China, Japan, and our very own Federal Reserve own the bulk of U.S. debt. And none of those stakeholders are keen to sell, since doing so now would hurt each of their economies.

But looking further down the road, there is the possibility that the path to debt reduction we're on simply isn't going to work. That's something credit raters, the loudest voices on U.S. solvency, are still waiting to decide. There are many hitches that could trip us up along the way, prompting credit rating downgrades and borrowing cost hikes in the years ahead.

And it's worth remembering that there's more than one path the country could take to reduce its debt burden, even though everyone is fixated on the most obvious one (cutting deficits and praying for growth). Here are four possible routes:

1. We pay off debts through savings, which we accumulate through spending cuts and economic growth.

2. We inflate our way out of debt by letting the value of the dollar slowly decline.

3. We default on our debt obligations and pay higher prices on future borrowing.

4. We work out a deal with lenders to repay only part our debt over a longer period, and ask for forgiveness on the rest.

Option #1 is the route we're trying to take. But a credit crisis could arise if, in a zealous drive for austerity, the cuts we make are too deep to sustain the level of growth needed to keep our recovery (and debt payments) on track. Such has been the case in Greece, Ireland, Portugal, and even the UK, where big cuts in government spending have put a gash in those countries' economic recoveries. Cuts in the UK have been less a result of an imminent crisis than because Britain wants to hold onto its top-notch credit rating. The UK's GDP grew a measly 0.2% in the second quarter after credit rater S&P threatened to downgrade its credit rating.  

And the U.S. could be on a similar track (S&P has already issued a similar warning). As Richard Barley notes in the Wall Street Journal, "Triple-A ratings don't come for free." He notes:

Ideally, public-sector largesse would cushion that debt-reduction process. But the scale of the problem and the demands of maintaining a triple-A rating mean that public-sector austerity cannot be avoided: Either investors enforce austerity through a bond-market crisis, or governments choose it. The U.K. chose it. The U.S. is trying to make its choice now.

Credit downgrades also loom if, as the government changes hands in the years to come, the debt-busting plans rating agencies were counting on get thrown out the window. Just look at the reactions credit raters have had to the political fights over austerity measures rocking countries like Italy, Spain, and Greece. A further slowdown in global growth (in China, the EU, or other emerging markets) could also set raters off, making our growth potential (and debt situation) seem even worse.

So if we did lose our vaunted AAA credit rating, what happens then? It's possible we'd have to scrap option #1, since credit downgrades might eventually convince countries like China and Japan to demand higher interest rates to hold our debt, which would slow U.S. growth and push up deficits. Many more rounds of quantitative easing could lead us down the road of option #2, which would allow us to keep paying the bills while inflation drove down the value of our debt. Or we could go with option #3 and choose to default, which would end our 30-year streak of cheap borrowing (for reference, see Argentina in the early 2000s). The last option would look something like Greece's latest deal, in which the banks holding our debt agreed to take on some of the losses, while our borrowing costs continued to rise.

Routes 2, 3, and 4 would clearly be the more painful, unleashing the sharpest rises in costs for the government, companies, and average Americans. That's why everyone wants to stick with option #1. But whether credit raters will play along may hang over the U.S. for years to come.

Roya Wolverson writes for TIME. Find her on Twitter at @royaclare. You can also continue the discussion on TIME's Facebook page and on Twitter at @TIME.

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