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Default Isn't an Option

Chris Hildebrand and James Kennedy contributed to this post.

Fitch Ratings released a sobering analysis of the current debt ceiling crisis Wednesday, adding a third warning call from a major rating agency to earlier warnings by S&P and Moody’s. All three rating agencies have now firmly cautioned Congress and the Administration of the serious repercussions of failing to raise the debt limit. Fitch’s report, entitled “Thinking the Unthinkable,” warned of several possible negative outcomes that might arise from a failure to raise the debt ceiling before August 2.

Even if the Treasury Department is able to prioritize and make its debt service payments after August 2 (though Treasury has publicly expressed opposition to this), the report warns that U.S. sovereign debt would be placed on Rating Watch negative (RWN) because the U.S. had failed to secure “timely and full payment” of its commitments. Under a “technical default,” the U.S. would have to forego its legal obligations to some combination of beneficiaries of social programs (e.g., Medicare, Medicaid, Social Security, TANF, etc.), federal employees, our military, Pell Grant recipients, special education programs, and many, many more.

Fitch notes that a “technical default … would be without precedent by the issuer of the global reserve currency and would pose a systemic threat to US and global financial stability.” Further, “it could prompt a flight from [the] US Treasury market by money-market funds and other highly risk-averse investors such as (the liquidity portfolios of) central banks and sovereign wealth funds.”

And if Treasury is unable to make “the USD25bn of coupon payments and USD27bn of Treasury Notes payable on August 15,” U.S. sovereign debt would be downgraded from AAA to B+ and “the US sovereign issuer rating would be placed in the ‘RD’ category until the default was cured.” Moreover, Fitch warns that even if the default was short-lived, “it is unlikely that [the U.S.’s] ‘AAA’ status would be retained in the short to medium term,” therefore increasing borrowing costs, mortgage rates, and inevitably placing a large drain on both the U.S. and global economy for a long time to come.

Neither of these scenarios can be allowed to occur. The debt ceiling must be raised before August 2.

Given political realities, with many in Congress demanding that deficit reduction be part of any deal to increase the ceiling and little progress on any sort of comprehensive plan to rein in our debt, the Bipartisan Policy Center’s Save-As-You-Go (SAVEGO) proposal provides a path forward. SAVEGO would ensure that Congress and the president address entitlement and tax reform over the coming years, and that our debt is reduced to a sustainable level.

But be sure to heed Fitch’s warning – don’t let anything stand in the way of raising the debt ceiling, or our AAA rating may be gone forever.

2011-06-09 00:00:00

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