I want my two dollars!
March 25, 2009 6:20 PM Subscribe
What would happen if the United States defaulted on all of its debt, or simply said 'Screw off, I ain't payin!'. I know nothing about global finance, economics and power, but would like to understand what would happen if the U.S. could or would not repay its debt. If I default on a loan, someone is going to kick me out of my house. If the U.S. defaults on its loan, who would do the taking away, and what exactly would they take?
If I am the biggest, meanest kid on the block, and everyone relies on me for candy, why do I have to pay you back? Can't I just kick you in the balls and keep your money?? I know this sounds stupid and simple, but what would stop the U.S. from saying to China, "F*ck you, I ain't payin, and by the way, I ain't buying anything from you anymore.". Who needs who more? How is power held it check when the sh*t really hits the fan?
If I am the biggest, meanest kid on the block, and everyone relies on me for candy, why do I have to pay you back? Can't I just kick you in the balls and keep your money?? I know this sounds stupid and simple, but what would stop the U.S. from saying to China, "F*ck you, I ain't payin, and by the way, I ain't buying anything from you anymore.". Who needs who more? How is power held it check when the sh*t really hits the fan?
Among other consequences, nobody would buy government bonds anymore, so it would be very very difficult for the U.S. to incur debt in the future. Historically, the ability to enforce government debt is associated with much stronger economies as well as stronger revenue streams for the state. See North, Douglass and Barry Weingast (1989), “Constitutions and Commitment: The Evolution of Institutions Governing Public Choice in Seventeenth-Century Britain,” Journal of Economic History, 49(4), pp. 803-832.
posted by paultopia at 6:29 PM on March 25, 2009
posted by paultopia at 6:29 PM on March 25, 2009
We're Borrowing Like Mad. Can the U.S. Pay It Back?
The above Washington Post article covers much of what you're asking.
posted by tiamat at 6:31 PM on March 25, 2009
The above Washington Post article covers much of what you're asking.
posted by tiamat at 6:31 PM on March 25, 2009
When a government defaults on its debts, no one threatens to go to war against them. They just stop lending them money in the future or at least charge much higher interest rates because of the fear that it'll happen again. Read about Argentina. Foreign investors also pull out their money from the country because they don't trust the stability of the system. Together this causes serious economic problems for the defaulter for a long time into the future.
posted by Durin's Bane at 6:31 PM on March 25, 2009
posted by Durin's Bane at 6:31 PM on March 25, 2009
and by the way, I ain't buying anything from you anymore."
How is the government going to enforce that? Prohibiting the importation of goods from China? How long is that government going to weather the storm of Wal-Mart lovin' bargain hunters watching prices substantially increase from alternative suppliers - or, in many cases, simply become unavailable (go on, find consumer electronics products that have nothing sourced from China, I dare you)?
posted by rodgerd at 6:44 PM on March 25, 2009
How is the government going to enforce that? Prohibiting the importation of goods from China? How long is that government going to weather the storm of Wal-Mart lovin' bargain hunters watching prices substantially increase from alternative suppliers - or, in many cases, simply become unavailable (go on, find consumer electronics products that have nothing sourced from China, I dare you)?
posted by rodgerd at 6:44 PM on March 25, 2009
I had an old professor in 2004 who predicted a global financial meltdown. He was wrong about the causes (probably had never heard of collateralized debt obligations) but he reasoning speaks well to your question. He told me "when you borrow $1000 from the bank, the bank owns you, but when you borrow $1,000,000,000 from the bank, you own the bank."
So what really happens when the US "borrows money" is that we sell them pieces of our debt in the form of Treasury Bills, or T-bills). China and Japan collectively own over a trillion dollars worth of 'em, OPEC alone holds about 200 billion worth. These T-bills have value because of demand. Demand is determined partially by interest rates, which can be raised in order to attract investors, and also by faith in the bonds' security (not a lot of demand for Zimbabwean T-bills). My professor thought that we'd have to keep raising interest rates on the bills to keep foreign countries buying and that we'd eventually sink our own economy in the process, as t-bills also partially determine bank lending rates. But I digress.
If the US suddenly said that we weren't going to be paying out when China or Japan came in to cash their T-bills, you're right in assuming that there'd be a global shit storm, and it's very likely that our country would come out all the worse for the wear. Even if we never had to pay back a cent, demand for T-bills would plummet and the US would lose all those lines of credit it depended so heavily upon.
But here's where the "you own the bank" part comes in: it's already generally accepted that we couldn't pay everything back all at once if we tried. China and Japan know this, but they accept that the US economy (despite its current straits) will remain stable over the next years that they will eventually get their money back with interest. Or at least they did, until last week when China and Russia said that they wanted a global currency. What killjoys.
posted by The White Hat at 6:45 PM on March 25, 2009 [1 favorite]
So what really happens when the US "borrows money" is that we sell them pieces of our debt in the form of Treasury Bills, or T-bills). China and Japan collectively own over a trillion dollars worth of 'em, OPEC alone holds about 200 billion worth. These T-bills have value because of demand. Demand is determined partially by interest rates, which can be raised in order to attract investors, and also by faith in the bonds' security (not a lot of demand for Zimbabwean T-bills). My professor thought that we'd have to keep raising interest rates on the bills to keep foreign countries buying and that we'd eventually sink our own economy in the process, as t-bills also partially determine bank lending rates. But I digress.
If the US suddenly said that we weren't going to be paying out when China or Japan came in to cash their T-bills, you're right in assuming that there'd be a global shit storm, and it's very likely that our country would come out all the worse for the wear. Even if we never had to pay back a cent, demand for T-bills would plummet and the US would lose all those lines of credit it depended so heavily upon.
But here's where the "you own the bank" part comes in: it's already generally accepted that we couldn't pay everything back all at once if we tried. China and Japan know this, but they accept that the US economy (despite its current straits) will remain stable over the next years that they will eventually get their money back with interest. Or at least they did, until last week when China and Russia said that they wanted a global currency. What killjoys.
posted by The White Hat at 6:45 PM on March 25, 2009 [1 favorite]
Best answer: That Washington Post article from tiamat explains pretty well the "soft" default options that the US would likely actually pursue to avoid the following, but my understanding of the nuclear option and its consequences goes something like this.
The US Federal Government defaults on Treasury Bills, thought to be essentially the safest investment in the world. Stops paying interest and refuses to redeem the coupon for face value, instead imposing a "hair cut" of some percent on the bond holder. Now you have to understand that a lot of central banks around the world hold T-bills simply because they are safe assets, and not because they have any desire to spend the money with US companies. Once this motivation for holding T-bills evaporated, they would be sold off immediately. At a discount corresponding to the haircut at first, but then even steeper because everyone wants to sell at once.
As a result, the dollar would collapse in value against other major currencies, by a LOT - I don't know how much is realistic, but probably at least 40%, maybe more like 60 or 80 for a time. All imports in the US would get proportionately more expensive overnight, doubling or even quintupling in price - including French wine and Lexuses, but also including, e.g., clothing and consumer electronics. You know, stuff at Walmart.
The stock market would crash as well because it is valued in dollars and so is correspondingly devalued - the sell-off would probably be way worse than the bond sell off, actually. Put this together with the severe increase in import prices, and the average US consumer feels VERY much poorer, all of the sudden. Even if there was not a literal run on the banks - which there may be - consumer spending would slam to a halt. Companies would go out of business, unemployment would spike. Demands on government services would go up, tax receipts would go down, thus compromising its ability to do anything about the original problem, i.e., lack of funds to pay off the bond holders.
Whee!
posted by rkent at 6:53 PM on March 25, 2009 [3 favorites]
The US Federal Government defaults on Treasury Bills, thought to be essentially the safest investment in the world. Stops paying interest and refuses to redeem the coupon for face value, instead imposing a "hair cut" of some percent on the bond holder. Now you have to understand that a lot of central banks around the world hold T-bills simply because they are safe assets, and not because they have any desire to spend the money with US companies. Once this motivation for holding T-bills evaporated, they would be sold off immediately. At a discount corresponding to the haircut at first, but then even steeper because everyone wants to sell at once.
As a result, the dollar would collapse in value against other major currencies, by a LOT - I don't know how much is realistic, but probably at least 40%, maybe more like 60 or 80 for a time. All imports in the US would get proportionately more expensive overnight, doubling or even quintupling in price - including French wine and Lexuses, but also including, e.g., clothing and consumer electronics. You know, stuff at Walmart.
The stock market would crash as well because it is valued in dollars and so is correspondingly devalued - the sell-off would probably be way worse than the bond sell off, actually. Put this together with the severe increase in import prices, and the average US consumer feels VERY much poorer, all of the sudden. Even if there was not a literal run on the banks - which there may be - consumer spending would slam to a halt. Companies would go out of business, unemployment would spike. Demands on government services would go up, tax receipts would go down, thus compromising its ability to do anything about the original problem, i.e., lack of funds to pay off the bond holders.
Whee!
posted by rkent at 6:53 PM on March 25, 2009 [3 favorites]
Foreigners own a chunk of our debt, but the citizens own far more. So what would happen is that ALL of us would lose. Ain't gonna happen.
(And we WANT foreign governments to buy our bonds- that's how we get our money back. We give them $10 for a toaster, they give us that $10 back and all we have to give them is a piece of paper. If you count this flow of dollars back into the US, the trade deficit myth disappears.)
posted by gjc at 6:57 PM on March 25, 2009
(And we WANT foreign governments to buy our bonds- that's how we get our money back. We give them $10 for a toaster, they give us that $10 back and all we have to give them is a piece of paper. If you count this flow of dollars back into the US, the trade deficit myth disappears.)
posted by gjc at 6:57 PM on March 25, 2009
Response by poster: So it sounds like the sh*t hits the fan. So it hits the fan. I have to work 5x longer to afford a flat-screen TV. Then what? Do we hit some kind of paradigm shift? Feudalism -> Capitalism -> ???-ism
posted by kaizen at 7:05 PM on March 25, 2009
posted by kaizen at 7:05 PM on March 25, 2009
Worst case scenario? Outright anarchy.
I don't think you quite understand just how complex, interconnected, and fragile a system we're talking about here. As badly as the Obama administration is arguably handling the ongoing crisis ($10 trillion in additional deficit spending in the next decade? Are you kidding me?), there's been a phenomenal lack of serious disruptions in day to day life. After the Great Depression, the federal government instituted financial regulations that are still serving us well, i.e. the mechanism for an orderly winding down of troubled financial institutions. There have been a number of bank failures in the past year, and there were a bunch in the 1980s, but in neither case has there been a traumatic dislocation of the economy's ability to function. You'd know such a thing if you saw it, because if there is a global disruption in the ability to execute transactions... everything just stops.
Say you're a grocery store. Say your bank goes under and there isn't anyone around to make sure that your money is safe: a legitimate, unmitigated run on the bank. You take daily deliveries. You pay for them on a regular basis. But all of a sudden you've completely lost your ability to do that. Your revenue trickles in slowly, but you've got bills to pay now. You have to go bankrupt.
Imagine that happening to half of the companies in the country, all at the same time. Now you're starting to get the picture.
There are eight million people living in New York City today. How long do you think it will take for them to eat all of the food that's currently in the city? I'm guessing about three days. Meaning that if it takes as little as a week to get things up and running again you're going to have food riots. And New York isn't the only place: every major urban area in the world (and most of the minor ones, come to think of it) will be in the same boat. Which means you're going to see calamitous civil unrest everywhere. Which isn't going to help get things started again.
Look: if you were going to pick something other than nuclear war to bring down modern society, the US defaulting on its debt is probably a pretty good second choice. That's assuming that US default wouldn't trigger such a nuclear exchange. Sillier things have happened.
I hate to be a doomsayer here, but yeah, a US default really could be the end of the world as we know it.
posted by valkyryn at 7:38 PM on March 25, 2009 [1 favorite]
I don't think you quite understand just how complex, interconnected, and fragile a system we're talking about here. As badly as the Obama administration is arguably handling the ongoing crisis ($10 trillion in additional deficit spending in the next decade? Are you kidding me?), there's been a phenomenal lack of serious disruptions in day to day life. After the Great Depression, the federal government instituted financial regulations that are still serving us well, i.e. the mechanism for an orderly winding down of troubled financial institutions. There have been a number of bank failures in the past year, and there were a bunch in the 1980s, but in neither case has there been a traumatic dislocation of the economy's ability to function. You'd know such a thing if you saw it, because if there is a global disruption in the ability to execute transactions... everything just stops.
Say you're a grocery store. Say your bank goes under and there isn't anyone around to make sure that your money is safe: a legitimate, unmitigated run on the bank. You take daily deliveries. You pay for them on a regular basis. But all of a sudden you've completely lost your ability to do that. Your revenue trickles in slowly, but you've got bills to pay now. You have to go bankrupt.
Imagine that happening to half of the companies in the country, all at the same time. Now you're starting to get the picture.
There are eight million people living in New York City today. How long do you think it will take for them to eat all of the food that's currently in the city? I'm guessing about three days. Meaning that if it takes as little as a week to get things up and running again you're going to have food riots. And New York isn't the only place: every major urban area in the world (and most of the minor ones, come to think of it) will be in the same boat. Which means you're going to see calamitous civil unrest everywhere. Which isn't going to help get things started again.
Look: if you were going to pick something other than nuclear war to bring down modern society, the US defaulting on its debt is probably a pretty good second choice. That's assuming that US default wouldn't trigger such a nuclear exchange. Sillier things have happened.
I hate to be a doomsayer here, but yeah, a US default really could be the end of the world as we know it.
posted by valkyryn at 7:38 PM on March 25, 2009 [1 favorite]
The stock market would crash as well because it is valued in dollars and so is correspondingly devalued - the sell-off would probably be way worse than the bond sell off, actually. Put this together with the severe increase in import prices, and the average US consumer feels VERY much poorer, all of the sudden. Even if there was not a literal run on the banks - which there may be - consumer spending would slam to a halt.
This sounds no different than what will happen in slow motion anyway. The U.S. is a household that makes $70,000 a year, and it has $56,000 in credit card debt and car loans. I don't know how accurate of an analogy that is but it sure doesn't look rosy.
posted by crapmatic at 7:44 PM on March 25, 2009 [1 favorite]
This sounds no different than what will happen in slow motion anyway. The U.S. is a household that makes $70,000 a year, and it has $56,000 in credit card debt and car loans. I don't know how accurate of an analogy that is but it sure doesn't look rosy.
posted by crapmatic at 7:44 PM on March 25, 2009 [1 favorite]
Jesus Christ, I have to stop reading these types of questions.
posted by spikeleemajortomdickandharryconnickjrmints at 10:14 PM on March 25, 2009 [4 favorites]
posted by spikeleemajortomdickandharryconnickjrmints at 10:14 PM on March 25, 2009 [4 favorites]
Glad I'm not IN the US anymore...
Sorry to sidejack the question, but I wonder: what if China / Japan / OPEC starts calling in those bonds? I know the US can simply print the paper bills and hand them over - which devalues the currency some, thus making China / Japan / ANYONE less interested in bailing us out for the 437th round. Where does the USA get their money from then?
The whole thing reminds me of the prom queen with the girdle and pushup bra - she looks great now, but wait until you learn the truth...
posted by chrisinseoul at 2:02 AM on March 26, 2009
Sorry to sidejack the question, but I wonder: what if China / Japan / OPEC starts calling in those bonds? I know the US can simply print the paper bills and hand them over - which devalues the currency some, thus making China / Japan / ANYONE less interested in bailing us out for the 437th round. Where does the USA get their money from then?
The whole thing reminds me of the prom queen with the girdle and pushup bra - she looks great now, but wait until you learn the truth...
posted by chrisinseoul at 2:02 AM on March 26, 2009
If the US$ drops to parity or below with the A$, I have a long list of stuff I want to buy from Americans. I don't think I'm alone in that. I'm not sure what the economic effect of foreign purchasing will be, although I expect it will cease long before the stuff runs out.
posted by aeschenkarnos at 4:05 AM on March 26, 2009
posted by aeschenkarnos at 4:05 AM on March 26, 2009
You can't call in gov't bonds.
Any country that exports to the US will have an interest in keeping the dollar strong so they'll keep buying USD. That's why China and Japan have been such eager buyers of treasury obligations. Up to a certain point of course. But if the US were to default and the consumer close down they'll be riots in Shanghai the same day there are riots in Sacramento.
Countries that are able to issue debt in its own currency DO NOT DEFAULT. We own the fucking printing press. If we use it too much then people will start asking to get paid more to cover the debasement of the currency that will happen during the holding period - which is bad. But repeat after me - The United States Cannot Default on its Obligations. Not to say the rest of the world couldn't at some point say "The US is just too cavalier with its money supply - we won't borrow in USD from them anymore" Then the US could default on these non-dollar denominated obligations.
The stock market in nominal terms would not collapse because of inflation. It would go up. In real terms it would probably decline to reflect the structurally higher costs if borrowing for US domiciled companies. Bond holders would in real terms take a much greater hit. Neither group would be especially happy.
posted by JPD at 5:02 AM on March 26, 2009
Any country that exports to the US will have an interest in keeping the dollar strong so they'll keep buying USD. That's why China and Japan have been such eager buyers of treasury obligations. Up to a certain point of course. But if the US were to default and the consumer close down they'll be riots in Shanghai the same day there are riots in Sacramento.
Countries that are able to issue debt in its own currency DO NOT DEFAULT. We own the fucking printing press. If we use it too much then people will start asking to get paid more to cover the debasement of the currency that will happen during the holding period - which is bad. But repeat after me - The United States Cannot Default on its Obligations. Not to say the rest of the world couldn't at some point say "The US is just too cavalier with its money supply - we won't borrow in USD from them anymore" Then the US could default on these non-dollar denominated obligations.
The stock market in nominal terms would not collapse because of inflation. It would go up. In real terms it would probably decline to reflect the structurally higher costs if borrowing for US domiciled companies. Bond holders would in real terms take a much greater hit. Neither group would be especially happy.
posted by JPD at 5:02 AM on March 26, 2009
kaizen said: So it sounds like the sh*t hits the fan. So it hits the fan. I have to work 5x longer to afford a flat-screen TV. Then what?
Not quite. Imports from everywhere would stop. That flat-screen tv would be impossible to find for 10 times the price. Considering that we depend on imports for almost everything of value; computers, tv's, clothes, shoes, gas, etc, prices of everything would be beyond reach of almost everyone. You know how Cuba is? That would be us.
posted by JJ86 at 6:49 AM on March 26, 2009
Not quite. Imports from everywhere would stop. That flat-screen tv would be impossible to find for 10 times the price. Considering that we depend on imports for almost everything of value; computers, tv's, clothes, shoes, gas, etc, prices of everything would be beyond reach of almost everyone. You know how Cuba is? That would be us.
posted by JJ86 at 6:49 AM on March 26, 2009
As bad as it would be in the US, and it would be bad, things would be markedly worse everywhere else in the civilized world. It's not just the US economy that is built on a house of cards -- most of the rest are built on our house of cards.
The most honest answer I have found is that nobody is quite sure, but it's probably bad, and bad for everyone.
posted by _Skull_ at 7:03 AM on March 26, 2009
The most honest answer I have found is that nobody is quite sure, but it's probably bad, and bad for everyone.
posted by _Skull_ at 7:03 AM on March 26, 2009
That course of action would cause a catastrophe in the world market, but would destroy our economy as well. No one would trade or lend/borrow with us causing all trade to cease. The closest thing the government could do would be to hyper inflate (print/create tons of) the dollar making it practically worthless and pay all of our old debt with a now worthless currency.
posted by gibbsjd77 at 12:45 PM on March 26, 2009
posted by gibbsjd77 at 12:45 PM on March 26, 2009
Not quite. Imports from everywhere would stop.
Including oil. Industrialised agriculture runs on oil - oil for machinery, oil for synthetic fertilisers. Currency collapse = US no longer able to import oil = agricultural collapse = starvation.
posted by rodgerd at 11:27 PM on March 26, 2009
Including oil. Industrialised agriculture runs on oil - oil for machinery, oil for synthetic fertilisers. Currency collapse = US no longer able to import oil = agricultural collapse = starvation.
posted by rodgerd at 11:27 PM on March 26, 2009
This thread is closed to new comments.
posted by furtive at 6:28 PM on March 25, 2009