Debt Ceiling vs. Debt Default

Debt Ceiling vs. Debt Default

A modest Monday morning rant! Ms Catherine Crawford a frequent Patch contributor posted a story entitled Now at Starbucks: A Shutdown Petition in which she demonstrated her Progressive Collectivist bias by regurgitating the mainstream media’s talking points concerning the Debt Limit and demonstrating her ignorance [denotation - no disrespect intended] of finance / treasury management. The first is beyond my ability to remedy.  I hypothesize that only a total collapse of the economy might challenge her normalcy bias or cause her to question the Progressive Collectivist pap that she has been fed for most of her life. I will concentrate on the later in the hopes of explaining a simple reality. HITTING ONE’S DEBT CEILING [not be able to borrow additional money] IS NOT THE SAME THING AS DEFAULTING ON ONE’S DEBT [not making payments - principal and interest - on your currently due debt obligations]! Nor in most cases does the first cause the second when there is sufficient cash flow available to service the debt.

Given the probability that at one time, Ms Crawford you were educated in a CT Union dominated public school, your ignorance on the subject of personal and governmental finance is understandable and therefore forgivable.  A simple analogy might be instructive.
  
Your family has been spending 40% more than you earn for the last 5 years. You now owe over a year’s earnings on your credit cards. You owe family members [who loaned you money from their retirement and health care savings accounts] 10.9 times what you make in a year but this debt is not on your credit cards.  In addition, you have a mortgage and a second mortgage on your 10,000 sq ft home housing your family of 4.  You have 4 new cars with 5 years of loan payments still outstand, a vacation home fully mortgage with a zero-down liar loan, several ATV, snowmobiles, watercraft, motorbikes, ultralights and a kick-but Hinckley Sou’Wester 52 with payments.  Lets not forget that you and your spouse are in dead end jobs with little chance of a raise, bonus, or stock options in your foreseeable future and your hours may be cut to keep you under the new Obama Care definition of full time [good thing there is no inflation].

Now one day your Bank says, we are NOT going to increase your borrowing limit even though you planned to take a trip to Tahiti on your SW 52!  You say FOUL I already book my reservation at the yacht club on Bora Bora so you must allow me to borrow more money to take the trip that I budget / planned and my co-equal spouse approved!  The bank holds firm and say NO MORE CREDIT, PAY YOUR BILLS FIRST.  You convene a family meeting and decide NOT TO PAY YOUR MORTGAGES or the MINIMUM DUE ON YOUR CREDIT CARDS.  You decided to use your current earning to go to Tahiti anyway, all the while complaining that the bank will not increase your debt ceiling and it is their fault you “can not” pay your bills.  

BHO and his Treasury department can CHOSE to pay the county’s obligations with current tax collections!  There are plenty of tax receipts to cover current debt obligations. The only way we default is if they ELECT not to pay our bills and keep spending on things we can not afford and / or allowing the waste, fraud, and abuse that currently exists.  Most Americans in a similar circumstance [at least those not infected with the Keynesian virus] would STOP SPENDING and Pay Off their credit cards [even if doing so is painful].  If fact, I’ve been told that one’s credit score actually improves if you make regular payments above and beyond the minimum require and steadily reduce the amount owed [it makes you worthy of additional browsing because you have demonstrated that you are a “good risk” and your cash flow can support the increase in payments].

Now why keep borrowing other than you are a Progressive Collectivist who believes that it is your mandate to create an egalitarian utopia ushering in an era of social justice and collective salvation by using the coercive power of the state to redistribute OPP [Other People’s Property].

Inflation.

Let me say that again Inflation! Progressive Collectivists’ borrowing and spending policies have dug the financial hole so deep that there is virtually no way that they would survive the political blowback from the decline in our standard of living that would occur if we reduced spending and started paying back what we owe.  The only way out short of 94% incremental income tax rates or the outright repudiation of all debts [Boston Fed did an interesting white paper on this option a few years back] is Inflation.

Under the guise of stimulating the economy, the Federal Reserve Bank [a private bank not part of the US Government] has tripled the money supply [all the while the velocity of money remains at an all time low]!

In my analogy the probability that your family will ever be able to pay back all it owes is near zero. For my analog family, the only option is eventual default and bankruptcy.  But nation states have a short term alternative. We will skip raising taxes and stifling the economy as an interim step and head straight to inflating the currency.  When currency is not tied to items of intrinsic value [gold, silver, oil reserves, productive land, etc] the government [or its central banks] can simple “print / digitize” more dollars.  By doing so the value of all existing dollars declines.  

Another simple example.

If Apples is worth $100.00 and there are 10 shares outstanding than each share is worth $10.00.  if Apple splits the shares 10 for 1, then each share is only worth $1.00 but the good news is that a shareholder who once owned a single share worth $10.00 now owns 10 share worth $1.00 each and is therefore basically whole.  It does not work that way when a government devalues the currency.  

Without getting technical the benefit of inflating the currency accrues to the government and the costs / consequences accrue to the Sovereign Citizen. The main points to take away from the example is that because of inflation your money [savings] is worth less so it takes more dollars to buy stuff. Unless your investments and wages keep pace with inflation, your standard of living declines.  The goal is for you wages and investments NOT to keep pace!

But there is an upside to inflation.  As the tax base and many times the tax rate inflates, government’s revenue [for a while] keeps pace with inflation [at least until economic activity stagnates].  Because of this inflation governments pay back their debt with cheaper inflated dollars.  They hope to bend the spending curve at some point in the future after they have inflated their currency sufficiently to pay off all of the money that they have borrowed. If it works, the government makes out like the bandits that they are and the people that have lent them the money are stuck with significant losses.  But Inflation is very hard to manage once it takes hold of the economy. And out of control inflation is hyperinflation.

Hyperinflationary episodes have appeared several times over the past century – 56 to be exact – as the world's nations have experimented with fiat currencies backed by the full faith and credit of the governments that issue them.  A few examples,

• Hungary between August 1945 - July 1946 the daily inflation rate was 207 percent and prices doubled every 15 hours,

• Zimbabwe between March 2007 - November 2008 the daily inflation rate was 98 percent and prices doubled every 25 hours,  

• Yugoslavia / Republika Srpska between April 1992 - January 1994 the daily inflation rate was 65 percent and prices doubled every 34 hours,

• Weimar Germany between August 1922 - December 1923 the the daily inflation rate was 21 percent and Prices doubled every 3 days, 17 hours,

• Greece between May 1941 - December 1945 the daily inflation rate was 18 percent and prices doubled every 4 days, 6 hours,

• China between October 1947 - May 1949 the daily inflation rate was 14 percent and prices doubled every 5 days, 8 hours,

• Peru between July 1990 - August 1990 the daily inflation rate was 5 percent and prices doubled every 13 days, 2 hours,

• Lastly Nicaragua between June 1986 - March 1991 the daily inflation rate was 4 percent and prices doubled every: 16 days, 10 hours.