The difference

Previously on “you wake up and you realize…” I discussed the three likely paths (well, i mentioned an unlikely first path, bringing the total to four) that the US could take in regards to the debt ceiling issue.

Regardless of what path is taken, people will have less confidence in the government on economic and fiscal issues than before. That is really really bad. Our economy relies on a sane and sound government. We also rely on government spending. We rely on having regulation to protect us (think how fortunate you are to not have to investigate the provenance of every bit of food you eat – the FDA and USDA do that for you!) we rely on the government to gather money for large, necessary projects (like, collecting taxes to pay for road building. think how hard that would be to do on your own, every day).

Worst case scenario (mind, ignoring the one which I cannot comprehend) the government doesn’t reach a deal and has to stop paying bills. Well, with no government spending a lot of money stops flowing into the economy. Some businesses will be fine, for a little while, but work will have to stop in some places and investment will have to slow in others. The less spending going around the less movement in the economy. More people lose jobs. Just imagine all of the companies in the US running out of money to develop new products and running out of customers to buy the old ones – that would be pretty terrible.

The less bad situations would be just a massive loss in confidence everywhere. If we can’t expect politicians to get anything done, then how can we plan for the future? For this, just imagine all of the companies in the US realizing that they have no clue what is going to happen the next day, or quarter, or year.

So, we have the possibility of another economic crisis upcoming. If interest rates go haywire, the financial sector will take some hits, maybe a couple of banks that are too much on the wrong side of the wrong bets will collapse. Things might get weird.

Last time this happened, it was the result of a complicated mass of actions. People who couldn’t afford houses bought them, but they were encouraged by fee seeking mortgage sellers, who were made possible (profitable?) by banks packaging mortgages and selling them on, who could do that very profitably because ratings agencies missed out some important assumptions in their models, which made those packages appealing to large investors and hedge funds, whose clients, including university and charity endowments demanded higher and higher returns for lower and lower expected risk. But nobody wants to blame Yale for the financial crisis, that doesn’t even make sense.

This time however, it is pretty clear where responsibility lies. If politicians cannot get together and make sure that the government pays its bills, or they act in such a manner that everyone completely loses faith in them (if you think you have already lost faith in the US Government, just wait until next Wednesday) it will be rather clear who is responsible for this mess. There are clear solutions, palatable or not.

the options

So the US is approaching a deadline. We need to raise the debt ceiling. One good thing is that we are not approaching it faster than anyone has ever approached a deadline. Time seems to move along at the same pace, even if politicians don’t really.

So there are a few things that can happen. Default on the debt is widely agreed to be pretty much impossible. It is, in fact, so literally incomprehensible that i cannot even write on what that would mean. I will just say that it is not really a good idea. I am also suspect of anyone who claims to be proud that they are American and at the same time thinks we should default (as I have been reading A Confederacy of Dunces, maybe I should say they are ‘communiss’).

There are still three basic options ahead.

1. Politicians cannot come to any agreement and the executive cannot force anything to happen. The Treasury will keep paying interest on our debt, but as old debt expires, will not be able to refinance all of it, and must start cutting elsewhere. Keep in mind this is money that we have already pledged to spend. Money that people and companies are already relying on as they make their budgets and plan their meals. The amount of money flowing into the economy will decrease. As time wears on, without a deal, the Treasury will have less and less money to spend on the governments bills, and so less and less money will be flowing into the economy.

Importantly though, nobody will be able to trust our government with anything at all. Its bad enough that they couldn’t decide to keep the FAA running (really?) the other day. This is generally quite bad for confidence in markets, economy, whatever. If businesses and investors have NO IDEA what lies ahead, they get scared and stop spending and investing and hiring and developing products and whatever else businesses and investors do.

2. Politicians do come up with an agreement, but it is a short term patch over the gaping wound that is the threat of default. Obama may be pretty much forced to sign onto something like this. This is a pretty awful situation, we keep paying most or all of our bills, which is good for the next few months, but still, nobody can trust our politicians to do anything in a timely, effective manner. Massive loss of confidence and trust follows (ok, its already here, but people are being really hopeful right now, because we want to trust in something).

3. A long term plan is hammered out and delivered in a timely and mature manner to the presidents desk (HA!), he signs it and everyone gives themselves a pat on the back. Well, it is still a bit late to restore trust in politicians, but with some clarity about the longer term, investors and businesses would be more confident in their work. The flow of money from the government to the economy would be more predictable, at least until there was another debt fiasco.

So thee takeaway message here is that whatever happens, our politicians are immature and losing trust in an unprecedented way. Lack of confidence is bad for the economy in general. The possibility that we will stop paying our bills is actually frightening.

Up next: who do we get to blame? (Hint: i go with the obvious answer)