Can the US avoid a disastrous debt default?

While most experts predict a deal on the debt ceiling, others worry negotiations will extend past the Aug. 2 deadline.

By MSN Money Partner Jun 13, 2011 12:40PM

Image: Stopwatch (© Steve Allen/Brand X/Getty Images)By Eric Pianin, The Fiscal TimesThe Fiscal Times on MSN Money


With the federal debt clock ticking loudly, the Obama administration and congressional Republicans are pressing for a budget deal to raise the debt ceiling and avert the first default on U.S. debt in history. A substantial majority of Washington budget and policy experts surveyed by The Fiscal Times predicts the negotiators will beat the Aug. 2 deadline set by Treasury Secretary Timothy Geithner.


"They will definitely work out a deal, because the consequences (of not acting) are too unknown and too ominous," said Ron Bonjean, a Washington policy strategist and former spokesperson for top congressional GOP leaders.


But many experts say conservative Republicans, including Sarah Palin and Sen. Pat Toomey,  R-Pa., are wrong, and reckless, to assert that the government could easily weather a default on the government's debt. They do not agree that Geithner and Federal Reserve Chairman Ben Bernanke have exaggerated the economic and budgetary consequences if Congress fails to act in time.

Palin, Toomey and other conservative lawmakers and Tea Party activists claim the Treasury can rearrange its spending priorities to focus on paying off the interest and principal on the debt to China and other creditors while cutting back on government spending and entitlement programs to keep the government afloat.


"It is a sign of our dysfunctional politics that Republicans are willing to threaten another global financial crisis to advance their tax and spending agenda," said Thomas E. Mann, a congressional scholar with the Brookings Institution. "One of our great strengths is the perceived security of our government bonds. In the end, I believe (and pray) that the Republicans will not shoot the hostage they have taken after failing to garner their ransom."


George Hager, a USA Today editorial writer and Fiscal Times contributor, laments: "There's a virulent know-nothingism about the debt that seems utterly unlike any of the partisan posturing that traditionally accompanies these votes. Maybe members of Congress are just pretending there's no real urgency as a way to gain bargaining power. But an alarming number of voters appear to believe them."


By a vote of 22 to 6, The Fiscal Times' panel of experts predicted a resolution of the dispute before the August deadline. Some said that a short-term extension of the Treasury's borrowing authority might be necessary before a final deal is hammered out. But the vast majority said it would be unthinkable for Congress to jeopardize the nation's AAA credit rating by allowing a default. Three credit agencies -- Standard & Poor's, Fitch and Moody's -- have already warned the U.S. that a debt default and inaction on lowering the deficit would lead to a downgrade of the nation's credit rating. 

"Aside from making us look like a banana republic or the state of Illinois, it would be nuts politically," said Rudy Penner, a former director of the Congressional Budget Office, now with the Urban Institute. "Are we really going to give priority to paying interest to the Chinese while we stiff our own citizens who are owed money by the Federal government?


"It would be a disaster if we defaulted if for even for a day," said G. William Hoagland, a former Senate Republican budget policy adviser. "The risk premium hit (even a couple of basis points) would be built into all future interest rates. The government's credit rating would be downgraded -- if not permanently at least long enough to raise future question with our creditors. It would come at exactly the wrong time as the fledgling economy is trying to take hold."


Republican leaders -- including House Speaker John Boehner of Ohio, House Majority Leader Eric Cantor of Virginia, and Senate Republican Leader Mitch McConnell of Kentucky -- are pressing the Obama administration for major spending cuts of as much as $2.5 trillion over the coming decade and budget enforcement provisions in return for GOP support for raising the debt ceiling by $2 trillion. A June 5th Washington Post/ ABC News survey showed that 52 percent of adults believe the deficit should be reduced by spending cuts, while 39 percent believe it should be cut by a combination of spending and tax cuts.


A small bipartisan negotiating team of House and Senate members chaired by Vice President Joseph Biden has been meeting since May 5 in search of a compromise. They vowed to pick up the pace this week in hopes of presenting the framework of an agreement to President Obama and congressional leaders by the end of the month. A big sticking point is whether the deal will include any increases in revenue, something the Democrats want but Republicans oppose.


David Stockman, the former Reagan administration budget director, predicted that the White House and congressional leaders would reach a toothless spending cut deal to avoid a default but downplayed the significance of the Treasury officially defaulting on the debt.


"The U.S. government is already in de facto default because it has no coherent fiscal policy or prospect of adopting one," he said. "The GOP is defaulting on the revenue that needs to be raised; the Congressional Democrats are dodging long overdue IOU's for entitlement reform. And commander Obama has utterly failed to take on the military-industrial complex and the $800 billion war and security budget that is utterly unjustifiable in the real world of 2011."


Ethan Pollack, a senior policy analyst at the liberal Economic Policy Institute, predicted that Congress will miss the deadline and that the consequences will be significant and grow over time. "I think this is almost exclusively a function of internal House GOP politics," he said. "Even if Boehner succeeds in getting a compromise through the House, it will inevitably include tax increases. . . . This would set Boehner up for a quick coup, and Cantor would gladly step in. At the end of the day, I don’t think Boehner’s willing to risk his leadership position for the sake of true leadership, though I would love to be proven wrong."


Others who say we are headed for a default crisis include Robert D.Reischauer, the president of the Urban Institute; Joseph White, a Case Western Reserve University public policy professor; David Francis, a Fiscal Times correspondent; Henry J. Aaron, a senior fellow in economic studies at the Brookings Institution; and Rudolf Penner.


Geithner has been warning for months that failure to raise the debt ceiling would trigger an economic catastrophe, and early on said the Treasury could only forestall the day of reckoning until July 8, by utilizing a series of budgetary and financial maneuvers and gimmicks. But in early May, he announced  that a greater-than-expected increase in tax revenue had extended the deadline by about a month, to Aug. 2.


Larry Sabato, a University of Virginia political scientist who believes a deal will be reached in time, blamed Geithner for undermining public confidence in the Treasury projections by repeatedly moving back the deadline for default. "That encourages the negotiators to ask for some account-juggling at the last minute if they need extra time," he said.


Several senior Democratic senators were annoyed with Geithner for extending the deadline, arguing that from a strategic standpoint, the earlier deadline created a sense of urgency for the two parties to reach a comprehensive deal. A Treasury spokesperson said that Geithner was merely trying to be as transparent and open as possible in making the estimate.


Palin,  the 2008 Republican vice presidential nominee who is pondering a race for president next year, said recently on Fox News Sunday, "I don't believe Tim Geithner as he cries wolf for the fourth time, now telling us that there is a drop dead date (for a default) and crisis will ensue."

Robert Bixby, the executive director of the Concord Coalition and one of the nearly two dozen experts who are discounting the possibility of a default, said, "Negotiators will reach agreement before the deadline because neither side wants to risk the political blame for a possible default." Bixby added, "Leaders on both sides, if not the rank-and-file, understand that they are playing with dynamite."


But many of those predicting an agreement warn that the end game could be messy and that negotiations may well spill over past the current deadline. Reischauer of the Urban Institute says he's doubtful a budget deal will be struck by Aug. 2 but that the negations "will be fast and furious, giving indications of progress."


Read the full story and survey results.


More from The Fiscal Times