Wednesday, May 13, 2009

Two for the Show

Megan McArdle, Atlantic Monthly's self-described "world's tallest female econoblogger," has provided two bits of grist for the mills of conservatism. Having snagged a University of Chicago MBA, the 6'2'' libertarian economist has developed a highly refined gift for dismantling liberal shibboleths about the value of stimulus spending and the economy more generally. Two of her most recent posts at her Atlantic blog, Asymmetrical Information, have garnered significant attention as of late.

"Obama's Magical Mystery Tour of Health Care Savings" puts to lie the notion that we will be able to afford Barack Obama's healthcare plan without significantly higher taxes for everyone, "not just that elusive klatch of greedy fools who are not in the 95 percent of working families now allegedly slated for stable or lower taxes." "The Risk of Debt" posits that, at some point in the not too distant future, purchasers of Treasury bills will demand some sort of "premium for the risk that [the U.S.] might default."

But last Thursday, the Treasury auction was... well, descriptions vary from "weak" to "horrible." This raises the unpleasant possibility that markets are, as my business school professors insisted, "forward looking." Voters may believe that getting a bunch of special interests to agree in principal that costs should be cut is the same thing as actually cutting costs. Bond markets don't. That's why James Carville famously wanted to be reincarnated as the bond markets so he could "intimidate everyone."

But the problems faced by Clinton were modest - moderately higher interest rates, possibly, for ordinary borrowers. The Obama administration is trying to borrow 13 percent of GDP this year. If bond markets think future deficits are a problem, they can rapidly push up rates to the point where that borrowing becomes unaffordable. And if they do, it will be clear that they are pricing in that ugly, ugly [Congressional Budget Office] graph: (Emphasis added.)

Obama can assure voters that he inherited these deficits. But bond markets pay closer attention to the fact that Obama has already increased the projected deficit he inherited by 50%. (Emphasis added.)
To Ms. McArdle's point, the risk of the U.S. defaulting on - or repudiating outright - its debt is higher now than at any point previous. If bond markets deem our debt instruments to be too risky, our ability to borrow money to support operation of the government in the near term will be hampered. This may in turn negatively impact GDP growth over time, which will ultimately reduce our ability to repay debt that has already been accumulated.

Which makes our debt instruments too risky...

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