IMF ponders the improbable: Will U.S. default?
By Howard Schneider
Will the U.S. government ever default?
It's not a pleasant thought for anyone holding some of the roughly $9 trillion in U.S. government bonds and notes currently in public hands - or for anyone hoping the global economy can stay on an even keel.
But the economists at the International Monetary Fund are paid to ponder the improbable, and in papers published on Wednesday fund staff examined where the U.S. and other developed countries fit on a continuum between easy living and disaster.
We're farther along than you might think.
Using a concept known as "fiscal space" - basically how much latitude a country has to borrow before markets will shut off the spigot by demanding unsustainable interest rates - the IMF staff drew a bright red line through five nations it considers to be running out of room: Greece, Iceland, Italy, Japan and Portugal. Of the 23 developed nations it analyzed, four others, including the U.S., received a yellow caution flag.
Does it mean default is imminent or inevitable? Hardly - and in companion articles the fund discussed the steps being taken to control public debt, and broadly discounted the chance of an outright sovereign default among any of the advanced countries.
But consider the U.S. The IMF estimated a series of probabilities regarding the amount of increased debt a country might be able to sustain without hitting its projected point of no return.
In the case of the U.S., the fund said the odds were roughly three out of four that the country could increase its total debt to some degree without being penalized by investors -- logical considering that the debt is steadily increasing and interest rates remain low and steady.
However that probability falls to an even 50-50 if the amount of new borrowing were to exceed fifty percent of GDP - or about $7 trillion given the current, $14 trillion size of the U.S. economy.
That might seem like plenty, except for the fact that under current Office of Management and Budget projections the "fiscal space" may fast disappear. The OMB projects total U.S. debt to jump by about $4.7 trillion in the next five years, leaving little room after that.
Better than expected growth, of course, could add fiscal "space," but another recession could shrink it. As IMF researcher and report author Jonathan D. Ostry said, it is best to be cautious.
"Markets may give little or no warning," Ostry said, pointing to the recent troubles in Greece. "The debt limit is the point at which you bounce off to infinity. It is a point that you want to strenuously avoid."
September 1, 2010; 1:33 PM ET
Categories: International Economics , International Monetary Fund
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