The decision by Harry Reid, the majority leader in the Senate, to cancel next week’s planned recess in order to advance discussions on the US debt ceiling is a welcome indication that Washington is beginning to view the debt issue with more urgency. Viewed from overseas, the American political system has started to appear dysfunctional in recent weeks.
Democracy is inherently a messy process, but it is still unsettling for foreign holders of US debt to see the Congress openly discussing whether there might be advantages in forcing the Treasury to “prioritise” its future payments so that the flow of interest obligations can be maintained. As Tim Geithner, Treasury secretary, has pointed out, “prioritisation” means that the US would fail to meet many of its domestic obligations which have previously been legislated. That would be taken as a strong signal of a nation in financial distress. Even worse, there would be an immediate deflationary shock to the system of up to 10 per cent of gross national product as the budget deficit is forcibly closed, which would certainly send the global economy back into recession. Read more