The U.S. Will Not Default on August 2

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The only thing that matters for global markets over the coming days is whether a deal can be struck in Washington over the debt ceiling. That said, there is one major misconception – fostered by politicians – about what the stakes actually are. On August 2, the U.S. government will reach the limit of its statutory borrowing authority as determined by the Treasury Department. It will not, however, default on its debts even if a deal isn’t reached.

You wouldn’t know that listening to the rhetoric out of Washington. I have been highly critical of the Republicans in general and the Tea Party especially for blithely charting a path that risks the financial leadership of the U.S. and our collective ability to function effectively in the future. The U.S. has no near term issue paying the interest on its debts, and this crisis is therefore one of choice rather than necessity.

(MORE: Odd Couple Debt Dance in D.C. Spooks Markets)

However, President Obama and the Democrats are not free from blame here, and the casual reference to looming default is among the greatest issues. “We have run out of time,” Obama said over the weekend, “and they [the Republicans] are going to have to explain to me how it is we are going to default.” He reiterated as much in his speech last night. The Republican reply? We won’t default, and on that point at least, they are correct.

The U.S. government must make about $20 billion in interest payments a month for an estimated $250 billion in interest owed this year. That is covered many times over by more than $2.1 trillion in tax revenue that the government expects to receive. Given the president will likely prioritize – and by some interpretations is constitutionally required to prioritize – principal and interest payments on its debts, there is no chance whatsoever that the U.S. will imminently default on its Treasury notes and bonds.

So what’s the problem? The problem is paying for all the other federal obligations, which together amount to close to $3.5 trillion dollars this year. Everything else, from Social Security checks to military salaries to the entire federal work force as well as security, health benefits, disability payments, national parks, air traffic control and on and on.

Even here, the White House and the Treasury Department can (and assuredly already have) developed priorities. Social Security, Medicare and Medicaid combined amount to about $1.5 trillion for 2011 fiscal year, which comes to about $120 billion a month. That means that there will be just enough revenue in August coming into the federal government to pay for all those plus interest on the debt plus another $30 billion or so to cover everything else.

(MORE: What Would a U.S. Government Default Feel Like for the Average American?)

What really looms is a massive, rolling and intensifying government shutdown in order to maintain payments on the national debt and keep printing Social Security checks, making sure the health care system doesn’t start to implode, and paying for our global military commitments. President Obama should have been clear about that from the start and said, and said again and again, that the issue isn’t default per se but the ability of the U.S. to function as a national government. And if it cannot, there will be sharply spiking unemployment as government workers are furloughed, and massive cutbacks in spending that will affect everything from information technology companies that serve the government to local organizations that care for kids and the sick and the elderly.

This isn’t just semantics – default or no default. Yes, those words have meaning in markets and send signals — the wrong signals, in this case. But the looming issue isn’t default or creditworthiness. It is whether a level of consistency and rationality about fiscal policy emanates from Washington. When it does not, we begin to cede our global economic leadership.

Both parties should be pushing policies that address long-term economic issues without generating unnecessary short-term crises. The president and the Democrats had the high ground here; it’s a shame they have squandered it.