Paradigm Lost

The calls never cease for the U.S. to bolster its fiscal position to avoid default. Once again, I remind the world that the U.S., as sovereign currency issuer, cannot "default" due to a result of simply crediting Treasury Security accounts at the Fed. We must all be reminded that the reason the U.S. current account deficit is large is because other countries wish to net save (hence the positive Capital Account) U.S. financial assets. AND FOR VERY GOOD REASONS. So first I present to you a snippet from a well-respected financial website that misstates the problem. Next I present you one of those VERY GOOD REASONS.

And what is a "technical default" anyway??

Allowing the U.S. Treasury to default on its obligations because of a failure to increase the sovereign debt subject to limit would be a colossal blunder. Fortunately, that’s not what those advocating tough conditions in exchange for a debt limit increase are saying. The issue presented by many in the news media is whether Congress would elect to willingly torpedo the U.S. Treasury market – and, by extension, the global financial markets that rely on Treasuries as risk-free collateral – by refusing to increase the debt ceiling. Paul Krugman has advanced another popular narrative, namely that the “constant lectures about the need to reduce the budget deficit…represent distorted priorities, since our immediate concern should be job creation.”

Achieving growth is certainly vital to securing the future, but policymakers need to stay focused on the real default issue: whether the terms of the debt limit increase this summer will be sufficiently tough to ensure that the nation’s debt-to-GDP ratio is stabilized and eventually sharply reduced. Ironically, the greater risk of default comes from an increase in the debt limit that fails to enact tough budget rules and substantial reductions in federal outlays.

Analysis of the price dynamics of the dollar, U.S. stocks, and Treasury notes during the previous debt limit “scare” in 1995-1996 makes clear that market participants discount noise about a technical default arising from a budget impasse. The last debt crisis occurred from October 1995 to March 1996 (pdf). Just as today, there was significant noise about a potential technical default with some extreme budget hawks discussing the issue with a non chalance that could supposedly “spook the markets.”

And here is but one reason why nations love to save in U.S. dollars:

NEW YORK – A lawyer for energy company Chevron found himself on the defensive Tuesday as he argued that it was urgent that the courts protect the company from an $18 billion judgment against it in Ecuador over damage done to the Ecuadorean rain forest decades ago.

Two judges on a three-judge panel of the 2nd U.S. Circuit Court of Appeals reminded attorney Randy Mastro that Chevron once fought hard to have the environmental claims brought on behalf of 30,000 people heard by courts in Ecuador rather than the United States, where lawsuits were first filed in 1993. The lawsuits eventually were moved to Ecuador, where a judge earlier this year issued the judgment against the oil giant. The appeals panel didn't immediately rule.

"Counsel," Judge Rosemary Pooler told Mastro, "you were the one who wanted to try this case in Ecuador."

And Judge Barrington Parker said he remembered presiding over a court hearing when the San Ramon, Calif.-based Chevron Corp. was trying to get the lawsuits moved out of federal court in New York.

Mastro said Ecuador has changed dramatically since then and now has one of the world's worst legal systems.

"Times have changed, your honor," Mastro replied to the judge, saying the Ecuadorean courts were now so bad that they rivaled Iran's.

He repeated arguments he had made successfully in recent months before a lower court judge, saying that the plaintiffs in the lawsuits planned to try to get countries around the world, including Venezuela and Argentina, to seize assets belonging to Chevron so the plaintiffs could "extort" a lucrative settlement.

He urged the court to let stand an order from U.S. District Judge Lewis A. Kaplan in Manhattan. The order blocks the plaintiffs from any efforts to collect the judgment pending a November trial that may determine the legitimacy of the Ecuadorean award.

Mastro said Chevron needed the court's protection because lawyers for the Ecuadorean plaintiffs last year prepared a memorandum on how to seize Chevron's assets around the world once they won a judgment. The judgment is being appealed in Ecuador.