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Scary Truth or Ghost Story: A Debt Ceiling and Government Shutdown Fact Check

The government shutdown is two weeks old and though piecemeal legislation reopened parts of government, many “nonessential” departments remain closed. Among the things that

The government shutdown is two weeks old and though piecemeal legislation reopened parts of government, many “nonessential” departments remain closed. Among the things that didn’t close, however, are politicians’ mouths. The shutdown and debt ceiling debate unleashed a tsunami of overhyped rhetoric. For investors, it’s crucial to separate fact from fiction—to determine what’s political rhetoric and what is factual. Here’s our effort to help—fact checking 13 of politicians’ common debt ceiling and government shutdown claims.

1. The White House has an infographic on its website titled, “The Dangers of Default.” The President and congressmen from both parties claim hitting the debt ceiling will trigger a default. The media frequently repeats this claim.

TRUTH OR GHOST STORY? GHOST STORY. Default is specific—in the US government’s case, it means missing a bond interest or principal payment. If the US government hits the debt ceiling, it will not automatically trigger default. All three of the ratings agencies—official arbiters of issuer default—have said as much.

2. But avoiding debt ceiling-driven default scenario requires using tax revenue to service debt—and the government said they can’t prioritize.

TRUTH OR GHOST STORY? GHOST STORY. According to a 1985 memo from the nonpartisan congressional watchdog, the GAO, the Treasury can prioritize payments if the debt limit is hit. The 14th Amendment’s Public Debt Clause (as interpreted by the Supreme Court in 1935) seemingly gives the Treasury little wiggle room —bonds must be a top priority of the government. Bonds can be issued to refinance the principal of maturing debt and the government’s monthly tax revenue far exceeds its monthly interest payments.

3. Not making other payments—to contractors, vendors, employees—is just a default by another name.

TRUTH OR GHOST STORY? GHOST STORY. Again, default is specific and addresses only bond interest and principal payments. Nothing else. Were it otherwise, the US government would be in default now—after all, the government isn’t paying some “nonessential” vendors and contractors today. And the government didn’t during the other 17 shutdowns since 1976!

4. Hitting the debt ceiling and paying bond interest first means no Social Security payments to retirees.

TRUTH OR GHOST STORY? GHOST STORY. Government tax revenue for fiscal 2013 was $2.4 trillion. Bond interest was $225 billion (with a “B”). After paying bond interest, tax revenue is sufficient to cover Social Security.

5.  But not Medicare!

TRUTH OR GHOST STORY? GHOST STORY. Actually, after paying bond interest, tax revenue is sufficient to cover Social Security, Medicare, Medicaid and Federal unemployment benefits with $600 billion left over to prioritize on other spending.

6. The Debt Ceiling limits spending, which the US desperately needs because the federal government’s deficit is high and rising

TRUTH OR GHOST STORY? TWO GHOST STORIES IN ONE! Spending decisions are made under budgets or continuing resolutions, not under anything related to the debt ceiling. The debt ceiling only limits the gross amount of US bonds outstanding. Moreover, the budget deficit isn’t rising fast. While final figures aren’t yet available, the Congressional Budget Office projects a fiscal 2013 budget deficit of $642 billion—a reduction of more than 60% from fiscal 2009’s more than $1.3 trillion deficit.

7. Rising short-term interest rates show markets are spooked by the debt ceiling and government shutdown.

TRUTH OR GHOST STORY? GHOST STORY. While it’s possible investors’ fears are influencing Treasury bill rates, consider that stocks are up in the two weeks since the government shut down, and 10-year Treasury rates have been falling for most of the last month. Emotional wiggles in the near term are normal in markets. [i]

8. The debt ceiling has never been used to extract political gains historically.

TRUTH OR GHOST STORY? GHOST STORY. The debt ceiling has frequently been used as leverage in political debates. In the 1980s, foreign policy, tax and budget policy were both affected by debates. In the 2000s, debates were often a means for politicians to posture for their base. (Here is just one example.) These are not atypical historically.

9. 2011’s debt ceiling debate caused material economic harm to the US, even though we lifted the debt ceiling in the end.

TRUTH OR GHOST STORY? GHOST STORY. There’s little to no evidence the US economy was impacted by the debate. The economy grew the quarter before, of and after the debate. Headline growth wasn’t quick before or after, but that was also in part due to rising imports (not economically bad) and government spending cuts weighing on headline GDP in every quarter of 2011. In Q3 2011, when the debt ceiling debate was ongoing, headline growth was 1.4%. Government spending and imports subtracted -0.5% and -0.8%, respectively. [ii]

10. The government shutdown will cause a recession due to slower government spending.

TRUTH OR GHOST STORY? GHOST STORY. The longest shutdown on record, 1995-1996’s 21 days, did not materially impact GDP. Government spending fell -3.6% in Q4 1995, but GDP grew 2.9%. Maybe it would’ve grown faster had government detracted less, but that’s a different argument. And the present expansion has seen falling government spending in 12 of 16 quarters. [iii]

11. Government shutdowns are bad for stocks.

TRUTH OR GHOST STORY? GHOST STORY. There have been 17 shutdowns since 1976 and average returns are flattish during shutdowns and positive 13.1% a year later. [iv]

12. Defaulting on our debt would be bad!

TRUTH OR GHOST STORY? TRUTH. In all likelihood, a US debt default would be quite bad. But, as alluded to above, talk of a debt default is overwhelmingly likely a ghost story.

13. Our politicians are incompetent!  


By Todd Bliman

This constitutes the views, opinions and commentary of the author as of October 2013 and should not be regarded as personal investment advice. No assurances are made the author will continue to hold these views, which may change at any time without notice. No assurances are made regarding the accuracy of any forecast made. Past performance is no guarantee of future results. Investing in stock markets involves the risk of loss.

[i] Source: FACTSET Data Systems, Inc. Stocks are represented by the S&P 500 Price Index return from 09/30/2013 – 10/15/2013. 10-Year Treasury Yields from 09/05/2013 – 10/15/2013.

[ii] Source: Federal Reserve Bank of St. Louis, US Bureau of Economic Analysis.

[iii] Source: Federal Reserve Bank of St. Louis, US Bureau of Economic Analysis.

[iv] Source: Thomson Reuters, Congressional Research Service, Fisher Investments Research.

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