It is Never Good When the U.S. Treasury Gets Compared to Brazil

By :: October 8th, 2013

The other day, I was talking to a guy who closely watches Washington for big foreign investors. Like most of us, his clients are struggling to understand the debate over the fate of the debt limit. He told me about one investor who asked whether it would be considered a default if Treasury made its regular interest payments but failed to pay other creditors.

This would not be a big deal, the investor suggested. After all, he noted, Brazil does it all the time.

I don’t know if Brazil does in fact delay paying creditors, but I do know this: It is never a good thing when Brazil and the U.S. Treasury are mentioned in the same sentence.  Carmen Reinhart and Ken Rogoff figure the South American nation has either defaulted or restructured its sovereign debt nine times—most recently in 1986-87.

In some ways, this says everything you need to know about the current fiscal madness on the Potomac. The dollar is the world’s reserve currency mostly because the U.S. has the world’s biggest economy. But it is also because the U.S. is one of the few nations on the planet where investors need not worry about political risk. We don’t do coups. We don’t do massive currency devaluations.  And we do pay our bills.

Sure, there is interest rate risk. There always is. But eliminating one variable from the financial equation—the concern that the U.S. won’t pay its debts because, well, it doesn’t want to—is an important reason why investors see Treasuries as a safe haven. They know they can stash money here when the world economy trembles or even when their own countries make them nervous. And that, in turn, is one reason why U.S. interest rates remain near historic lows even with a rebounding economy and a federal debt of $17 trillion. Despite everything, investors keep buying our bonds because they know we are good for it.

At least, they did.

The last time investors seriously worried about whether domestic U.S. politics might drive a default was probably sometime during the presidency of Andrew Jackson. But now, they may be getting just a whiff of uncertainty. And, make no mistake, when lenders become uncertain, borrowers pay.  

As my colleague Donald Marron notes, in 1979 the U.S. did briefly miss payments on Treasury bills—an inadvertent default caused by a debt limit confrontation and a back office glitch. That temporary hiccup kicked short-term Treasury rates up 60 basis points in a day. Not only was it a huge move, but it stuck for months afterwards.      

So far, the markets don’t seem to believe the U.S. will breach the debt limit this time. But there are hints that this rock-solid belief that Treasuries are the world’s safe haven may be showing some cracks. The cost of buying insurance against default (relatively thinly-traded credit default swaps) is rising. So are rates on very short-term Treasuries. And then there is that guy who is reminded of Brazil.





  1. Vivian Darkbloom  ::  3:36 pm on October 8th, 2013:

    That’s a real coincidence because just the other day I had a large international foreign investor tell me (rather than someone telling me what someone else told someone number one–) this (i.e., merely hearsay rather than double hearsay, so Howard, you’ve topped me there, although, admittedly, “guys who watch Washington closely” are known to be very reliable sources):

    (I’m paraphrasing from memory because my tape recorder was not on).

    I would rather the US delay a payment on my Treasury bond for a few days if this helps force politicians to get its fiscal house in order than the US not get its fiscal house in order and not get paid at all, or get paid in substantially depreciated dollars. Of course, there is no reason they would need to delay payments unless someone in the White House directs Treasury not to in the expectation that it will gain some political points (here my source seems to agree with Howard’s deep deep source). I had a bad experience with Brazilian bonds precisely because they failed to take the steps necessary to ensure they were on a healthy fiscal footing. I got burned in 1983 because Brazil, like many other countries in South America, failed to listen to the warning signs, racked up too much debt, and when it got into an unexpected recession, couldn’t make its payments. Every time the issue came up, they kept saying amanhã, amanhã. If that were not bad enough, I got killed by the hyper-inflation from ’88’ to ’94. Now, when I see sovereigns failing to take action on impending fiscal problems, I head for the hills before it’s really too late.

    My guy is apparently not as technically savvy as Howard’s deep deep guy. He wasn’t really concerned at all about whether this would be a “technical default” (self-imposed or not). The only thing this rube was concerned about was “will I get my money”.

    You know what, I’m no expert, but that sounds rational. Brazil never “defaulted” because a substantial political minority insisted that steps be taken to improve its fiscal situation. They defaulted precisely because nobody had the foresight or political courage to take the steps needed to do so.

  2. Michael Bindner  ::  3:53 pm on October 8th, 2013:

    Better Brazil then Portugal, Ireland, Italy and Greece. Sadly, if we default, these will be the comparisons. I am hoping the backroom deal has already been made and what we are seeing is for the masses and the Tea Party Jacksonian populists (although like in Jackson’s time, they care little about workers who don’t look like them).

  3. Michael Bindner  ::  3:54 pm on October 8th, 2013:

    I don’t think any amount of pseudo default will get Congress to raise taxes on the wealthy and middle class appropriately, which is what is required to get our house in order.

  4. Michael Bindner  ::  3:55 pm on October 8th, 2013:

    No Facebook icon.

  5. Len Burman  ::  5:09 pm on October 8th, 2013:

    Neil Irwin reports that markets seem to be getting spooked.

  6. Michael Bindner  ::  11:50 pm on October 8th, 2013:

    Not good for my IRA

  7. Michael Bindner  ::  11:50 pm on October 8th, 2013:

    Thanks for putting it back

  8. Vivian Darkbloom  ::  2:24 am on October 10th, 2013:

    Regarding that IRA:

    “And here’s the reality: let’s say the yield on your $1,000 bill soars to a terrifying 0.446% from a relatively benign 0.184%. That means the price of your bill has plunged from $1,000.04 all the way to $999.88. You’ve lost a whole 16 cents — or 0.016%. If the price of your bond continues to dive at that rate every day, then after a couple of months you might start approaching a full 1% drop in paper wealth!”

    Here’s a bonus question:

    What happens to the value of that IRA if you hold those bills to maturity?

  9. Rich  ::  3:25 pm on October 10th, 2013:


    I don’t think your friend’s tolerant view would be widely shared. The difference is between a bond payable according to a written agreement, and a bond payable according to subsequent consent of congress.

    I simply can’t imagine default in 2013 as prophylaxis against a greater default in 2043. Although yields are up on “taper” and the debt ceiling, I can’t see how 3.0-3.8% on the 30 year bill indicates a widespread perception of a problem then that could be killed now. (