Call it American financial exceptionalism.
The full faith and credit of the US government goes far. Really far.
The United States is the best place in the world to park money. Unrelenting demand for US government debt keeps interest rates low and makes the dollar the world's reserve currency. And US government bonds are the most attractive investment in the world, enabling spending on whatever the United States wants, from defense to entitlements, schools, roads, bridges, technology and science.
America's ability to borrow — and its sterling reputation for paying it back — is its superpower. And if it doesn't do that — for the first time, ever — that reputation could vanish.
"The US has the exorbitant privilege" of being the cornerstone of the world's financial system. Its ability to borrow is the envy of the world and "that would be foolish to give up," said political risk analyst Maximilian Hess, principal at Enmetena Advisory, in an interview on CNN's Early Start. He called the fight over the debt ceiling "irrational" and said it "hurts the US gravely."
"America's ability to borrow is what gives it the ability to enforce sanctions," he said. "It's what gives it the ability to lever other countries, it's what gives it the ability to exert so much influence over institutions like the IMF and the World Bank," Hess said. America's borrowing supports "the influence of the dollar in the international economy, and the plumbing of everything from options markets to oil and commodities markets is huge. And behind all of that sits a stock of US Treasuries that are the basis for the banking and financial system of the world," he said.
"And by flirting with this default, we put that all at risk."
The world is watching
From the global perspective, internal party disputes over spending priorities are incredibly short-sighted.
"If we go too far in flirting with it this time, it means that every future crisis will be far greater damage to the US economy, prestige and future growth," Hess said.
The whole episode could even raise the costs of financing the debt that Washington is arguing over.
As the Treasury's cash balance drains to only $60 billion, there is a mountain of obligations that will need to be funded when the Treasury's borrowing machine starts up again — and that is borrowing that will be more expensive if the debt ceiling fight breaks down further.
"The debt ceiling fiasco, raise your hand if you are tired of either party using this as leverage in the budget negotiations," wrote Chris Rupkey, chief economist at FwdBonds, in a note to clients. "Markets need to stay alert to the Treasury's borrowing needs. The numbers ahead are large... We know these are the deepest, most liquid markets in the world but what if buyers balk at all the new paper Treasury wants to sell?"
Answer: Bond yields would shoot up, making borrowing more expensive.
Brinksmanship vs fiscal discipline
Do not mistake drama around the debt ceiling for actual fiscal discipline. Debt-ceiling brinksmanship is the least efficient way to address debt and deficits.
"Given the strict annual budgetary processes that are in place, it is not clear that the debt ceiling improves economic and financial governance," said Mohammed El-Erian, chief economic adviser at Allianz. "On the contrary, it has tended to be used at times to meet short-term political objectives rather than enhance governance."
With time running out, what has been until now a story about Washington infighting and the underpinnings of the global financial system is about to become a Main Street story.
It all depends on whether a debt default is short or something even more dangerous.
"A short-term one, you can take your cues from what happened in 2011," said El-Erian. "The (stock) market's going to correct, but it will kind of work its way through and then sort of bounce back."
The S&P 500 fell 15% from July to August 2011, even though Congress eventually raised the debt ceiling two days before Treasury's money ran out. "But the real concern is whether or not it's going to be long and protracted. That is where you get some unprecedented downturns really. The market could tank more than 40%."