Sorry!! The article you are trying to read is not available now.
Thank you very much;
you're only a step away from
downloading your reports.

How Likely Is the US to Default?


The most direct measure can be found in the credit default spread (CDS) market.

Scores of financial and political media pundits are fond of fanning alarmist popular fears of an immanent default by the US. Many of the folks that preach this doomsday view are promoters of speculation in gold and various currency schemes that bet against the US dollar.

Well, just how "unsafe" is the US, and US sovereign bonds in particular? The most direct measure can be found in the credit default spread (CDS) market. This represents the price set in the marketplace for the cost of insuring against a default.

Below is a current list of the cost of sovereign default insurance premiums.

By this reckoning, the risk of a sovereign default by the US is amongst the lowest in the world. The risk of default by the US is considered to be substantially lower than all European countries with the exception of Germany. The risk of US default is deemed substantially lower than Japan or South Korea. The risk of US sovereign default is deemed substantially lower than any of the BRICS, including current darling China.

And just in case you're wondering, the risk of sovereign default in Argentina and Venezuela is deemed to be about 20 times as great as that of the US.

Note, I make no claims regarding the absolute accuracy of CDS markets. They've been notably volatile, a fact that undermines any pretense of long-term accuracy. However, CDS markets can give us useful information about two things. First, this market tells us the price that insurers are charging to protect against the risk of sovereign default. If you think you're smarter than the economic specialists that make this market, you clearly have a very high opinion of yourself, and if you're right, you should very quickly become a millionaire many times over. Second, this indicator is particularly useful if you want to assess the relative risk of sovereign default. Insurers often underestimate "black swan"-type systemic risks, as such risks are very difficult, if not impossible to calibrate. However, insurers more rarely miscalculate relative risks as these can be assessed based on fairly measurable and predictable parameters (debt/gdp, debt service/gdp, financial system leverage, etc.).

In response to the evidence from CDS markets, some bearish readers may protest that their doomsday scenarios not only contemplate the possibility of default. Their mantra is "default or inflate."

Well, that rationalization soon collapses upon even cursory examination. Global insurance markets are ascribing an extremely low probability of any sort of significant inflation in the US, looking at any time frame. Go check out the long-term inflation rate embedded in TIPS. Take a look at the markets for inflation/sensitive interest rate and currency instruments. None of these markets are signaling any sort of significant inflation in the short, medium, or long term.

What about the rise in gold? First, that's an extremely tiny sandbox where a very peculiar subset of speculators dominate the field of play. Second, perhaps in part due to the reason just cited, gold markets have a very bad track record in terms of predicting anything, including inflation. Finally, the total cost of producing gold is somewhere in the neighborhood of $800. Currently at about $1,050, gold prices are in no way signaling any sort of major long-term inflation, else prices would be much higher. Thus, even if one were inclined to believe in the "predictive" properties of gold, the yellow metal currently doesn't seem to be predicting any sort of significant inflation.

Doomsday default or inflation for the US? Apparently, a great many people have a great deal of fun speculating about it at the water cooler. However, clearly, the world has a lot more important things to worry about.
< Previous
  • 1
Next >
No positions in stocks mentioned.
The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.
Featured Videos