October 16, 2013
The media seem to be on a crusade to scare readers into thinking that hitting the debt ceiling will be the end of the world. One item that has been useful in this process is the story that a technical default (a missed interest payment) in the spring of 1979 led to lasting rise in interest rates.
This story is apparently derived from an obscure 1989 article by Terry Zivney that claims this default led to a lasting 60 basis point increase in Treasury bill rates. NPR highlighted this study in the last debt crisis and it is apparently enjoying a resurgence of popularity in the current crisis.
There is nothing necessarily wrong with a study being obscure. That doesn’t mean it is wrong. After all, my warnings about the housing bubble from 2002-2007 were pretty damn obscure. However the fact that the study is obscure means that the economics profession does not accept its conclusion.
Interest rates are one of the most heavily studied topics in economics. None of the major analyses of trends in interest rates over the last four decades has the debt default in 1979 as a major explanatory variable. Thousands of economists have looked at the movement in interest rates over this period and none (other than Zivney) thought there was an unusual jump in interest rates in the spring of 1979 that need to be explained.
Here’s what the data look like:
See the jump in late April and early May when the default took place? Yeah, I don’t either. Of course there is the possibility that interest rates otherwise would have fallen, but the default prevented this drop from occurring, but that seems like a big lift.
The moral of this story is that a debt default would be bad news for reasons that I and others have written about, but there is also a lot of silliness going around on the topic. We have a disastrous economy right now that is almost 9 million jobs below its trend level simply because we don’t have enough demand (e.g. government spending). That is really awful news. A debt default makes things worse, but I’m afraid that I can’t join the panic.
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