"The US Is Holding the Whole World Hostage"

This was the headline this morning in Der Spiegel, the German news magazine.

It is an illustration that an irresponsible act driven by American politicians could have wide-reaching effects beyond our federal government.

Judging from what I have read, the rest of the world is incredulous that there is even the possibility that the U.S. would deliberately default on its debt obligations.

Here's an excerpt from the Der Spiegel piece (which is quoting another German publication called Bild):

"Irrespective of what the correct fiscal and economic policy should be for the most powerful country on earth, it's simply not possible to stop taking on new debt overnight. Most importantly, the Republicans have turned a dispute over a technicality into a religious war, which no longer has any relation to a reasonable dispute between the elected government and the opposition."

"If it continues like this, the US will be bankrupt within a few days. It would cause a global shockwave like the one which followed the Lehman bankruptcy in 2008, which triggered the worst economic crisis since the war. Except it would be much worse than the Lehman bankruptcy. The political climate in the US has been poisoned to a degree that is hard for us (Germans) to imagine. But we should all fear the consequences."

http://www.spiegel.de/international/world/0,1518,774666,00.html#ref=nlint

Then there's the municipal market.

Remember Meredith Whitney, the analyst who famously predicted "hundreds of billions of municipal defaults" last December on the CBS television show 60 Minutes?

Well, so far Ms. Whitney has been woefully wrong: Not only have municipal defaults in 2011 been below historic averages, but the municipal market itself has had a solid performance. The 5 year Barclays muni index, for example, has returned +3.4% YTD (or nearly +7% annualized).

But if the unthinkable happens, and the US defaults, the muni market could suffer as well. Moody's warned yesterday that 7,000 municipalities could have their credit ratings downgraded if the US is taken down, which could lead to higher borrowing costs.

Here's an excerpt from an article on Bloomberg:

July 14 (Bloomberg) -- At least 7,000 top-rated municipal credits would have their ratings cut if the U.S. government loses its Aaa grade, Moody’s Investors Service said.

An “automatic” downgrade affecting $130 billion in municipal debt directly linked to the U.S. would occur if the federal level is reduced, Moody’s said yesterday in a report. Additionally, top-rated securities with no direct links to the national government will be reviewed for similar action.

Moody’s Will Cut 7,000 Municipal Ratings If U.S. Debt Downgraded - Businessweek

Somewhere Ms. Whitney awaits vindication.