Asked about the state of the U.S. fiscal situation last week, presumptive Republican presidential nominee Donald Trump floated a novel idea: Stiff bondholders. If the economy tanks again, Trump said he may consider throwing U.S. debt obligations out the window.
But experts have warned that such an idea would roil both the international financial system and America’s economic footing. “Defaulting on our debt would cause creditors to rightly question the 'full faith' commitment we make," Tony Fratto, former assistant secretary for public affairs at the Treasury Department, told ABC News. "It's an insane idea.”
“That would be an outrageous thing to do,” Michael Strain, an economist at the conservative American Enterprise Institute, told the Washington Post. “It could introduce chaos.”
Global investors also wouldn’t take the move lightly. The $13.7 trillion in publicly held U.S. debt constitutes one of the deepest and most important financial markets in the world, forming the bedrock of the global financial system. Creditors ranging from foreign governments to U.S. public pension funds eagerly gobble up Treasuries, confident that the world’s economic powerhouse will pay them back in full.
Under Trump, that confidence could be shaken. The billionaire reality TV star told CNBC last week that he would consider defaulting on American debt. To justify the idea, Trump pointed to his own at-times troubled business dealings.
“I am the king of debt. I do love debt. I love debt. I love playing with it,” Trump told interviewer Andrew Ross Sorkin on CNBC.
Sorkin pressed Trump on his proposal, which he said would allow the U.S. to deal with a growing national debt. “Do you think that there's actually ways that we can renegotiate that debt?” he asked.
“Yeah, I think – look, I have borrowed, knowing that you can pay back with discounts. And I have done very well," Trump said. "I would borrow, knowing that if the economy crashed, you could make a deal.”
But it’s unclear how the Treasury would go about bargaining over its obligations. “No one on the other side would pick up the phone if the secretary of the U.S. Treasury tried to make that call,” Lou Crandall, chief economist at Wrightson ICAP, told the New York Times. “Why should they? They have a contract.”
Trump went on to share concerns that the U.S. debt burden will increase as interest rates crawl up from historically low levels – concerns underlined by the Congressional Budget Office, which sees total annual interest payments on U.S. debt doubling by 2020.
But Trump’s plan could push those costs up more, as investors demand higher interest rates on U.S. debt to account for the fact that the U.S. under Trump was willing to default.
“It would make a bad situation worse and increase U.S. borrowing costs on its debt going forward, because we would have lost our credit rating,” Chad Stone, chief economist at the Center on Budget and Policy Priorities, told ABC News.
Later in the interview Trump shifted his message, clarifying that he didn’t want to renegotiate the bonds. "But I think you can do discounting, I think, you know, depending on where interest rates are,” Trump said. “I think you can buy back – you can – I'm not talking about with a renegotiation, but you can buy back at discounts.”
In other words, the U.S. would buy up old existing debt now and issue new debt at a lower interest rate. But that would also introduce problems, as the U.S. would have to issue debt in order to buy back existing debt, with no guarantee that investors would offer lower rates on the new issues.