The real danger of the debt ceiling fight.

It’s not a real default, but a political default.

It’s important to note that nobody believes we can’t pay. This isn’t like Greece’s economic troubles, or a case where some disaster ended our ability to physically make good on our debts.

Some would say that’s good– there’s little chance the markets will react poorly since they know that sooner or later, we can, and likely will, pay our debts.

That is completely incorrect. The fact that this potential default isn’t involuntary, but a process of our political dysfunction makes things worse, not better.  The first point is to remember that bonds, currency, our entire economic structure infact, is backed by confidence, not anything physical.  You accept dollars because the government says they’re legal tender– and because we trust the government to insure that they’re honored. Nations where this doesn’t happen suffer people either not using the currency at all, using a currency that inflates as its value drops.

The system is a trust based system, and the fact that the United States has never defaulted is what keeps the trust up. You invest in Bonds because you know, that unlike the bank of developing-world-land, you won’t find out one day that the nation has decided to nationalize your investments, or simply won’t honor them because the new occupant of the capitol says not to.

And this trust is based in large part on the assumption that the self interest of the United States will trump political manuevering.

But, and this is the dangerous part, if it doesn’t get fixed, if we hit August 2, then that assumption will be proven false– it will prove that in fact the political system in the US is so dysfunctional that self interest no longer trumps politics.

And just as a person who lies once is never fully trusted again, the question on every investors lips will be: “what if this happens again?”  Instead of being a rock solid gurentee, US debt, like many other nations, will become a dangerous investment, where the fear of default is always present.  Yes, you could say it will never happen again– but until now, people were saying there was no chance– not one, of it happening at all. Ask any investment broker and he’ll tell you that political instability is a big part of decisions to not invest in a region– and political instability doesn’t just mean “factions shooting at each other” it also covers political systems that simply can’t make vital decisions, which is what we have here.

And then of course there’s the emotional consequences– the people of the world, if a US political tussle plunges them into a recession, won’t be very eager to trust, or forgive us again.  The fall out from such a default will extend to every form of investment in the United States public and private sector.

And remember, this is, in some political corners, by choice.

We need to remember that, because if we don’t fix this, you can bet your ass that the rest of the world will remember it.