let’s think about how market prices respond to default risk. Oh yea, the market prices of long-term bonds would fall, which would mean that their yields would be higher.
My point was that if markets expect the U.S. Federal government to default on its obligations in about 20 years, the yield on long-term Federal bonds would be higher than what we currently observe.
Lester Pimentel and Helen Murphy of Bloomberg report:
Ecuador’s bonds had their biggest – ever decline after the incoming finance minister said the government may restructure its $11 billion debt in a way similar to Argentina, which defaulted on $95 billion in 2001. Ecuador’s benchmark 10 percent bonds due 2030 tumbled after Ricardo Patino said yesterday president-elect Rafael Correa’s administration will meet with bondholders next month to discuss a plan that “may be more like what happened in Argentina” … The yield on the bonds today surged 184 basis points to 13.32 percent.
The yield on Ecuador bonds reflects a significant probability of default. So far – we see no such evidence as far as U.S. Federal bonds. Alas – we haven’t seen any evidence that President Bush will spend political capital on fiscal responsibility.