Cognitive Dissonance and the Debt-Ceiling Morass

The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.

NEW YORK ( TheStreet) -- Cognitive dissonance -- a refusal to accept objective facts that define rational behavior -- is at the root of impending disaster in Washington.

House Minority Leader Nancy Pelosi and her colleagues simply won't accept that the two wars, Bush tax cuts and prescription drug benefit for seniors didn't cause the deficit. To point: In 2007, the last year before the financial crisis and with all the aforementioned in play, the deficit was a manageable $161 billion -- that's a fact the left simply won't address

In 2011, in the second year of the economic recovery, government spending is up $1.1 trillion, even though only $200 billion was needed to accommodate inflation. Federal spending is up from 19.6% of GDP to nearly 26%.

This increase is mostly caused by: additional regulatory costs; newly legislated additions to Medicare and Medicaid benefits and rising health care prices accelerated by "health care reforms" championed by President Obama and congressional Democrats; and a population that lives longer while politicians refuse to further raise the retirement age.

Congressional Democrats and the president cannot accept that more taxes are not the answer. Even if every tax and fee the government collected were raised by 50% -- something that is not possible because many activities would leave the country and some folks would choose to work less -- the deficit would still exceed $600 billion.

President Obama's taxes on families earning more than $250,000 would raise a paltry $80 billion, and even if all Americans and businesses were taxed more aggressively, the deficit could not be lowered to less than $1 trillion. At that, the nation would be cast into a permanent recession, akin to the 1930s.

Entrenched Opinions

Simply, the national budget cannot afford the additional programs and benefits Leader Pelosi and President Obama have created, and they won't even entertain a discussion of those facts.

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Over on the Republican side, the Tea Party, led by House Majority Leader Eric Cantor, refuses to understand that the 2010 election victory gave Republicans control of one-half of one of the two political branches of government. Control of one-quarter of lawmaking gives Republicans a veto over changes in national policy -- including raising the deficit ceiling -- but it does not put them in a position to impose systemic change.

Speaker Boehner, perhaps the only adult playing the game, has come up with a modest plan to keep the country from diving into the abyss on Aug. 2, while cooler heads might prevail this fall; but Republican conservatives and President Obama are refusing to even discuss it.

Both the President and the Tea Party, protestations to the contrary notwithstanding, demonstrate by their deeds they are willing to risk a default on U.S. debt to get their way.

Treasury Secretary Geithner is running around telling everyone the U.S. will be out of money and default on Aug. 2 when it will still have lots of cash and only will default if he and the President so decide.

The federal government still will collect taxes and other fees exceeding $180 billion per month; and interest payments on the national debt eat up less than $30 billion. If the Treasury prioritizes expenditures -- as did the state of Minnesota during its partial shutdown -- it could pay interest on bonds, roll over bonds coming due, and pay Social Security recipients and many other obligations.

Standard & Poor's may downgrade the U.S. -- but the fact is it is threatening to do that next year no matter what deal is reached now to raise the debt ceiling. Even though the ability to print dollars means the U.S. will never truly be compelled to default, it applies the same analysis to big countries printing international reserve currencies as it does small ones without reserve currencies.

Reaction to Japan

For example, bond-rating agencies ludicrously downgraded Japan because of its large debt, when the Japanese owe the money to themselves. The Japanese save too much, the government sells them bonds and spends the money for them. They don't have the big external debt like the U.S., the Bank of Japan controls a reserve currency, and Japan is a net creditor country.

The markets simply did not validate the downgrade. The Japanese are not paying higher interest rates for their debt, as prophesized will now happen to the U.S.

Simply, there are no good substitutes available to global capital markets in sufficient quantities for the dollar and dollar-denominated sovereign debt. After the melodrama of Friday through Sunday, Asian markets were supposed to crash Monday morning but didn't.

In the short term, though, panic may ensue on Aug. 2, because Treasury Secretary Geithner has not presented a backup plan. But if the interest is paid on U.S. bonds, after a time, the markets should adjust to the fact that the U.S. is in a political crisis, which eventually will resolve, and is not fundamentally insolvent -- or even near so -- in the manner of Greece or developing countries that occasionally get into similar messes.

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Professor Peter Morici, of the Robert H. Smith School of Business at the University of Maryland, is a recognized expert on economic policy and international economics. Prior to joining the university, he served as director of the Office of Economics at the U.S. International Trade Commission. He is the author of 18 books and monographs and has published widely in leading public policy and business journals, including the Harvard Business Review and Foreign Policy. Morici has lectured and offered executive programs at more than 100 institutions, including Columbia University, the Harvard Business School and Oxford University. His views are frequently featured on CNN, CBS, BBC, FOX, ABC, CNBC, NPR, NPB and national broadcast networks around the world.