jakke

Aug 01 2011 ∞

“ Bonds issued by the governments of Israel and Egypt that are guaranteed by the US government were also placed on review for possible downgrade.

— Just noticed this in Moody’s most recent report on the US Treasury credit rating. I didn’t know the US government was in the business of backing other countries’ debt, but apparently that is the case.

(Source: moodys.com)

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+ ∞

regarding the debt ceiling deal

You can read about it here, if you’re so inclined. It’s a big messy compromise with massive cuts and a two-stage debt ceiling hike and a cost-cutting super panel and triggers for huge spending cuts and a balanced budget amendment to the US Constitution. (I’m actually not sure that a deal that is to the right of the Republicans’ initial bargaining position can be considered a compromise but apparently this is the only thing that both party leaderships could agree on.)

As far as I can tell, there are some really serious problems with this deal from a policy perspective:

The budget cut triggers. If the super panel’s recommendations weren’t adopted in the spring, then this compromise would trigger massive spending cuts to defense, Medicare, and other big-ticket nondiscretionary areas. This is intended to guarantee Congress would consider the panel’s recommendations seriously. Unfortunately, this basically never works; historically Congress passes new laws to get around politically unpopular cuts. So this attempt to foist the deficit issue off on a distant and separate panel would almost certainly be just as unsuccessful as every other deficit-fighting panel that the US Congress has created in the last few decades.
The balanced budget amendment. If Congress didn’t adopt all the super panel recommendations, they’d have to send a balanced budget amendment to the states for ratification. You’d probably think this has no chance of passing, as it would absolutely devastate the American federal government’s ability to fight wars or recessions or natural disasters, but 74% of American adults polled last week supported such an amendment. That’s a higher proportion than basically any other policy proposal - so this is actually something that states would likely consider and debate, and some would ratify, and it’s something that would be a big part of political discourse in 2012 campaigning. This would be massively suboptimal.
The US Treasury credit rating. This new deal might not be sufficient to prevent a downgrade of US credit by the big credit rating agencies. Specifically, since the deal (not including the panel recommendations) doesn’t raise revenue and doesn’t cut entitlement spending, and the process for raising the debt ceiling hasn’t changed, it’s relatively likely that at least S&P will downgrade the reliability of US government debt - because bondholders won’t be guaranteed that this exact same thing won’t happen again in the future. This would raise government borrowing costs by around $100 billion a year.

Despite all these problems, I’m going to say the odds that this passes are about 80%, because the alternative is seriously suboptimal. The most likely failure point would be in the House, where the Tea Party types are going to vote against anything and leftist Democrats probably won’t want to be on record supporting this proposal. A filibuster in the Senate is possible, I guess, although that would be really effing malicious. (Or a personal hold, although I’m not sure if that would even be respected in this situation.)

If this passes, I’m guessing markets will gain a couple hundred points right away, and then (as real economists have noted) the US will see a sharp slowdown in growth and rise in unemployment as the cuts are implemented. Most likely the panel’s recommendations will be somehow circumvented in the spring, and then things will go back to the status quo until the next debt ceiling fight.

If this doesn’t pass then the debt ceiling doesn’t get raised in time and the US Treasury runs out of cash. From there, things would go really poorly. I’m not sure if it would be like TARP, where Congress votes for something really unpopular in the face of market panic - there might need to be more negotiations, and I’m really not sure what that would look like in the context of government shutdown.

36 notes

Jul 30 2011 ∞

U.S.: In state of denial over taxes?

Either Americans don’t realize their economy is taxed less than other major economies, or they just have a different standard of what an appropriate tax level is,” said Prof. Betcherman, who spent a decade at the World Bank in Washington.

Most of the rest of the developed world – Canada included – has managed to bear higher tax burdens for decades, without grinding their economies into the ground. Economists say even an economically weakened U.S. could cope with a heavier tax load.

The total tax burden on Americans, as a percentage of gross domestic product, stood at 24 per cent in 2009 – lower than it was in 1965 and still falling. That compares to 31.1 per cent in Canada, 34.3 per cent in Britain, 42 per cent in France, 37 per cent in Germany and 43.5 per cent in Italy. The Japanese, Australians and South Koreans all pay significantly more.

The United States is the only major country without a national value-added tax and its sales taxes are lowest in the OECD. Likewise, U.S. fuel and sin taxes are at the bottom among rich countries. And generous tax breaks mean many businesses and individuals pay few taxes, placing a heavy burden on a relatively narrow tax base.

“The U.S. has the fiscal capacity to raise taxes, unlike southern Europe, where they can’t afford to pay more,” remarked Ian Lee, a Carleton University business professor. And, he said, that explains why foreign investors are still willing to lend the country money at low rates, even as the debt ceiling deadline nears.

Yeah, pretty much. The assumption that taxes can gradually drift downward over time but spending can stay strong makes absolutely no sense - and now making a few cosmetic changes and then charging on with the same plan isn’t really going to change this basic logic. Hoping that if a massive cuts package ever does make it through, Americans will realize just how bad they’d have it if they had the government they’re currently paying for, and change how they feel about taxation.

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Jul 28 2011 ∞

“ The U.S. Treasury will give priority to making interest payments to holders of government bonds when due if lawmakers fail to reach an agreement to raise the debt ceiling, according to an administration official.
The official requested anonymity because no announcement has been made. The Treasury has said about $90 billion in debt matures on Aug. 4 and more than $30 billion in interest comes due Aug. 15. Overall, more than $500 billion matures in August.

—

Here’s confirmation that bondholders get first dibs on whatever money the US Treasury has left when they start running out after 2 August.

This sounds seriously suboptimal for, I don’t know, government employees or pension recipients or anyone else hoping to get their cheques - and it is. But if the US Treasury didn’t make those debt payments, then they’d be totally effed when they wanted to borrow money again once the debt ceiling was raised, since investors would have lost a lot of trust. And remember, constant borrowing is absolutely essential to keep the current system running smoothly (hence all the fuss about the debt ceiling). So this was really pretty inevitable.

(Source: bloomberg.com)

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Treasury to Detail Bill Paying Plans No Earlier Than Friday

Specifically, they’ll be waiting until after markets close Friday. This is a pretty long delay in letting the public know what the priorities are. I’m assuming state and local governments and many government employees already know their parts of the plan, but for government aid recipients, contractors, and investors, this is stretching the uncertainty out pretty far. (Obviously investors don’t need to worry about suspension of interest payments because the US Treasury would never ever do that.)

There are a couple reasons to make the delay this long. First, from close in New York on Friday until opening in Tokyo on Monday is 51 hours, so that’s lots of time for everyone to understand what’s happening and why they’re not effed. More importantly, by not pointing out what they can prioritize, they don’t give any members of Congress the ability to say “oh hey this shutdown doesn’t sound so bad since it doesn’t really affect me or my five largest donors” because if they start thinking like that, then they might vote down a debt ceiling increase.

So yeah, kind of bleak that the US Treasury has to treat legislators like that, but also kind of inevitable.

1 note

Jul 27 2011 ∞

so if a US Treasury downgrade didn’t sound bad enough already

A decision by ratings agencies to downgrade US Treasury debt from AAA - that is, for ratings agencies to formally announce that US Treasury debt was no longer totally ubersafe from the risk of missed payments - would have an almost-automatic knock-on effect to the ratings of state and municipal debt. This is because the federal government implicitly guarantees states and municipalities; investors are pretty sure that if states or big cities started to default, the federal government would step in with some sort of emergency rescue. Obviously, if the federal government can’t be trusted to make its own payments, then there’s absolutely no hope that they’re going to bail out lower-level government at the same time.

Specifically, the states most at risk are Maryland, New Mexico, South Carolina, Tennessee and Virginia, which all currently have AAA ratings but would likely lose them if the federal government was downgraded. All of these states have quite a bit of debt, and also Maryland and Virginia host a whole lot of federal government offices which can look forward to some exciting and unpredictable shutdowns if this debt ceiling thing becomes an issue. Other states could have troubles too because they depend on transfers from the federal government.

So that’s kind of exciting, right? Borrowing costs go up for basically everyone in the event of a downgrade, if investors react the way they usually do. JP Morgan puts the cost at $100 billion per year in higher interest payments. This is absolutely not what a country already faltering economically needs right now.

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Jul 26 2011 ∞

AAA-rated government bonds are used to back basically all futures contracts, to provide ubersafe assets to big banks and pension funds, to stabilize currency fluctuations, and to serve as totally-safe better-than-cash assets in a whole wide variety of situations. If a government loses its AAA rating, its bonds can’t be used like this anymore, because big institutional investors no longer regard them as 100% safe.

So AAA debt is a really valuable renewable resource to global financial markets. And a big orange wedge on that chart above is currently risking downgrade. If the US Treasury is downgraded, anything that’s backed with US Treasury bonds suddenly becomes a little more risky and a little less valuable, all at once. Through the magic of leveraging, that corresponds to trillions of dollars of outstanding transactions, which would stand to lose billions of dollars in value. And there’s no good substitute to use in the meantime, because there aren’t that many AAA-rated governments and many of them are small countries (like Denmark or Luxembourg) with relatively little outstanding debt.

Hopefully this explains why a potential US downgrade could cause some really serious issues for global markets.

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so Boehner probably can't get his proposal passed

This is way out of my realm of expertise, but if his plan fails, wouldn’t that mean that basically nothing can pass the House? Like, as far as I can tell, the House consists of the following four groups of legislators (in descending order of size):

Mainstream Republican legislators who will basically support whatever Boehner proposes.
Mainstream Democratic legislators who will basically support whatever Obama, Pelosi, et al. propose.
Republican Study Committee types who will not vote for anything less than a balanced-budged amendment and would basically be okay with driving the government into the ground.
Incumbents in vulnerable districts who will vote “no” on anything in case it turns out to be unpopular.

Like, that’s about it, right? And I’m not sure on the numbers, but it seems that if group #1 can’t muster a majority, group #2 certainly can’t. Group #3 has already seen their pet proposal fail, and group #4 are useless and incompetent and will never contribute meaningfully to any solution. So how can anything currently under consideration ever pass?

Sorry if this sounds really ignorant. I just don’t understand why they’re wasting a day voting on this if it’s not even going to clear a single chamber.

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+ ∞

so this morning’s debt auction went just fine

So there won’t be any panic yet. Actually, I’m thinking there won’t be any steep market selloff unless one of the following (relatively unlikely) events happen:

Ratings downgrade. All three big ratings agencies have warned this could happen, especially if the US government keeps racking up huge deficits and then having a tantrum every time they need to raise the debt ceiling. I think it’s rather unlikely that they’ll actually do it, though, as ratings agencies tend to be super conservative about changing ratings.
Selloff by central banks. If they no longer trust US Treasury (or if for some reason China thinks it’s strategically beneficial to trigger a massive selloff) then they could start reducing their holdings. Central banks are super risk averse. But this is very unlikely as there is no good alternative - there’s nothing as big as the US Treasury bond market, and eurozone countries have problems too because the banking sector there is so risky. (Not sure how the Chinese government thinks though.)
Missing the deadline. This is the really obvious one. Everyone’s been counting down to 2 August as the ultimate deadline, even though this was a too-conservative estimate by the Treasury. If that deadline passes, investors might realize “oh hey these people seriously don’t give an eff about the economy” and react accordingly, even before payments get missed. This seems like the most likely risk, although I don’t know if Congress is filled with sufficiently irrational and/or horrible people to let this happen.

So we can probably relax and enjoy the spectacle for the rest of the week. Probably?

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Jul 25 2011 ∞

Here’s a screenshot of the US Treasury’s upcoming auctions page right now (with some brackets that I added with my unreasonably shaky hands, on the left-hand side). This is a list of all the auctions at which they’re planning to issue debt in the near future. For obvious reasons, this is a particularly interesting read right now. Here’s what’s going on here:

The auctions bracketed in pink are totally standard run-of-the-mill bond auctions. These were announced on 21 July, so plenty of notice, and the only noteworthy thing is that these auctions start tomorrow. So they are definitely worth watching, because if investors are going to start getting fretful, this is a very likely place for them to start.
The blue auction is for a five-day bond. This is a “cash management bill” which covers temporary cash shortfalls, although a duration of just four days is particularly short, and the advance notice was really minimal. Basically, this is something the Treasury has just decided on today to cover as many expenses as possible up until the debt ceiling. Note that the maturity date is the magic 2 August deadline. (The pink 28-day auction is also a cash management bill.)
The green auctions are the Treasury being optimistic. These auctions will happen on Thursday only if legislation raising the debt ceiling passes by Wednesday - note that the issue dates are 4 August, so they wouldn’t technically be issued under the current debt ceiling. It’s very unlikely these auctions will proceed as planned without the debt ceiling hike.

So the takeaway here is that the Treasury is really gearing up to max out the current debt limit before the deadline, and they’re also ready to keep going smoothly with business as usual if the debt ceiling gets raised in an orderly manner by Wednesday. (If it isn’t raised by Wednesday there are also some kind of legislative issues with getting it through the Senate in time but that’s way out of my field.)

Also, note that unlike a government shutdown caused by a budget deadlock, a government shutdown caused by a debt ceiling deadlock cannot be instantly resolved by passing a bill. The Treasury actually has to hold an auction first, and then actually issue the bonds in return for cash (which can then be used to keep the government operational). Under normal circumstances, this can take days; under rushed circumstances, it will still take several hours. So passing something at 11:59 pm on 1 August doesn’t really solve the problem very effectively.

18 notes