U.S. Officially Reaches Debt Ceiling

Treasury to start using pension funds Monday to pay for spending

WSJ
May 16, 2011

The U.S. government is expected to hit the $14.294 trillion debt ceiling Monday, setting in motion an uncertain, 11-week political scramble to avoid a default.

The Treasury Department plans to announce Monday it will stop issuing and reinvesting government securities in certain government pension plans, part of a series of steps designed to delay a default until Aug. 2.

The Treasury’s moves buy time for the White House and congressional leaders to reach a deficit-reduction agreement that could clear the way for enough lawmakers to vote to raise the amount of money Congress allows the nation to borrow.

Gene Sperling, director of the National Economic Council, said reaching the debt ceiling “should be a warning bell to the political system that it’s time to get serious about preserving our full faith and credit.” The Obama administration says a default would tip the U.S. back into a financial crisis.

But the pathway to a deal remains unclear, even to those doing the negotiating. The White House and Republicans are giving conflicting signals about how close they are to a deal. Vice President Joe Biden said last week the contours of an agreement were taking shape. House Speaker John Boehner painted a different picture Sunday, saying on CBS’s Face the Nation “I’m not seeing any real action.”

Many Republicans and some Democrats have said they won’t vote to increase the debt ceiling without an accompanying deal to cut spending or tackle such longer-term fiscal problems as health-care costs. They argue the debt ceiling is a good venue to force changes needed to help secure the nation’s solvency.

People familiar with the negotiations led by Mr. Biden say they are looking at cuts to agriculture subsidies and federal retirement programs, stepped-up antifraud efforts, increased premiums for pension plans backed by the Pension Benefit Guaranty Corporation and the sale of wireless spectrum and government properties.

The talks are at an early stage and potential areas of agreement are preliminary, officials warn. But Democrats have not ruled out some thorny issues, according to people familiar with the negotiations, including reforms to the pension program for federal workers.

The areas being examined amount to a sliver of the $4 trillion goal officials have set for deficit reduction over the next 10 years.

And taxes remain a roadblock. Republican leaders say tax increases can’t be part of any deficit plan, but White House officials have said any plan must include revenue increases.

Mr. Sperling said the White House wants an agreement “weeks in advance as opposed to being in stalemate in late July where everything is coming down to the wire.” Mr. Boehner appeared to agree, saying Sunday a deal doesn’t “have to wait until the eleventh hour.”

A group of House Republicans has questioned the validity of the August deadline, suggesting the Treasury could sell assets, such as gold reserves, to keep paying creditors. Treasury officials have rejected the idea, but could be forced to rethink if talks stall.

The U.S. government has hit the debt ceiling before, most notably in 1995 and 1996 when the Clinton administration and House Republicans squared off over government spending. Eventually, though, lawmakers reached deals and the country hasn’t defaulted on its debt in modern history.

Bankers and business executives warned lawmakers last week that default could trigger a financial crisis, sending interest rates soaring, which would make it harder for families and businesses to borrow. That’s because a default would throw into question the value of U.S. Treasury securities, long considered one of the world’s safest investments. Many loans and business deals are based on the value of Treasurys, and if their value eroded the impact would be felt broadly.

Because the government is projected to run a $1.5 trillion deficit this year, it must borrow money to cover its obligations, ranging from military spending to interest on existing debt.

Lawmakers have not felt pressure to act yet in part because markets have remained stable, and the yield for U.S. government debt remains low.

Yields on 10-year Treasury notes have fallen from more than 3.7% in early February—when Fed officials and others began warning of catastrophic consequences if the debt limit was breached—to below 3.2%.

If investors had serious concerns about a default, they likely would be selling bonds, which would in turn push up their yields. Bond yields have instead been moving down in part because the economy seems to be slowing. Commodities prices also have tumbled, which holds down inflation and puts downward pressure on bond yields.

If officials get too close to Aug. 2, government officials might have to decide which of the country’s creditors to pay and which payments they will suspend or stop.

Treasury officials so far have deflected questions about which creditors would be given priority. Treasury Secretary Timothy Geithner said in a letter to Sen. Michael Bennet (D., Colo.) last week that failing to raise the debt ceiling would lead to a default on obligations “such as payments to our service members, citizens, investors, and businesses.”

In Socialist Spain, CajaSur is Seized, Nationalized

In the meantime, the IMF is urging Spain to do more to slow down the crisis.  Dominic Strauss Kahn says Spain has an irregular job market, a housing bubble that is about to explode, a huge fiscal deficit, a weak banking system which is not competitive and a growing debt with foreigners.  Although Strauss Kahn called Zapatero’s efforts important, he also said such changes are not enough.

Market Watch

Based in the southern city of Cordoba, CajaSur has $16.36 billion of loans outstanding and holds $23.9 billion, or 0.6%, of the assets within Spain’s financial system, the reports say.

CajaSur on Friday determined not to go ahead with a plan reached in August to merge with a bigger lender, Unicaja of Malaga. The failure of that plan prompted the authorities to take over CajaSur, reports say.

For 2009, CajaSur posted a net loss of 596 million euros ($750 million). Bank of Spain officials estimate that restoring the bank to solvency will require about 500 million euros of fresh capital, reports say.

CajaSur, which had been controlled by the Roman Catholic Church, was the second Spanish bank failure in a bit more than a year, reports say. In March 2009, the Spanish central bank seized control of Caja Castilla-La Mancha.

The seizure of CajaSur comes against the background of international concern about Spain’s creditworthiness. This month, the European Union put in place a financial backstop against the prospect that Spain and other countries could default on their debt.

US faces same problems as Greece

UK Telegraph

Mervyn King, Governor of the Bank of England, fears that America shares many of the same fiscal problems currently hauntingUSEurope. He also believes that European Union must become a federalised fiscal union (in other words with central power to tax and spend) if it is to survive. Just two of the nuggets from one of the most extraordinary press conferences I have been to at the Bank.

What with all the excitement yesterday over our new Government, I never had time to remark on the Inflation Report press conference. Most of our attention was on what King said about the Government’s fiscal plans (a ringing endorsement). But, as Jeremy Warner has written in today’s paper, it was as if King had suddenly been unleashed. Bear in mind King is usually one of the most guarded policymakers in both British and central banking circles. Not yesterday.

It isn’t often one has the opportunity to get such a blunt and straightforward insight into the thoughts of one of the world’s leading economic players. Most of this stuff usually stays behind closed doors, so it’s worth taking note of. And I suspect that while George Osborne will have been happy to hear his endorsement of the new Government’s policies, Barack Obama and the European leaders will have been far less pleased with his frank comments on their predicament.
The transcript and video are online at the Bank’s website, but below are the extended highlights, all emphasis mine. Well worth checking out.

America, and many other large economies including the UK, share some of the same problems as Greece with its public finances:

Every country around the world is in a similar position, even the United States; the world’s largest economy has a very large fiscal deficit.And one of the concerns in financial markets is clearly – how will this enormous stock of public debt be reduced over the next few years? And it’s very important that governments, both here and elsewhere, get to grips with this problem, have a clear approach and a very clear and credible approach to reducing the size of those deficits over, in our case, the lifetime of this parliament, in order to convince markets that they should be willing to continue to finance the very large sums of money that will be needed to be raised from financial markets over the next few years, at reasonable interest rates.

On why Europe will have to become a federalised fiscal union:

I do not want to comment on a particular measure by a particular country, but I do want to suggest that within the Euro Area it’s become very clear that there is a need for a fiscal union to make the Monetary Union work. But if that is to happen there needs to be also a mechanism to enable other countries that have lost competitiveness to regain competitiveness. That requires actions, probably structural reforms, changes in wages and prices, in the countries that need to regain competitiveness. But it also needs a solid and expansionary state of domestic demand in the stronger economies in Europe.

On the deficit:

The most important thing now is for the new government to deal with the challenge of the fiscal deficit. It is the single most pressing problem facing the United Kingdom; it will take a full parliament to deal with, and it is very important that measures are taken straight away to demonstrate the seriousness and the credibility of the commitment to dealing with that deficit.

Why it is right that the Government wants to cut spending as soon as this year:

We see the recovery beginning to take place, and we expect that the pace of that recovery will pick up. But we’ve also seen the market response in the past two weeks, where major investors around the world are asking themselves questions about the interest rate at which they are prepared to finance trillions of pounds of money that will need to be raised on financial markets in the next two to three years, to finance government requirements around the world. And that I think has been a sobering reflection of what can happen if you don’t make very clear at the outset – I think markets were not expecting any action before the election. After the election they need and they want a very clear, strong signal and evidence of the determination to make it work.

And I think that it’s quite difficult to make credible a commitment to fiscal consolidation if all the measures are somehow in the future. You need to start and get on with it….

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