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Another credit downgrade coming with the debt ceiling fight?

The treasury department is currently engaging in extraordinary measures of moving money around to meet the government’s commitments.  Congressional Republicans are finalizing a list of requirements they will demand that the administration meets in order to ensure their cooperation.   However, bond rating agencies have already stated that another round of fights may trigger another credit downgrade of U.S. Treasuries.   Is another credit downgrade coming with the upcoming debt ceiling fight?

Counter arguments have been made by some U.S. politicians that not increasing the debt limit will not be as dire as predicted because Congress could authorize payment of principal and interest on existing U.S. debt, while not paying other obligations in other areas.   However, bond rating agencies such as Fitch has indicated that such a ploy may basically be considered a thinly veiled default and may well still trigger a review of the Government’s credit rating.   Their view is that this is nothing more than debt prioritization, which pays certain obligations but not others, and is just another term for default.

Politicians have already shown that they are apparantly willing to use the debt ceiling to score perceived short term political points on an issue that will be forgotten in a few weeks at the expense of the nation’s credit, rather than compromise, or at least make it a priority not to fight on such a critical issue.   The nation’s credit deserves far better than this from both parties.  It appears that the extreme wings in both parties are driving the debate to a head.

Another major danger in this type of fighting is that the debt limit has to be increased every few months, or roughly every year at the longest because it is only increased by a relatively small percentage on each occasion.  If the branches of Government would agree on a plan to raise the debt ceiling ongoing by an agreed set of circumstances, these credit downgrade threats would largely go away.

Why Businesses get hurt if debt ceiling isn’t raised

Many business owners are conservative.   They obey the laws, watch their spending, and are cautious.   Many will say that the Government should not increase the debt ceiling knowing that the Government will be taking on more new debt.    It is a good idea for the Government not to take on new debt, but not this way.

Currently, the Government spends over 40% more than it takes into it’s coffers in revenues.   Economists have argued in past years,  by what percentage the Government can cut it’s spending in one year without hurting the economy, and many Economists felt that a cut of just 4% per year would slow down the economy short term, even if long term it benefits the country.

If the debt ceiling is not raised, or raised within one or two days after the deadline, the stock market will take a major dive.  Individuals will pull back on spending until they are comfortable with what will happen.  Large Corporations will follow suit and put on hold and delay any hiring or expansion plans.    Interest will continue to be paid or the country would suffer a true technical default.   World markets will truly be aghast and dive mostly due to the reckless self destruction.   Moody’s and Standard and Poors may impose another credit downgrade, further aggravating markets.

The Government will truly be forced to choose who receives Government money and who does not.   Watch in amusement as some of the same Congressmen and Senators who voted to not raise the debt ceiling suddenly demand that the flow of money continue for their districts.   Unemployment benefits, assistance for farming, highway money, and Government contractors will undoubtedly be among the first victims of a massive spending cut.   Companies that provide products for the military will also take massive cuts because Congress will make every effort to pay the soldiers.   If the department of education takes cuts this will cut funding to colleges and schools.   Other departments such as the Commerce department, the department of labor, and the State Department would all very likely take cuts.

While many people feel this would be good in principle, the state department includes funds for Embassies and Consulates, including the defense of those organizations.  The commerce department includes food safety and inspection.   Funding for Ports and border security have to be considered.    If the Department of Homeland security is cut, then many functions now happening would slow down.   Many of these employees would be temporarily cut.

The media effect would be tremendous.   Media outlets will interview unemployed and furloughed employees who will vent vicious frustrations.    Public opinion polls will reflect the worst ratings for Congress ever in it’s history.    Such a situation will be guaranteed not to be long term.    Congress will then quickly raise the debt ceiling.   Renewed talks of whether tax increases are justified in order to pay for desired services will begin.    People will realize the value of services lost, previously taken for granted.    Once it is accepted that the national debt must be address long term, their new found dependence of services will be weighed versus revenue increases and future proposed spending cuts.

Why the Debt ceiling is the most dangerous battle

Of the 3 major battles that are in process, the Fiscal cliff, the delayed spending cuts and the debt ceiling, the debt ceiling holds the most danger to the economy and the country.   The reasons have to do mostly with the dollar amounts are larger, those larger cuts are more sudden and the bond rating agencies have targeted a debt ceiling fight as a bellwether of whether they will downgrade the countries credit rating again.

Let’s compare all three.   In the most recent fiscal cliff battle, revenue rates were increased for those earning over $400,000 per year form 36% to 39%.    Those with incomes over $400,000 represent approximately 1% of the population.    Spending cuts were supposed to take place in the range of $1.6 trillion over 10 years through and where those cuts are supposed to occur is still a matter of debate.   Republican House Speaker John Boehner
(R) – Ohio, Senate Majority leader Mitch McConnell, (R) – Kentucky, and many in the rank and file membership of the House and Senate want to have major cuts in entitlement programs such as Medicare and other Government programs, possibly including the department of Education, the EPA, Environmental Protection Agency, and many others.
The most significant fact is that the cuts are supposed to be approximately $1.6 trillion over 10 years, which represents $160 billion per year, which represents only approximately 5% of the Government’s budget per year.

– The debt ceiling is much more dangerous for 2 reasons.    If it is not raised, it represents
a much larger cut, 40% to 45% immediately versus the 5% or somewhat larger cut being
negotiated in spending within the next 60 days.

Example of the numbers:

The government’s current budget is approximately $3.4 trillion dollars per years.   At the same time, government takes in approximately $2.2 trillion dollars per year in revenues, creating an approximate $1.2 trillion dollar budget deficit.   It has to borrow the difference. If the debt ceiling is not raised, it cannot borrow any money.    This means the government will have operate on $2.2 trillion per year instead of $3.4 trillion.    A shock of 40% plus in spending cuts will trigger massive austerity reductions in programs.    If these occur, expect the shock to immediately reverberate through the general public within days or less.

What next with Debt Ceiling?

When both houses of Congress rejecting the other chambers debt ceiling bills, and harsh public rhetoric accompanying the rejected bills, actual progress and results seem out of reach at the moment.    What’s next?

Whether both houses of congress realize it or not yet, they will have no choice but to raise the debt ceiling, whether it is in the next couple of days or weeks.

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Since some body, organization, or entity is now receiving the approximately $100 billion per month that the government now overspends, it would probably be the surest bet in Vegas that once that money stops, the politicians will suddenly be under immense pressure to put the funding back in place, even by many who previously had been in favor of cutting spending – they just didn’t realize it would be spending they receive.

The other option is that the Senate and Congressional leaders put a bipartisan bill through that passes both the house and senate and the president signs.  This may still happen, even with the loudest of objections at the moment.