Friday, May 20, 2011
- Don't Raise The Debt Ceiling: Part 2
More and more I like the idea of not raising the debt ceiling. I like it financially and I like it politically. If congress leaves the debt ceiling where it is, then assuming that Obama is responsible enough to continue to make debt payments, we’re talking about roughly a 29% across the board cut in spending. That’s steep and would no doubt hurt, but it wouldn’t be the end of us.
So long as Obama gives every indication that he is going to continue to make our debt payments, the markets will probably like it. It would put a real floor under Treasuries and very likely push rates lower as supply rolls off. But even more important, it would then be a real rate, not the ‘pretend rate’ we’ve been seeing since the start of QE. And with that, prudent companies will show better results than imprudent ones and the market can begin to reward winners and punsh losers - instead of the other way around.
Since the start of QE, equity implied correlation has been at historic levels, and credit upgrades and downgrades have been ignored completely by the market. That means the the difference between a good company, and a bad one was considered irrelevant and the market treated all of them the same. The only thing that mattered was their relationship to the S&P index, and how much money they could get from Washington. It made the value of the dollar the principle risk in stocks, and that overshadowed any difference between companies.
But capping the supply of Treasures would increase the effectiveness of every dollar printed by the Fed. They could get more accomplished with less - substantially reducing the risk of hyperinflation.
It would in effect turn off the treadmill, so the markets can begin to act rationally again. The need for further QE will be greatly diminished, and even if it is needed again, the amount required would be a fraction of what it is now to achieve the same effect. In fact, the effect of a Treasury supply freeze that would come with keeping the debt ceiling might be so pronounced, that the fed may be able to keep the same target rate while actually removing liquidity. Market volatility will go up a little, but so long as Obama acts like an adult, it won’t be enough to cause concern. In short, the markets will be healthier.
Meanwhile down in ‘rainbow and unicorn land’ in DC, Obama will be the one who is forced to decide what is cut and what isn’t. This will give a real window into what actually is an ‘essential’ government service and what is not. Maybe that means the Whitehouse will try to cut all of the money out of the defense department, but there will be serious political consequences to something as irresponsible as that. And DC republicans can simply stand back and say that they trust Democrats to act responsibly and make these decisions on their own - and then force them to live with it at election time.
Keep in mind, I’m not some breathless activist with ammo and MRE’s in my basement hoping the reports of the rapture are true. I’m a professional investor with 21 years experience. I don’t get my ideas from talk radio; the guys on talk radio get their economic ideas from guys like me. And if I'm not seriously worried about a default then the rest of the market won't be either. The more I think about what will happen if the debt ceiling isn’t raised the more I like the idea.
It won’t solve all out problems, and it will create quite a few. But the problems it will create are the same as those that are created for a college kid when their parents cut up their credit card. And I think Washington Democrats can do with a few problems like those. They’ll survive it, and so will we. It won’t be the end of everything.
And the markets will not react as badly as the folks in the media and the Democrat pitch men would have you believe. Until Obama and the Democrats decide that it's more important to provide a windmill subsidy than it is to keep our triple A credit rating, the markets will not rebel at this. Unless you believe that Obama and the Democrats are prepared to blow it all up, (and take 100% of the blame for it) you should support the idea of leaving the debt ceiling where it is.
I really think we should do it. Let’s leave the debt ceiling where it is, and watch the squirming as Democrats try to figure out how to find the money. Lets see how many Muslim outreach programs, illegal alien healthcare proposals, and rodeo cowboy festivals are essential then.
So long as you believe that DC Democrats are both competent enough and responsible enough, then you should support leaving the debt ceiling where it is.