Saturday, July 16, 2011

Debt ceiling debate, deficit reduction, spending cuts and the 800-pound gorilla in the room!

Politicians in Washington play the ultimate game of political football as they debate the debt ceiling, raising taxes, deficit reduction and spending cuts!

Meanwhile the 800-pound gorilla in the room, treasury yields, don't get much attention!

The big news out of Washington is the debate going on over when and how the debt ceiling will be raised so that government bills can continue to get paid.

The discussions are being politicized of course, led by the candidate-in-chief Barack Obama who is waging a war of fear.

The attempt to create fear among the citizenry stems from a U.S. debt default and the fact that entitlement checks won't go out if the debt ceiling is not lifted by August 2nd.

This disingenuous fear mongering over the debt ceiling neglects to mention the fact that if the debt ceiling is not raised, the principal and interest due on government debt, as well as social security checks, would still go out.

Other, less critical portions of the government would have to be temporarily be cut or shut-down, potentially a good thing particularly if they were never re-opened.

But what is one of the truly dangerous and seldom discussed problems we may face in this country, not from the debt ceiling debate, but by continued fiscal irresponsibility?

U.S. Treasury yields are the dirty little secret that is dirty, but not so secret

We have looked before at the enormous yields on EU sovereign debt being demanded by investors due to the dangerously poor fiscal shape that many of the EU countries find themselves in.

Then consider that U.S. deficit reduction and spending cuts depend to a very large extent on the projections of yearly debt service (principal and interest payments) for the country's outstanding bonds.

Then imagine for a second if those projections were blown out of the water by skyrocketing bond yields!

These increases in bond yields would not result from a ratings downgrade from AAA because that move would largely be ceremonial.

The yield increases would stem from the fact that global investors would have become sick and tired of the fact that the U.S. cannot and will not get its fiscal house in order.

The flight to quality, safe haven and risk-free status of U.S. government debt could become tainted by the country's lack of any semblance of fiscal discipline, and we would then slide down the slippery slope to becoming just another one of the worlds economic PIGS!

Let's remember that political expediency and rhetoric do not pay the bills!

And let's also remember that if costs to pay those bills spiral out of control through a spike in Treasury yields, we will be squarely on that slippery slope that Europe finds itself on!

Global 2-year bond yields

U.S Treasury 2-year yield: .37%
Greece 2-year yield: 33.06%
Portugal 2-year yield: 19.03%
Spain 2-year yield: 4.22%
Germany 2-year yield: 1.22%
Italy 2-year yield: 4.22%
France 2-year yield: 1.54%

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