4/20/2011 1:40 PM ET|
Is America the new Greece?
S&P analysts issued a warning this week that we have to control our debt or face a credit meltdown. Here's why austerity is our best choice, and how to get ready for it.
The global debt crisis, which started more than two years ago in Dubai, finally has washed ashore in the United States. Along the way, it resulted in deadly protests in Greece and threatened Europe's post-war unity. Now it will bring a new age of austerity to the U.S.
That means higher taxes, reduced spending and cuts in entitlements like Medicare.
Politicians have yet to face it, and the public hasn't accepted it. But the only alternative is a Weimar-style hyperinflation combined with a Greek-style bond market revolt. We'll do the right thing. We have no choice.
Wall Street sounded the alarm April 18 as credit analysts at Standard & Poor's doled out the first U.S. credit-outlook downgrade since the Imperial Japanese Navy bombed Pearl Harbor. Suddenly, the debt issues that cut down the spendthrifts in Athens, Lisbon and Dublin hit us at home.
So is the U.S. the new Greece? Not yet -- our credit rating hasn't been downgraded yet, for one. But there are similarities. Greece's problems stemmed from spending commitments enabled by easy credit, a growing deficit, a public liking for government services and a general dislike for taxes. That made it hard to tackle the problem until it became a crisis.
The situation here is severe. The U.S. economic recovery has been tepid, unlike the roaring recoveries in places like Germany and China. Credit Suisse notes that Gross Domestic Product (GDP) only recently reclaimed its pre-recession peak and is about 7% behind a typical recovery. And the debt load is significant: Besides Japan, there is no other rich world economy in such dire straits.
Here's a look at what the S&P's warning means -- and how to get your portfolio ready for the fallout:
A shot across the bow
The S&P decision signals recognition of the government's growing debt burden and persistent deficits -- as well as the bitter political fight in Washington that threatened a government shutdown earlier this month. The cut, from "stable" to "neutral," means there is a one-third chance of a credit-rating downgrade within the next two years.
The move by S&P was inevitable as politicians play a serious game of chicken with both members of the opposite party and the bond market. The Treasury's outstanding debt nears its statutory limit sometime between the start of May and July, and the fight over raising the limit has begun.
The S&P analysts, while noting the inherent strength and flexibility of the U.S. economy, worried that no significant plan to address the debt will be put in place before the 2012 presidential elections. The real work couldn't begin before the post-election budget proposal for the fiscal year beginning Oct. 1, 2013. That's a long time from now. And waiting would push to the government's debt-to-GDP ratio to dangerous levels.
If nothing is done to curb the borrowing -- or if our credit is downgraded -- the results would be severe. Interest costs would rise. This would make the debt crisis worse by deepening the federal deficit. It would also crowd out private borrowing and increase financing costs for consumers and businesses. Banks would be forced to take losses on their reserves of U.S. Treasury bonds, prolonging the credit drought and weighing on the housing market.
We can't afford to let this happen. But do we have the stomach to take action?
The likes of Great Britain have embraced fiscal austerity despite the social pain and economic damage it causes -- indeed, U.K. GDP dropped 0.5% in the fourth quarter. Greece, Portugal, the U.K. and Spain have all pulled their deficits below the 10% level over the past year. Politicians there have made the hard choices despite electoral rejection and violent protests.
But our policymakers just can't seem to stop spending, borrowing and tax-cutting. Just four months ago, President Barack Obama and Congress teamed up to pass an $858 billion extension of the Bush-era tax cuts, along with additional payroll-tax cuts. These were added despite the fact the 2011 budget deficit is expected to hit nearly $1.7 trillion, or 11% of GDP.
According to the Organization for Economic Co-operation and Development (OECD), OECD, only the United States and Ireland maintain budget deficits of more than 10% of GDP.
We've seen a preview of things to come with the battle in Wisconsin over union rights and the recent budget fight. More acrimony lies ahead. For all the talk of cuts, a Tea Party-driven GOP won the House in 2010 in large part by saying President Obama's heath care plan would cut Medicare and hurt seniors. Obama will use the same argument against the GOP's budget plan. The 2012 election could get ugly.
The trouble with T-Bills
Still, investors are betting the outcome of this debate will be spending cuts and tax increases, if only because the alternative is worse.
You see, the global financial system is built on risk-free Treasury bonds. They are used as trade collateral. They are counted as bank reserve capital. Our creditors, including China and Saudi Arabia, hold huge amounts of them. Unlike Greece, the United States simply can't default or restructure its obligations. That's the price of our unique status as the issuer of the world's reserve currency. That status also brings benefits, including cheap financing and the ability to run persistent trade deficits.
We have to stand by our debt, no matter what.
This explains the wild volatility seen in Treasury trading on Monday after the news of the S&P downgrade watch hit the wires. First there was a plunge, which took down stocks, commodities and crude oil. But within an hour, as traders accepted that painful austerity is the end game and a U.S. debt default is out of the question, T-bonds enjoyed a massive bid and closed positive as yields fell.
The U.S. dollar also moved higher. If all this seems like twisted logic, that's because it is.
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I have no problem with communism (democrats in control). I don't have to think or innovate. I can just go through the motions, knowing I will be paid the exact same low wages...
Then we can all watch our standard of living drop until everyone is poor... We can have big government run everything, determine where to invest capital, and have decades of failed 5 year plans.
Didn't we learn anything from the communists? Why follow the democrats down that path again?
1. Buying real estate, I do not need, full cash.
2. Buying Silver
3. Laying off people.
4. Not investing in my company.
5. "Fiddling" again on reported income. (Last time I fiddled was during the Carter years.)
The new natural rate of full employment will settle at 6.5% to 7% from the historical 4% to 5%.
Why work hard for a smaller return now. I will coast my company and I shall await the next Reagan, then I can work hard again. Meanwhile leisure is an acceptable alternate.
@52&free: The gov't did not "always" spend more than it receives. This is a very modern day problem and swing voters like you cannot make up their mind. Quit trying to swing and quit using Obama bs like this is trying to lose weight. A person loses weight. But you think that the gov't can help? Us lose weight? Because it's like losing 100 or 140 dollars or pounds? Good luck to you and your like-minded thinking citizens, as the smart money has already moved offshorre. Do you want to know what "smart money" means? You're not smart enough to understand.
America can't be the new Greece because we control our own currency and they don't. It's an invalid comparison.
So S&P is sounding the alarm. Let's see, that would be the same S&P that collected all those banker fees for rating their now worthless mortgage derivatives AAA, wouldn't it? How much credibility should they have?
Let these boys pay for cleaning up their own mess by taxing financial transactions. A few cents apiece will raise a lot of money from the people who should be paying.
I mostly agree with you. However you left out one guilty party, either accidentally or intentionally. Large corporate interests who have, through lobbying, managed to loophole 95+% of what they do out of the tax code, or be subsidized by the rest of us.
I think it's safe to say GE doesn't pay its fare share at zero. Lets make sure we get all the bad actors in here.
Bunch of liberal losers blasting rich people again - what else can I expect?
The fact is clear: US is a fairly equal-opportunity country. Citing some left-leaning studies about wealth gap does not invalidate this fact. The last time I check, Harvard give scholarship to hardworking and deserving kids.
So, if you are not rich or well-off (in this COUNTRY), it is most likely that you are lazy, stupid, have poor working attitude, make poor decision or just don't bother to think about making money.
Go ahead to tax hardworking 250k earners like me until I get mad, and I may decide to go to work in China and teach the engineers there to compete with US workers. Or at the minimum, I will move to a low-tax state, reduce my charity contribution, find more tax breaks / loopholes, avoid spending money and / or invest my extra cash overseas instead of in US.
The debt problem we have in Washington and states are not caused by rich people. They have contributed more than their fair share of tax. Most people who want to tax the rich are just so ignorant. (FYI: I paid > 40% of my gross income to all forms of taxes last year - and I say enough is enough)..
The debt problem is a result of irresponsible promise of entitlements to middle class that were created by politicians (mostly democrats, and also many equally guilty republicans). The second (but less important) reason is the military spending. Tax rate from the rich is not the cause of our debt problem. Could you guys please read up more before showing your ignorance?
Except in the case of the government, no one will buy your bonds or accept your worthless dollars in payment anymore. And the complaint I have with the "Repugs" is that they didn't go far enough in demanding spending cuts, and the Dems must be living in their tired old dreamworld, that if we just spend enough, everyone can live happily ever after, and the government needs to take care of everybody. I was shocked to read that only Ireland and the US have deficits in excess of 10% of their GDP. We can't wait for the 2012 election. Action must be taken now! Sadly we are stuck with politicians when we desperately need statesmen. The only problem with democracy is that the people get the government they deserve.
Like happy endings,
Iceland? The land that never met a sub-prime mortgage security they didn't like? The land that literally had a bank implosion and their currency went to next to nothing? The land that had McDonalds close down because they couldn't import the packaging for the burgers at a price that was affordable to even sell the burger? They didn't nationalize the private banker debt but they took on more then enough that they ate a big turd pie and still had an economic collapse.
Only good thing about Iceland is they have already imploded. We're just on the other side of the curve.
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