We shouldn’t dread the debt limit
“Have a drink out there, folks, and just know that your kids and grandkids will be out there picking grit with the chickens,” says former U.S. Senator Alan Simpson in the video above. Simpson’s quip is the best summary I’ve ever heard of the public’s lack of understanding of the severity of the nation’s fiscal crisis. The federal government is currently borrowing 42 cents of every dollar that it spends. Thanks to the Federal Reserve’s quantitative easing and the strong global demand for U.S. Treasury debt, the nation has been able to borrow heavily at low interest rates to cover its budget shortfalls.
But the debt is piling up so high that the country might face a borrowing shock if there were a black swan event or if bond vigilantes forced higher interest rates. It’s not a question of whether rates will rise – they certainly will. What we don’t know is when it will happen. The same politicians who created this fiscal quagmire have now tasked themselves with fixing it. Despite numerous proposals on how to get our debt under control, the political dynamics of the issue make it likely that nothing will be resolved in Congress until after November’s election. The Washington Post reports:
But once the election is over … the issue of the debt will quickly rise to the top of the agenda – and not just because of the debt limit. In January, policymakers also will be facing the first round of harsh, across-the-board spending cuts adopted last summer, as well as the expiration of a host of tax cuts that benefit every American household. Unless Congress agrees on an alternative deficit-reduction strategy, the policies threaten to deliver a fiscal shock that could throw the nation back into recession.
Earlier this week at the Peterson Foundation’s Fiscal Summit 2012, House Speaker John Boehner gave a speech in which he laid out his plans for tax reform and vowed not to increase the borrowing limit:
Any sudden tax hike would hurt our economy, so this fall – before the election — the House of Representatives will vote to stop the largest tax increase in American history [the expiration of the Bush tax cuts]. This will give Congress time to work on broad-based tax reform that lowers rates for individuals and businesses while closing deductions, credits, and special carveouts. Eyebrows go up all over town whenever I talk about this, but when I say ‘broad-based’ tax reform, I mean it. We need to do it all … deal with the whole code, personal and corporate it’s fairer and more productive for everyone.
Meanwhile the Senate Republicans found an obscure Senate rule that allowed them to take control of the Senate for a day and hold a series of votes on their proposed budgets. From Bloomberg:
Infrastructure financing and the federal government
There is a general consensus that America needs both new infrastructure and more jobs. Where there’s disagreement is over what role the federal government should play in providing the necessary funding to jump-start new projects. In a recent webinar, Standard & Poor’s laid out the current types of financing available for surface transporation projects (page 3):
• General Obligation Bonds (Appropriation debt) • Sales Tax Revenue Bonds • Gas Tax Revenue Bonds • Toll Revenue Bonds • Federal Grant-Secured Obligations (GANs/GARVEEs) • Transportation Infrastructure Finance and Innovation Act (TIFIA) loans • Public Private Partnerships (P3)
The top five categories in the list above are types of municipal bonds, meaning that they require a local or state government to take on debt to fund infrastructure. At the level of federal financing, the U.S. Department of Transportation’s Federal Highway Administration gives out TIFIA loans to public-and-private infrastructure projects. For example, the Macquarie-owned public-private partnerships that are building the Midtown Tunnel in the Norfolk and Hampton Bays area of Virginia and the FasTracks rail project in Denver are using federal TIFIA loans in the funding pool.
I don’t really understand why the FHA’s TIFIA program favors private investment. Here’s what the FHA website says (emphasis mine):
The program’s fundamental goal is to leverage Federal funds by attracting substantial private and other non-Federal co-investment in critical improvements to the nation’s surface transportation system. TIFIA was created because state and local governments that sought to finance large-scale transportation projects with tolls and other forms of user-backed revenue often had difficulty obtaining financing at reasonable rates due to the uncertainties associated with these revenue streams.
I’m sure the FHA folks know about the $230 billion of transportation bonds outstanding (page 13). Many of these securities are repaid with tolls. In fact, the FHA’s own website lists public projects that are owned by municipal and state governments and repaid with toll fees. It’s no surprise that public toll roads charge users lower fees than do those involving private investors, but that is not an explicit program goal of the FHA, unfortunately.
The webinar highlighted a study S&P conducted about cash flows on publicly and privately owned toll roads (emphasis mine, page 13):
The United States enters the twilight zone
ZeroHedge points out that the amount of U.S. debt outstanding has just surpassed the latest reading of our gross domestic product:
There is nothing quite like a $70 billion debt auction settlement at the last day of a month to bring total US debt to a record $15.692 trillion, which happens to be just $600 billion shy of the $16.394 trillion debt ceiling … And now that we know what Q1 GDP was at the end of Q1, or namely $15.462 trillion, it is simply math to divine that today alone total US/debt to GDP rose by 50 bps to a mindboggling 101.5%.
Now there is a whole school of thought, which counts New York Times columnist Paul Krugman among its leaders, that says that despite the amount of debt the federal government has incurred, more government spending and debt are needed given the stagnant state of the economy. Krugman elaborated on this idea in a recent interview with Julian Brookes of Rolling Stone:
A lot of people find emotionally unacceptable the idea that economic suffering on this scale could have a relatively trivial cause. But this has happened again and again through history. And it could be fixed fairly easily, by having government step in and spend.
The U.S. economy sits on a knife’s edge of slowing growth coupled with increasingly heavy debt loads. Fitch Ratings issued a report yesterday saying that U.S. fiscal policy likely increased growth by about 4 percent over the past two years through debt-financed stimulus spending and tax cuts. However, the report drew no firm conclusions about future policy:
This deteriorating debt profile heightens the pressure on the U.S. government to wind down fiscal stimulus, which is necessary to addressing U.S. indebtedness but creates a drag that may weigh on future U.S. economic growth.
The very high deficits of the last few years have led to unprecedented levels of government indebtedness, which will weigh on the federal government for years and require contraction in spending. Furthermore, while low [interest] rates clearly benefit borrowers, at the same time, they hurt savers. While there have been some recent signs of improvement in the economy, future reductions in fiscal outlays and effective limits to further accommodative monetary policy raise questions about the timing and strength of the recovery in the coming years.
Oklahoma cuts taxes while other states fund its social programs
Conservatives are working in legislatures across the country to eliminate or reduce state and local tax rates with the stated purpose of promoting job creation. These legislative efforts have received support from the American Legislative Exchange Council (ALEC), an ultra-conservative lobbying group. Oklahoma Governor Mary Fallin is the latest beau ideal for ALEC’s fiscal austerity drive as she leads the charge to eliminate her state’s income tax. She writes in the introduction to ALEC’s latest edition of “Rich States, Poor States”:
I have been committed to these fundamental principles for years, and we are seeing incredible results because our legislators have had the courage to stand with me in support of conservative governance. Oklahoma’s economy is outperforming the national economy, and our success stands in stark contrast to the record of dysfunction, failed policies, and outrageous spending that occurs in Washington, D.C. Oklahoma could teach Washington a lesson or two about fiscal policy and the proper size and role of government – and so could the tax and fiscal policy reforms espoused by ALEC.
I’m all for state and local governments shrinking their workforces and learning more efficient ways to deliver government services. There is nothing sacred about the current level of the government’s labor force, especially at a time when the non-public sectors of the society are continuously seeking to deliver goods and services with fewer economic inputs. It is only fair that we ask similar efforts of the public sector.
But as Governor Fallin excoriates the federal government for “outrageous spending,” I think she needs to be made aware that a large portion of federal spending is flowing to social entitlement programs that support enormous parts of her state’s economy.
As seen in the chart above, each Okie paid an average of $4,685 to the federal government and received $6,934 on average in federal spending in return. Oklahoma received $7.9 billion more in federal funds than it paid to the federal government, and a large portion of those funds came from wealthier, more liberal states like California, New York and New Jersey. The excess transfer from the federal government was larger than the $6.4 billion in state taxes that Oklahoma collected in 2004.
Using the 2004 Census and Tax Foundation data, we can see that Oklahoma received $24.4 billion in federal entitlement payments in 2004. In the same year, Oklahoma’s GDP was $107 billion. Although it’s not counted in the state’s economic data, social entitlement transfers from the federal government support a big part of the Oklahoma economy.
Oklahoma recieves a huge amount of money for military bases becausea they are dramatically cheaper than in other parts of the country. This saves the US goverment billions. This is not mentioned at all in your slanted article.
States receive crumbs from mortgage settlement
The $25 billion mortgage-fraud settlement that was announced yesterday came after 18 months of coordinated action by the Department of Justice, the Department of Housing and Urban Development and 49 state attorneys-general. The settlement is carved up so that homeowners and governments at the state and federal levels each receive some compensation. Given the scale of national losses, it’s a tiny penalty for banks that engaged in egregious servicing and foreclosure practices, and it will do little to repair the widespread economic damage.
More important for states, the amount they are set to receive far from covers the shortfalls they will suffer from lower property tax collections, which are pegged to property values.
A little background: Municipalities and school districts collect substantial revenues from property taxes, and they benefited from inflated housing values during the boom. With higher property tax collections, they ramped up municipal services. Starting in the first quarter of 2010, property taxes began to flatten, but property appraisals did not, as they lag behind property values by several years. We are just now starting to experience what could be a big decline in property tax collections.
National residential real estate values have dropped from $22.7 trillion in 2006 to $16 trillion in 2011, according to the Federal Reserve. The Tax Foundation has calculated that the median nationwide property tax is 0.97 percent of home values. If residential real estate values were fully appraised at lower levels, losses to local and state governments would equal $60 billion a year.
The ability of communities to raise property tax rates to make up for this shortfall will vary tremendously. New Jersey, for example, already has the highest rates in the country and is seeking ways to reduce this tax burden.
The soft side of federal spending
It’s not clear that Congress is capable of doing its job of managing the nation’s purse strings. Capitol Hill failed at identifying a combination of tax increases and reductions in spending that would have lowered our growing debt burden. Now every constituency that draws funds from the U.S. Treasury is angling to push others away from the trough. A perfect example is the internecine warfare to come over defense cuts. Here is a slick ad against funding for the military’s nuclear arsernal obviously coming from the traditional munitions and equipment makers:
The military players are well versed at battling over the spoils. But it’s the soft side of federal spending, where social support and services are funded, that is less equipped to fight over its share of decreased funding.
The automatic cuts that kick in due to the failure of the supercommittee are aimed at defense, Medicare and Social Security, and other discretionary social programs. The legislation spares cuts for Medicaid payments to states. It’s interesting that this area was protected when other major areas of the budget will have reductions. Medicaid cuts were the reductions that governors and county officials feared most because they consume an increasing amount of state and local budgets. Maybe governors were the real winners of the lobbying game when the Budget Control Act of 2011 was being written.
Politicians seem to be stuck in the blame game and hyperbole about who would or wouldn’t raise taxes on millionaires. We do need tax increases and we must cut everywhere as precisely and wisely as we can. Enough with the soundbites. It’s time to start talking hard numbers.
All high government approval ratings are local
This great graphic from Visually maps the public’s great discontent with the federal government using data from the Pew Research Center. It’s hard to imagine the numbers being any worse than this: 11 percent of the public is satisfied with the officials in Washington, DC.
Given Pew’s research, it’s somewhat counterintuitive that a recent poll from Gallup shows Americans pretty content with their state and local governments. From Politico:
Trust and confidence in local government has hovered around 70 percent for the past decade, and the recent gridlock at the federal level has done little to sully local impressions of government. In fact, 68 percent of respondents to a new Gallup poll on Monday said they had a “fair” or “great” deal of trust and confidence in their local governments.
State governments also received good reviews compared to their federal counterparts. A solid majority, 57 percent, viewed their state governments with a “fair” or “great” amount of trust.
It’s unclear why people trust local and state governments more. Personally I think all levels of government are susceptible to outside influences and corrupting internal players. People actually see the benefits of their local governments through roads, schools and garbage collection and maybe this boosts their trust.
The great muniland refi
Bloomberg picks up the theme I wrote about on Friday of the very favorable conditions municipalities are enjoying as they finance their debt. Bloomberg reports:
Operation Twist, or Operation Shout?
Op Twist and demand
The Federal Reserve announced further efforts to stimulate the U.S. economy yesterday by reapportioning the maturity of the bonds in its $2.6 trillion portfolio. The operation has been dubbed “Operation Twist” because it twists the yield curve by raising short-term rates and lowering long-term rates. This is another attempt by the Fed to goose consumers into spending and borrowing at higher levels in the hopes that it will increase demand and get the national economic engine running at a higher speed. Reuters reports:
The Federal Reserve’s latest effort to push down long-term U.S. borrowing costs may not do much for the central bank’s main worry — persistently high unemployment that could leave lasting scars on the economy.
Economists are increasingly anxious that the 9.1 percent jobless rate in the United States could become entrenched, as the skills of those out of work atrophy and their connections to the job market wane, sidelining them and chipping away at the U.S. economy’s capacity to produce.
The idea behind the move, nicknamed by investors as “Operation Twist” after a similar policy in the 1960s, is to push down long-term borrowing costs to encourage mortgage refinancing and consumer and business borrowing.
Undoubtedly Operation Twist will lower rates that municipal bond issuers will pay to raise new money and it’s likely that we will see a rush to refinance their higher interest bonds. The action will also cause municipal bonds that are already outstanding to rise in value. But the biggest question I have is will Op Twist stimulate demand from consumers? When we get the next set of quarterly state sales tax data from the Rockefeller Institute, will we see that consumers have loosened their purse strings and that they feel more confident about the their economic future? That is the true goal of the Fed’s actions to jump-start the animal spirits, which are so vital to economic recovery. So maybe a better name for the program would have been “Operation Shout.”
MSRB wants financial advisor pay details
In July the Municipal Securities Rulemaking Board published a proposal to undertake a survey on the sources and income levels of municipal financial advisors. It was allegedly done to make some determinations on how to set the proper annual fee assessment for muni FAs. But I have a feeling it was equally geared to getting more detailed information about the levels and form of municipal advisor compensation. This would be very useful data for municipalities to have as they evaluate and engage FAs to assist them with bond and derivatives financings. I’m all for this effort as the added transparency could greatly benefit municipal issuers. From an excellent article in the Bond Buyer:
The survey asks firms to disclose their total gross income from muni advisory activities between Jan. 1, 2011, and Dec. 31, 2011, as well as gross income realized from advisory business by FAs, swap advisors, guaranteed investment contract brokers, placement agents, solicitors and third-party marketers.
It also asks for gross income from non-advisory business, as well as data about advisor compensation, including the total amounts received from fixed fees, hourly fees, retainers, and transaction-size-based fees. Firms would have to disclose the amount of any fee that was contingent on completing a transaction.
The survey also seeks data about average fee and transaction size for new-issue offerings, remarketings, private placements, swaps, derivatives, GIC brokerage, and third-party solicitations.
Irene damage estimated at 0.214% of GDP
Irene has come and gone. She was a big girl but fortunately she didn’t cost a lot in terms of economic damages. The biggest toll was the 25 lives she claimed. I mourn those deaths and know their loss is incalculable to their families.
Local, county and state officials responded to the disaster admirably. Local newspapers and television stations are full of stories of families evacuated and emergency measures taken. New Jersey and New York City preemptively evacuated millions of people and shut down mass transit and other infrastructure systems. Given the scale of potential damage the losses have not been that great.
The economic loss of Hurricane Irene has been estimated at approximately $3 – 4 billion. Measured against a gross domestic product of $14 trillion Irene will ding the economy for about 0.214% of its annual output. Some have suggested that this will give the construction industry a boost, but it’s not significant. Irene’s damage, on its own, is not a substantial blow to the U.S. economy, but nine other “weather disasters” have caused more than $35 billion in damages this year, according to the National Climatic Data Center at the U.S. Department of Commerce (hat tip Empty Wheel).
The federal agencies which man the front lines during disasters are facing funding pressures in this time of budget austerity. The Hill reports that the disaster relief funds of the Federal Emergency Management Agency have dipped below a crucial threshold that keeps them from initiatives broader than debris clean-up. The Huffington Post explains that the National Oceanic and Atmospheric Administration will have trouble launching the replacements of current weather-tracking satellites on schedule due to budget reductions.
All levels of government are restraining their expenditures, but ensuring the safety of the people is the primary responsibility of every level of government. I’d like to suggest to members of Congress that there are plenty of areas in the military budget that can be reduced to ensure that all necessary funds for domestic protection efforts are covered. The events of this weekend show that it is vital that FEMA and the NOAA are fully funded.
“The economic loss of Hurricane Irene has been estimated at approximately $3 – 4 billion.”
Where did you get that estimate? The lowest one I was seeing on Monday was $7B, and that’s probably higher now, given the week of VT.
We have everything we need to battle Irene
Hurricane Irene, an enormous storm of unimaginable power, is bearing down on the east coast. Although there could be loss of life and substantial property devastation, America has more than enough resources to meet her and survive mostly intact. Unlike third-world countries we have the people, equipment and money in reserve to clean up. But it maybe the human locusts that follow in her wake that are hardest to battle against.
Irene is expected to make landfall in North Carolina, but it is the northeastern states that have made extraordinary efforts to evacuate the population and shut down public transportation systems. The corridor stretching from New Haven, CT to Atlantic City, NJ is one of the most densely populated areas in America; 55 million people are currently preparing for this large natural disaster.
Cities, counties, states and utility companies are on standby. Funds have been reserved to respond to emergencies and the federal government has a large department, the Federal Emergency Management Agency, ready to provide local assistance. The public sector is ready to go.
But in the aftermath of disasters, bad things happen and authorities are often not around to help out. I’m sure that we will hear stories of looting and fraud following the hurricane — it generally happens after every natural disaster. The AP reported the following after tornadoes swept through Birmingham, Alabama in April:
Looters have carried off televisions, power tools and prescription pills. Elsewhere, unscrupulous businesses are charging double for a tank of gas or jacking up the cost of a hotel room. Authorities also warn of construction workers who leave with the cash before opening their tool kit and the danger that identities could be stolen off wind-blown documents.
Though the region has seen similar scams after hurricanes and the Gulf oil spill, the speed of flimflam men this time around has surprised authorities and survivors.
“We have received a surprising amount of calls,” said Noel Barnes, consumer protection chief for the Alabama attorney general’s office. “We’re not going to allow people to further victimize our citizens.”
Some residents are packing firearms to scare off the lowlifes. In Pleasant Grove, Ala., Mike Capps was guarding his parents’ house over the weekend with an M-1 carbine rifle.
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Resident Muniland expert
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It’s not the debt limit people fear, it’s the politicizing of the debt limit. Neither Dems nor GOP will give one inch to the other in this battle, both wanting to achieve their own agenda.
Fear the results of a broken, entrenched political system trying to agree on anything.