Hip, Hip, Hypocrisy: Will Partisan Politics Lead to a Financial Apocalypse?

Under normal circumstances, I would be obligated to offer a disclaimer from the very beginning of this article… namely: “Beware, the content below has nothing to do with investing!”  Unfortunately, we live in extraordinary times (just take a look at the growth in Central Bank balance sheets during the past decade— see the graph below):[1]

That said, I still need to offer the disclaimer that, despite my best intentions to be fair and even-handed in the presentation of facts as I understand them to be, some may very well feel that I have misrepresented those facts in some manner. If that is the case, I sincerely apologize in advance.

We are currently barraged and besieged at almost every turn by news stories related to the current federal budget crisis and the federal debt limit crisis. It is not hard for me to imagine that you are as tired as I am of the incessant “talk” (most of it commentary disguised as “facts”) accompanied by precious little reason and/or resolution! In fact, I think that one survey question upon which most discerning U.S. citizens would answer with a high degree of agreement is something such as: “Have our political leaders (in essence) transformed U.S. governance into some sort of “Reality TV Game” – with public polls being the scoring mechanism?”[2]  I think the vast majority of our citizens would say “Yes”.  We might be divided on which “team” we support – but we would agree that there is much more gamesmanship going on right now than there is “governance”.

What is the history behind the U.S. Federal Debt Limit? That is relatively simple to answer:

1)    The U.S. Constitution (Article I, section 9, clause 7) and statute requires an annual Federal Budget as a foundation of federal spending;

a.   When the budget is unbalanced (revenues fall short of expenditures), there is a deficit that results in Federal borrowing, which (of course) adds to Federal Debt;
b.   When the budget is balanced (revenues equal of exceed expenditures), it is either balanced (no debt increase) or has a surplus (which could reduce debt).
c.   Since 1970, the Federal Budget has run a deficit during every year except for four.
d.   Consequently, within 39 of the past 43 years, the Federal Debt has grown.

2)    The United States has had a Federal Debt during every year of its history except 1835 (the President was Andrew Jackson[3]);

a.   The total amount of the Federal Debt did not have a legal limit until World War I;
b.   During that era, the U.S. Congress passed legislation that limited the total debt that could be accrued;
c.   That limit has (obviously) been raised countless times since then;
d.   It stands now at (essentially) $16.7 trillion.

What is our nation’s history with regard to timely servicing of that debt?[4]  It may surprise you, but it is not perfect:

1)              The U.S. defaulted in 1790, when the newly formed nation deferred until 1801 interest obligations on debt it assumed from the various states;[5]
2)              In 1933, the U.S. refused to make payments in gold to redeem bonds that gave holders the option of requesting the precious metal instead of cash.

a.   While investors were paid on time and in full, some argued it constituted a default because they couldn’t claim payment in gold.
b.   The Supreme Court ruled that the government was within its rights to deny such claims as long as it paid the dollar amounts.

3)              In 1979, the U.S. was late in making payments on approximately $122 million of bills;

a.   At the time, the U.S. Treasury claimed this was (in part) due to “severe technical difficulties” stemming from a word-processing failure[6];
b.   Although payments were made after a short delay, complete with compensatory interest for tardiness, this delay caused yields to rise by half a percentage point (where they remained for a number of months).

Obviously, even without all of these details, this particular Federal Debt Limit issue is an extremely important matter – not to be trifled with.

So how have our two primary political parties handled this issue during the numerous occasions it has arisen in the past?

Well, according to President Obama, it is unprecedented for a political party to act so irresponsibility as to hold the full faith and credit of the U.S. in order to extract legislative or political concessions.  On September 19th, the President told the “Business Roundtable” (in Washington, D.C.):

You have never seen in the history of the United States the debt ceiling or the threat of not raising the debt ceiling being used to extort a President or a governing party, and trying to force issues that have nothing to do with the budget and have nothing to do with the debt.”

That is heartening! Then I believe this would mean that the current Congress would need to make a drastic departure from the long sweep of our nation’ history before we would face potential default! That would be great news – if it was true.

Alas, the generally quite liberal Washington Post has since published a strong “corrective” to the President’s misquoting of history in its recurring feature titled “The Fact Checker[7]:

Clearly, Obama’s sweeping statement does not stand up to scrutiny, even with his caveat. Time and again, lawmakers have used the ‘must-pass’ nature of the debt limit to force changes in unrelated laws. Often, the effort fails — as the GOP drive to repeal Obamacare almost certainly will. But Kowalcky and LeLoup speculate that one reason why Congress has not eliminated the debt limit, despite the political problems it poses, is because lawmakers enjoy the leverage it provides against the executive branch.” [8]

Regrettably, on February 15th of this year, Justin Murray from the Congressional Research Service reported the following:  Since 1978, more than half of the increases in the Debt Limit have been accompanied by legislation dealing with other maters!”

That means we will just have to depend upon the judgment, integrity, and consistency of our political leaders to guarantee the nation’s credit standing within the world.  So how have some of our key leaders handled this issue in the past?  I’ll have to let you determine that. All I can do is publish what each has actually officially said in years past:

As Vice President, Joe Biden is the titular leader within the U.S. Senate. What is his past record – after all, he has an extremely lengthy one. In October of 1984[9], the Congressional Record preserved this official statement from (then Senator) Biden:  “….earlier today, we sent to the House of Representatives a bill that would have required that, before any further increases in the national debt could be approved next year by Congress, Congress would first have had to act upon a budget freeze to halt the upward climb of our astronomical deficits… Unfortunately, the House of Representatives has not seen fit to agree to vote on a budget freeze early in 1985. Nor has it agreed to lessen the size of the debt ceiling. Under those circumstances, I cannot agree to vote for a full increase in the debt without any assurance that steps will be taken early next year to reduce the alarming increase in the deficits and debt. The national debt has now doubled in the past 4 years. Under this proposal, it will be $1.824 trillion by the end of fiscal year 1985.” 

House Majority Leader, Nancy Pelosi also has a lengthy record in Congress. What has she said in the past? In 2004[10], the Congressional Record preserved this official statement from her:  “In the course of the President’s administration now, this 4 years, it will have been raised $2 trillion. This is absolutely astounding in terms of these figures…. [therefore] Democrats plan to use the debt limit debate to highlight the massive annual deficits run up during the … administration.”

Ms. Pelosi remained consistent into 2006. On June 15th of that year, the Chicago Tribune published an article by Jill Zuckman that included this text: “But part of the Democrats’ plan is a call to require fiscal responsibility, following pay-as-you-go rules that prevent deficit spending. And they note that it is under a Republican president and Congress that the federal deficit has soared to new levels. ‘This is the path we were on when President Clinton was president, and we would have been debt free as a nation if we had stayed on that course of pay-as-you-go, no deficit spending, debt free as a nation in 2008,’ Pelosi said. ‘Instead, we have a debt ceiling of $9 trillion!’”

Moving on to the U.S. Senate Majority Leader, Harry Reid, the Congressional Record records him as having said the following on March 16, 2006: “Given the explosion of debt in recent years, it is long past time for Washington to change the course and adopt a new fiscal policy. After all, the future of our economy and our Nation is at stake….  “After all, I repeat, the baby boomers are about to retire. Under the circumstances, any credible economist would tell you we should be reducing debt, not increasing it.”

I regret to say that I could find just as many similarly inconsistent, self-serving statements from the past made by politicians from the Republican Party (at least those who have been around for longer than 6-7 years).  Instances of genuinely selfless service, objective analysis, honesty, and political courage in Washington are extremely rare these days (to say the least).

Because of that fact, perhaps you found the above historical record discouraging, disheartening, and/or depressing. However, it is a political reality in this nation. According to the nonpartisan Tax Policy Center, during the past ten years of voting related to the Federal Debt Ceiling, the vote usually splits along partisan lines.[11]  And yet, in every single year that this debate is engaged, spokespersons from all sides persist in making their speeches and offering their sound bites as though each one speaks strictly (and only) from the perspective of what is best for the country.

It appears to me that what we need is less partisanship and more truth-telling. Along that line, President Obama recently offered some penetrating and telling remarks in an interview he gave to Julie Pace of the Associated Press on October 4th. In the interview, he offered a very critical view on current freshman Republican senators for so frequently playing up to the media: “I recognize that in today’s media age, being controversial, taking controversial positions, rallying the most extreme parts of your base, whether it’s left or right, is a lot of times the fastest way to get attention and raise money. But it’s not good for government.”  Then he offered a particularly strong rebuke by adding: “[I] didn’t go around courting the media. And I certainly didn’t go around trying to shut down the government!”[12]

Wow!  Now there is a refreshing, down-to-earth statement exalting the priority of good, sound, nonpartisan governance over everything else!  Thank heavens!  Now we just need to count upon politicians with integrity and conviction to follow that lead!

What’s that?? Look in the March 16, 2006 Congressional Record (pages 2237-2238)[13]? Let’s see now… here it is:

SENATOR OBAMA: “The fact that we are here today to debate raising America’s debt limit is a sign of leadership failure. It is a sign that the U.S. Government can’t pay its own bills. It is a sign that we now depend on ongoing financial assistance from foreign countries to finance our Government’s reckless fiscal policies.

Over the past 5 years, our federal debt has increased by $3.5 trillion to $8.6 trillion. That is ”trillion” with a ”T.” That is money that we have borrowed from the Social Security trust fund, borrowed from China and Japan, borrowed from American taxpayers. And over the next 5 years, between now and 2011, the President’s budget will increase the debt by almost another $3.5 trillion.

Numbers that large are sometimes hard to understand. Some people may wonder why they matter. Here is why: This year, the Federal Government will spend $220 billion on interest. That is more money to pay interest on our national debt than we’ll spend on Medicaid and the State Children’s Health Insurance Program. That is more money to pay interest on our debt this year than we will spend on education, homeland security, transportation, and veterans benefits combined. It is more money in one year than we are likely to spend to rebuild the devastated gulf coast in a way that honors the best of America

And the cost of our debt is one of the fastest growing expenses in the Federal budget. This rising debt is a hidden domestic enemy, robbing our cities and States of critical investments in infrastructure like bridges, ports, and levees; robbing our families and our children of critical investments in education and health care reform; robbing our seniors of the retirement and health security they have counted on.

Every dollar we pay in interest is a dollar that is not going to investment in America’s priorities. Instead, interest payments are a significant tax on all Americans-a debt tax that Washington doesn’t want to talk about. If Washington were serious about honest tax relief in this country, we would see an effort to reduce our national debt by returning to responsible fiscal policies.

But we are not doing that. Despite repeated efforts by Senators CONRAD and FEINGOLD, the Senate continues to reject a return to the commonsense Pay-go rules that used to apply. Previously, Pay-go rules applied both to increases in mandatory spending and to tax cuts. The Senate had to abide by the common sense budgeting principle of balancing expenses and revenues. Unfortunately, the principle was abandoned, and now the demands of budget discipline apply only to spending.

As a result, tax breaks have not been paid for by reductions in Federal spending, and thus the only way to pay for them has been to increase our deficit to historically high levels and borrow more and more money. Now we have to pay for those tax breaks plus the cost of borrowing for them. Instead of reducing the deficit, as some people claimed, the fiscal policies of this administration and its allies in Congress will add more than $600 million in debt for each of the next 5 years. That is why I will once again cosponsor the Pay-go amendment and continue to hope that my colleagues will return to a smart rule that has worked in the past and can work again.

Our debt also matters internationally. My friend, the ranking member of the Senate Budget Committee, likes to remind us that it took 42 Presidents 224 years to run up only $1 trillion of foreign-held debt. This administration did more than that in just 5 years. Now, there is nothing wrong with borrowing from foreign countries. But we must remember that the more we depend on foreign nations to lend us money, the more our economic security is tied to the whims of foreign leaders whose interests might not be aligned with ours. [14]

Increasing America’s debt weakens us domestically and internationally. Leadership means that ”the buck stops here.’‘ Instead, Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren. America has a debt problem and a failure of leadership. Americans deserve better. I therefore intend to oppose the effort to increase America’s debt limit.”

Things have changed a lot, haven’t they? Or maybe they haven’t.  Recall the withering criticism leveled by President Obama against some freshmen senators.  Then consider this story from Obama’s own (very supportive) hometown newspaper, the Chicago Tribune (12/4/2005): “After he was sworn into office, he shunned the limelight to present himself as a humble freshman. By fall, those self-imposed restraints had vanished. And his strategic plan calls for raising his profile even more in 2006.”

With regard to governance vis-à-vis high profile visibility, NBC News reported this statistic in 2007: “Barack Obama’s two years in the Senate have taken him around the world, from Russia to Iraq to Kenya – an itinerary more costly to taxpayers than any other senator who took office with him. The Illinois Democrat’s travels in 2005 and 2006 cost taxpayers nearly $28,000 as he studied nuclear proliferation, AIDS, Middle Eastern violence and more.”[15]   Finally, there is an article from March 9 of 2008 in the very liberal New York Times, entitled – – “Obama in Senate: Star Power, Minor Role”:

“Senator Barack Obama stood before Washington’s elite at the spring dinner of the storied Gridiron Club. In self-parody, he ticked off his accomplishments, little more than a year after arriving in town.

“’I’ve been very blessed,’ Mr. Obama told the crowd assembled in March 2006. ‘Keynote speaker at the Democratic convention. The cover of Newsweek. My book made the best-seller list. I just won a Grammy for reading it on tape.

‘Really, what else is there to do?’ he said, his smile now broad.

‘Well, I guess I could pass a law or something.’”

Finally, we can see evidence of honesty emanating from Washington, D.C.!!

Before we finish up, let me offer one further graphic illustration of precisely what (then Senator) Obama emphasized regarding mounting interest expenses during his 2006 U.S. Senate speech. One look at the graph (below) should be cause for considerable concern (data from the U.S. Treasury):

Do you see the magnitude of the increase in Federal Debt during the past thirteen years? And yet we have been blessed with declining interest rates (historically low) since 2009—resulting in our annual payments on debt being nearly unchanged.  As we know from recent Fed “Taper Terrors”, someday rates will rise even more significantly than they have already. And mathematically, any rise from low rates can lead to dramatic increases in interest due.[16]

So, friends, if we cannot depend the leaders within our political system to govern with wisdom, insight, and objectivity, certainly we can depend upon the institutions of the government itself to carry out their responsibilities beyond any pale of doubt, correct?!

Yes, I sense you ticking off some significant concerns, including the IRS[17], the U.S. Department of Health and Human Services[18], etc.

However, the U.S. Treasury Department is surely beyond reproach. It is the entity (led by the Treasury Secretary) charged with maintaining the nation’s financial records.  Knowing how often corporations get fined for poor or inaccurate accounting/reporting, the Treasury Department would surely never fail to properly account for our nation’s financial affairs!

However, it was widely reported in July and August of this year that a peculiar anomaly occurred over the course of an extended period of time between May 17th and at least August 8th – the total reported aggregate U.S. Federal Debt remained exactly the same for over 88 days! (The source of the data in the graph below is the Financial Management Service (FMS) within the Treasury Department, and the graph was created by WallStreetDaily.com).

I would never authoritatively assert that these figures were falsified (or, at a minimum, not fully disclosed). However, with a financial system as vast and cumbersome as that of the U.S. Treasury and with reports of these balances prepared every single official government work day, the odds of this statistic being truly reflective of financial reality would appear to be smaller than we would like to think.

Leaping to the defense of Treasury Secretary, Jacob Lew, he did send government leaders a letter in mid-May, admitting that the Federal Debt Limit had been reached and outlining time tested “extraordinary measures” through which he would be able to continue operating Federal finances within the legal limit through at least Labor Day.  I studied those measures in some detail and considered outlining them for you here. However, over 95% of you would become bored out of your mind. So I will leave it in your hands if you are moved to explore those details further on your own.

Suffice it to say that those “extraordinary measures” were projected to provided Secretary Lew with somewhere between $240-260 billion worth of “flexibility” between May 16th and whenever the Federal Debt Limit was raised!  Now, on average, the Federal Government receives $30 billion each day in revenue. That is a lot of money, but only covers about two-thirds of the bills that come in to the Treasury for payment.  For the month of July alone, the FMS reported a $98 billion deficit.  However, even with that large figure hanging out there in the books, the total debt during each reporting day in July was identical!

I light of all of the information above, there exists an extremely unfortunate lack of confidence in the data emanating from the U.S. Treasury Department.  That, when combined with what we have already documented as an absence of leadership in Washington D.C. (in the corridors of Congress and the halls of the West Wing) is both dispiriting and disturbing.

Why is “October 17th” important?

The Treasury Department has $120 billion of short-term bonds coming due on the 17th. An additional $93 billion of bills are due one week later. On the last day of October, $150 billion needs to be paid back, including two-year and five-year notes that mature.

Why is this a grave, nation-critical issue? The world perceives the United States as the globe’s most credit-worthy nation, and as a “safe haven” for investable funds when there is trouble anywhere within the world.  That “credit worthiness” is one of the strongest assets our nation has. It provides is with a priceless “competitive edge” economically, because we are blessed with interest rates (virtually) lower than anywhere else on earth as a direct result of that trust extended to us! While other nations have (in recent years) passed us by on countless other metrics of “excellence” and “strength” and “quality of life”, we have managed to hang on to that trust regarding our credit.[19]

Depending upon how deeply you want to probe, the outcome for our nation (and for us) in the event that the Federal Debt Limit is not raised by October 17th can sound about as alarming as if we are on the brink of a cataclysmic end[20], or at least a depression as severe as the 1930’s. Consider these recent statements:

“Failure by the world’s largest borrower to pay its debt — unprecedented in modern history — will devastate stock markets from Brazil to Zurich, halt a $5 trillion lending mechanism for investors who rely on Treasuries, blow up borrowing costs for billions of people and companies, ravage the dollar and throw the U.S. and world economies into a recession that probably would become a depression.
Among the dozens of money managers, economists, bankers, traders and former government officials interviewed for this story, few view a U.S. default as anything but a financial apocalypse![21]

“One unexpected consequence of Lehman’s collapse was the seizing up of the repurchase agreement, or repo, market — a form of secured, short-term borrowing used by Wall Street banks and investment firms. Many of Lehman’s trading counterparts discovered the collateral they believed was backing their loans wasn’t there to grab as rules allowed. That scared investors in the rest of the market, closing off other trades and leading to fire sales of securities and further price declines.

“A government default could freeze the repo market more than Lehman’s collapse because U.S. debt forms its backbone. At least $2.8 trillion of Treasuries serve as collateral for repo and reverse-repo loans, according to Fed data.

“In the event of a default, Treasuries might no longer be eligible as collateral for repo agreements, according to James Kochan, Wells Fargo Funds Management LLC’s chief fixed-income strategist. The cheap funding for the holdings lowers the yields demanded on the investments, and unwinding the positions could amplify losses for lenders and borrowers.

“If Treasuries were ejected from the market, “’Well, holy cripes!’  Kochan said in an interview.”[22]

And Bill Isaac, Fifth Third Bancorp Chairman, and a former Chair of the Federal Deposit Insurance Corp., recently said: “We can’t even imagine all the things that might happen, just like Henry Paulson couldn’t imagine all the bad things that might happen if he let Lehman go down. It would create chaos in financial markets.”[23]

I confess to you that, when I began to write this article, I had intended to conclude with a “solution” to the crisis.[24]  However, that “solution” was patently unrealistic, impractical, and therefore unhelpful. It would have been meant strictly and entirely “tongue-in-cheek.”

Our nation cannot afford “tongue-in-cheek” right now. In fact, this issue is so important that the only thing appropriate for us in addressing this issue is our nation’s best and brightest to rise up and shake this nation’s capital into reality… to insist, without any measure of doubt, upon a solution that is beyond politics.  The plain and simple fact is that the issue being wrestled with right now is absolutely not “a game”. If a proper solution is not arrived at very soon – there will be no winners!  Everyone in this nation will lose – all persons across all spectrums of age, gender, race, and ideology.

I was raised in a much simpler age.  I was instructed regarding the virtues of our nation through stories such as:

1)    George Washington owning up to cutting down the Cherry Tree;
2)    “Honest Abe”;[25]
3)    The patriotic fervor and unmatched courage of those who fought for freedom from England;
4)    The incredible intelligence and creativity of Thomas Jefferson (a “Renaissance Man”);
5)    The ingenuity and wisdom, not to mention diplomatic skills, of Benjamin Franklin;
6)    The fortitude and faithfulness of Captain John Paul Jones who, as his ship lay in flames and sinking, and the chaos on deck so great that some sailors thought he was dead, replied to a call from the British ship attacking him to “strike his colors” by yelling: “I may sink, but I'll be damned if I strike!”[26]
7)    The stories my father told me of his days fighting in the Solomon Island chain of the Pacific Ocean Theater during World War II;
8)    The women and men who braved the unknown dangers of outer space to help us, through the years, master manned space travel and land astronauts on the Moon.

I have believed in my nation, I have treasured its long heritage and history, and I have extolled the leaders who, through the centuries, have blazed a trail of honesty, transparency, courage, and self-sacrifice over personal gain.  I grieve for my children and grandchildren that, unless our nation experiences some dramatic changes very soon, they will never have such a heritage to either claim or treasure!

DISCLOSURE: The author has voted for a few of those who currently serve in Washington, D.C. and regrets to admit that he is ashamed of every last one of them!

[1] Richard Bernstein Advisers, LLC. researched and created the graph above. The graph was based upon data derived from public documentation disseminated by the People’s Bank of China, the European Central Bank, and the U.S. Federal Reserve.
Perhaps a cross between “Survivor” and “Dancing With the Stars”… with, the object being to “win” (get the highest public poll support) – “no matter what”. (Think about how frightening that is!)
Let’s bring Andrew back to life and install him in the White House!
Expressed differently, what is the U.S. record regarding upholding and preserving (in pristine form) “the full faith and credit of the United States?”
See This Time Is Different, a history of financial crises by Carmen Reinhart and Kenneth Rogoff.
This was the explanation offered in the August 1989 issue of the Financial Review.
September 19, 2013; Washington Post; by Glenn Kessler.
The article awarded the President with “Four Pinocchios” … “a whopper”.  See http://www.washingtonpost.com/blogs/fact-checker/about-the-fact-checker/
October 11th
During sessions on October 17th and 18th.
The president’s party votes in favor.
The President did not refer by name to Ted Cruz, but it appears he had Cruz (in particular) in mind.
[14] According to current figures, it is $5.3 trillion.
NBC reported that was almost 45% higher than any of his classmates.
Not long ago, the 10-year Treasury rate was 1.6%. It recently moved toward 3%, and has pulled back. That all happened in just months, and a rise from 1.6% to 3.2% would double interest payments due!
Questions have arisen from multiple recent investigations.
Under the gun due to multiple egregious problems related to the rollout of the Affordable Care Act.
From Jim Grant, a longtime, respected (and oft quoted) investment professional: “People have typically turned to Treasuries as a safe haven, but what will happen when they realize it’s not safe anymore,” said Grant, who has followed interest rates since the 1970s. “Financial markets are all confidence-based. If that confidence is shaken, you have disaster.”
Perhaps just shy of the prospect of the return of the Bubonic Plague.
Since the IRS takes in $30 billion/day, the Federal Government could continue in the “shut-down” mode indefinitely, suspend salary payments to members of Congress (and selected executive branch staff people) and be sustained for an extended period of time.
These stories about honesty were a part of my learning “right” and “wrong”.
Of course, his much more famed quote was: “I have not yet begun to fight!”

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