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The debate over federal spending is heating up.  Politicians from both parties are having a field day placing blame, mudslinging, and avoiding the necessary, difficult decisions that Americans elected them to make.  What politicians are missing is the potential fallout from their inability to reasonably negotiate.  This runs the risk of adversely impacting the economy, and the credit quality of the United States government, which could result in higher borrowing costs.  Based on the decisions that politicians from both parties have already made, I feel they should take responsibility for their actions, and increase the debt ceiling.

 The debt ceiling is a limit set by Congress, dictating how much debt the federal government may incur.  It is currently set at $14.294 trillion, which was reached on May 16, 2011.  Each time Congress votes for a spending increase or a tax cut, they generally vote to increase the debt ceiling.  Since 1962, the debt ceiling has been increased 74 times.  Given the state of the economy, now is a troubling time to debate another increase.  Treasury Secretary Tim Geithner has stated he will use extraordinary measures in the interim, such as suspending investments to federal retirement funds, which will allow the federal government to fulfill all of its obligations.  However, he said that he will run out of options on or around August 2, 2011, unless the debt ceiling is increased. 

 In my opinion, Congress should increase the debt ceiling sooner, rather than later.  They already agreed upon a budget that will run a deficit of approximately 30%, representing approximately 9% of total GDP.  By not increasing the debt ceiling, Congress is essentially refusing to pay for obligations they already said they would pay for, which could adversely impact the United States’ credit quality.  If Congress opted to balance the budget this year, they would be taking away approximately 9% of GDP.

 According to the Center on Budget and Policy Priorities, the federal government spent approximately $3.5 trillion in the fiscal year ending in 2010, and experienced approximately $2.2 trillion in revenue, resulting in a deficit of $1.3 trillion.  The $3.5 trillion was allocated as follows: 21% to healthcare including Medicare, Medicaid, and CHIP; 20% to defense and security; 20% to Social Security; 14% to welfare oriented programs; and 6% to service debt.  The remaining approximately 19% of the budget serviced the remaining federal expenditures including benefits for federal retirees and veterans, education, scientific and medical research, transportation, international aid, and other uses.  Given the popularity of each government program, politicians risk backlash from their constituents as well as opposing politicians if they dare to cut back services, or increase taxes to fund the services.

The longer politicians wait to make a decision, the greater the risk of adversely impacting treasuries and increasing borrowing costs.  Congress should do everything in their power to protect the full faith and credit of the U.S. Government.  Standard and Poor’s revised their outlook on Treasuries to negative on April 19, 2011, citing the government’s increasing debt load.  While the negative outlook has had a small impact, Treasury pricing is still largely based on inflation expectations because they are seen as low risk investments.  Investors continue to demand low risk securities.  If another sovereign nation becomes viewed as a lower risk investment, money could flow from Treasuries to other nations.  Treasuries could be seen as riskier investments if the debt ceiling is not increased soon.  In my opinion, the federal government should remember how to live within its means and gradually scale back federal spending, and/or dramatically increase taxes.  Every decision comes with consequences, but we elected our politicians to make the difficult decisions to help give us all the highest quality of life.

Billy Schmohl
Investment Information Coordinator

This report is prepared for informational purposes only. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument or service.  Market prices and other data may be obtained from outside sources and is not warranted as to completeness or accuracy. Any comments, statements and/or recommendations made herein are subject to change without notice, and may not necessarily reflect those of Alamo Capital.  Alamo Capital has no affiliation with any political party. Investing involves risk. Consult with a Financial Professional for additional information to determine the suitability of this or any other financial product or issue as it relates to your particular situation.

 

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