Next fight and crisis will be about raising debt ceiling

With the fiscal cliff avoided, Obama now faces other challenges soon, including the need to raise the $16.4 trillion borrowing limit. He also has to deal with the more than $100 billion in automatic spending cuts that were delayed for just two months.

The spending cuts will probably be replaced by more targeted cuts that could be over a longer period as well. Speaking form Hawaii where he is on a family vacation, Obama said he is willing to consider more spending cuts and tax increases to help reduce the deficit.

On the debt ceiling, Obama claimed he would not compromise on the issue. Last time, the Congress had a standoff over the issue and the US credit rating was downgraded. Republicans want to use the issue as leverage to force the Democrats to make more spending cuts. Obama warned about any attempt to block an increase:

"If Congress refuses to give the United States the ability to pay its bills on time, the consequences for the entire global economy could be catastrophic. Our families and our businesses cannot afford that dangerous game again."

Immediately after the House finally passed the fiscal cliff deal, Obama said

: "I will not have another debate with this Congress over whether or not they should pay the bills that they've already racked up through the laws that they passed."

Actually the US has already reached the spending limit of $16.394 trillion. Since it cannot borrow money in the markets, "extraordinary measures" are being used to pay bills on time. This can go on only for a couple of months. The issue must be solved soon. Both Obama and Senate minority leader McConnell both agree that the debate on the issue should be resolved early and not at the last minute. To cover just a year of borrowing, the debt limit will need to be increased by almost a trillion dollars.

The Government Accountability Office estimates that the increased costs of borrowing during the standoff was about $19 billion in interest during the next decade. If the Congress did not approve an increase some analysts think that Obama could simply invoke the 14th Amendment to the US Constitution that says:

"The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned."

According to this view, Obama could then simply order the Treasury Secretary to keep borrowing to pay bills. The White House has claimed that it would not use this strategy. It is regarded as risky politically. Joseph Minarik, a former chief economist at the White House Budget Office said

:"It is hard to imagine any Treasury secretary, or any president, allowing himself -- or herself -- to be the first to default on the public debt. That having been said, no one knows what other options lurk in the file cabinets of the attorneys in the Treasury. They aren't talking."..

While Obama may not want to have a long debate that would involve trading off spending cuts for a hike in the spending limit, he may not have any choice. Mitch McConnell put the matter bluntly:"The president may not want to have a fight about government spending over the next few months, but it's the fight he is going to have, because it's a debate the country needs." In a Yahoo op-ed McConnell said that Obama must deliver a serious plan to cut government spending. Unless the Republicans see some significant movement on that front there will probably be no agreement about raising the debt ceiling let alone the delayed multi-billion dollar spending cuts.

Stock market has its ups and downs and now ups as fiscal cliff deadline nears

While US stocks declined last Friday, futures were up this morning. However at the open this morning the market seems uncertain which way to go with indices mixed.

Bloomberg reported that Standard and Poor's 500 futures were up 0.8% and the Dow Jones Futures were also up 82 points from the close on Friday. This was at 9 a.m. in New York. As I write this a half hour after the markets opened, the Dow was down 10 points but the S&P and NASDAQ were up slightly. The market seems to be expressing the uncertainty that clouds the whole process at the present time. Last Friday the indices fell on pessimism about the prospects for a deal. Personally I think that a deal will get done although it might be after the fiscal cliff kicks in for a day or so.

Senator Bob Corker on CNBC said that there will probably be a deal today and Democrat Christopher Van Hollen on Bloomberg Television said that progress was being made in talks to avoid the automatic tax increases and spending cuts associated with the fiscal cliff.

The Senate is to convene at 11 a.m. this morning. Talks between the Senate Majority Leader Harry Reid, and Mitch McConnell the Republican minority leader had stalled over income tax rates, the estate tax, and other issues as well. McConnell asked for the help of vice president Joe Biden to break the impasse.

Obama wants taxes to go up on those making over $250,000 a year. He will probably have to raise this to at least $400,000 or more to get a deal in order that the Republicans can save face by saying that they did not agree to the lower cutoff that Obama wanted. But even then there may be problems passing any tax increase for anyone through the house. The House, after all, rejected a bill by John Boehner that would have only raised taxes on those earning a million a year.

The White House wants the estate tax to go up, while Republicans want it to remain where it is at present. There is no agreement about what to do about the automatic spending cuts that will come into effect on January 1, 2013. The costs of not reaching a deal may involve an unemployment rate of over 9% another millions jobs lost and an economy back in recession. Those costs are so high that I find it difficult to imagine that a deal will not be reached.

A spokesperson for McConnell said that talks with Joe Biden had gone well. Latest reports indicate that some issues may be agreed upon but others remain. The White House apparently has agreed to raise the level at which the Bush tax cuts would not be extended to $450,00 for couples as compared to the $250,000 lower cutoff that Obama had long been demanding.

Any deal will also probably include a provision that would prevent an immediate sharp increase in milk prices and that would prevent doctors treating Medicare treatments from facing a 27% cut in their fees. Unemployment benefits due to expire will also be extended.

The Republicans agreed to drop a demand that the formula for calculating Social Security benefits be changed to slow the growth of payments. No doubt the issue will come up again in later negotiations, since Obama signalled he might be willing to agree to this for a significant quid pro quo but not as part of this short-term deal.

There still remain disagreements about increasing the estate tax. The Democrats want the tax to increase to 45% from 35% and the exclusion level of $5.1 million decreased. The Republicans want the tax to remain as it is. There is still disagreement about dealing with the effects of the alternative minimum tax as well.

Republicans also want Democrats to agree to budget cuts for some of their plans. The Democrats propose to erase scheduled defense and domestic cuts that would be more than $200 billion over the next two years and also to extend unemployment benefits. Republicans also would like to make cuts from Obamacare to help cover the costs of reimbursing doctors who treat Medicare patients. While there are still stumbling blocks, I expect that some stop-gap deal will be reached at the last minute or at worst a few days after January 1..

UPDATE: This afternoon President Obama announced a deal was near but not yet completed with some outstanding issues still to be worked out. There is not much time left! The stock market is up now somewhat.

Defense industry becoming pessimistic about chance of avoiding fiscal cliff

The defense industry may be becoming more pessimistic about a deal to avoid the fiscal cliff before the end of this year. They are also annoyed that they are sidelined during talks.

The industry feels that they will be able to demand a deal that will see military spending hiked back up some time in 2013. An anonymous source said:

“I think people resigned to the fact that this needs to be addressed in January,”

At the Pentagon, Obama administration officials have given those who crunch the numbers in the Defense Department permission to start the process of cutting $500 billion from their budget in January of 2013. Top defense industry lobbyists had been trying to convince both parties that going over the fiscal cliff would be a complete disaster. While John Boehner tried to implement a Plan B to deal with the fiscal cliff, he was unable to pass it through the Republican-controlled House since it involved tax hikes for the very rich.

It is still possible that there will be a last minute deal that will be a stop-gap measure. Obama has cut short his vacation to continue negotiations. One defense industry source said that its message of doom if the fiscal cliff were not avoided fell on deaf ears.

Top defense analyst, Loren Thompson said:

"I think there's a creeping sense of pessimism in the defense sector … I don’t think most people in the industry really understand why their pleas have [been ignored]."

Thompson said that among lawmakers many felt there was no urgency about avoiding cuts to the Pentagon budget since even with the cuts US defense spending will still be many times higher than its nearest competitor. Thompson went on:

"They don’t want sequestration but they’re capable of dealing with it."

Some analysts think that the problems created by jumping over the cliff will be addressed early in January. If the stock market begins to fall, there will be more pressure for a deal to be worked out. Even in the New Year, Thompson was pessimistic about any grand deal in the near future.

Obama to cut short Xmas vacation to deal with fiscal cliff negotiations

President Obama is planning to cut short his Xmas vacation and return to Washington. He will make a final attempt to reach a deal with the Republicans, even though a compromise looks to be quite difficult to achieve.

Even if Boehner were to compromise on the tax issue, the Republican-controlled House would not likely agree. The House already rejected Boehner's Plan B that would have raised taxes only on those earning a million or more a year.

Both chambers of the US Congress will return from holidays on Thursday and start work again. Hopes for any grand bargain have faded. President Obama is pressing for a plan that would be a stop-gap measure. Obama wants to extend the Bush tax cuts for all those earning less than $250,000 a year and extend unemployment benefits. He would also cancel the scheduled automatic spending cuts.

At the very least, Obama will need to raise the income level to which he wants to extend tax cuts. Boehner failed to pass a bill that extended the line to those earning a million a year. However, a New York Times article reports that there are growing signs that some members of both parties are prepared to accept a deal that raises taxes on people at the highest income levels. No evidence is given for this or that even if it is true, that there are enough votes to pass a deal through both houses.

The government has been seeking a resolution through discussion with Senate Democrats who control the house and also may have the support of some Republican senators. However, the Republican Senate leader, Mitch McConnell, has given no sign that he would not try to block any deal that has tax increases. The situation in the House is much worse.

The House is controlled by Republicans and has already blocked a Republican bill that tried to increase taxes on the very wealthy. Today could be the last day of Obama's holidays, as he may fly back to Washington as early as Wednesday. This would give him a bit more time for talks.

Lawmakers have expressed little but pessimism for the prospect of an agreement coming before Jan. 1. On Sunday, Sen. Kay Hutchison, a Republican from Texas, said if there is any deal it will be "a patch because in four days we can't solve everything."

Julia Coronado, an economist for BNP Paribas said that markets have up to now been remarkably complacent, thinking that a deal will definitely be reached. She predicted that if no deal is reached, markets will react with a steep downfall. This will no doubt put a great deal of pressure on politicians to reach a deal of some kind and fast.

Obama would drive over fiscal cliff is no tax hike on wealthy: Republicans blink?

According to Treasury Secretary Timothy Geithner Obama is definitely prepared to let the economy go over the fiscal cliff unless he achieves a budget deal that has higher rates for top income earners.

In an interview with CNBC on Wednesday December 5th, Geithner said:

"There's no prospect in an agreement that doesn't involve those rates going up on the top two per cent of the wealthiest Americans."

Republican Orrin Hatch responded angrily:

"This is one of the most stunning and irresponsible statements I've heard in some time. Going over the fiscal cliff will put our economy, jobs, people's paychecks and retirement at risk, but that is what the White House wants, according to Secretary Geithner, if they don't get their way."

Going over the fiscal cliff would ensure very large spending cuts, something that the Republicans strongly favor. Taxes would simply revert to what they were before Bush cut them and this would increase revenue. Both Republicans and Democrats worry that the cuts and tax increases would send the U.S. economy back into recession. A concern not mentioned is that there would be large cuts in the defense budget. Obama and Boehner talked by phone on Wednesday but there were no compromises offered in public. There was no talk of a meeting between the two either, a move requested by Republican House leader Eric Cantor. I find it surprising that the Republicans are still maintaining that they will not agree to tax hikes on the rich. Their stand is not politically popular and it should be clear that Obama will not deal unless they give in on the issue. Perhaps, they think, that because in the past Obama has caved that he will do so again. This time around, however, Obama has nothing to lose by sticking to his position. Not only is his position popular but if a deal is not reached and the U.S. goes over the fiscal cliff, most people will blame the Republicans. As it is, the Republicans can probably get quite significant cuts to entitlement programs if they agree to the tax rate hike for the rich. Obama told The Business Roundtable in Washington:

"If we can get the leadership on the Republican side to take that framework, to acknowledge that reality, then the numbers actually aren't that far apart.Another way of putting this is we can probably solve this in about a week. It's not that tough, but we need that conceptual breakthrough.".

If the tax rate hike was all that the Democrats were demanding, perhaps a deal might be made already but they are demanding also an increase in the borrowing limit. The Democrats want to avoid another confrontation on this issue early next year. Geithner said:

"We are not prepared to have the American economy held hostage to periodic threats that Republicans will force the country to default on our obligations.That would be a terrible thing for the financial security of the average American, for businesses, for confidence around the world and the United States."

In spite of the intransigence of both sides Geithner was still optimistic that a deal could be made and the outlines of a deal were becoming clearer. Geithner said that both sides were making progress in agreeing to a deal to avoid the cliff. The real issue, I expect, is how much the Republicans think that they can get in spending cuts, especially to entitlement programs, in return for finally giving in on the tax issue. The Democrats may need to leave the debt ceiling solution until later. UPDATE: A leading Republican hawk has caved on the tax rate hike. Boehner surely will now also:

Republican Sen. Tom Coburn, a leading deficit hawk, said Wednesday he would support higher tax rates on wealthier Americans as part of a broader deal with President Barack Obama and congressional Democrats to avoid the crisis.

CBO warns politicians not to ignore coming fiscal cliff

The Congressional Budget Office warns that if the spending cuts and tax hikes go ahead as scheduled next January there will likely be a recession in the U.S. However they predicted that by the second half of the year there would be a rebound to an annual 2.3 growth rate. For the full year growth would be just .5 per cent.

While there is plenty of worry about the debt situation in Greece, the so called fiscal cliff facing the U.S. at the end of this year seems to be conveniently ignored. The political deal arranged last year would see an immediate cut of 1.2 billion from government spending while billions in tax cuts also expire. Consumer demand for many items would obviously contract.

Most analysts expect a new deal will be reached by the two parties yet it seems that both parties are concentrating on the coming elections rather than facing up to the issue. If the scheduled policies are removed or offset the CBO estimates the U.S. economy could grow at 4.4 per cent a respectable growth rate given the U.S. situation.

Ben Bernanke warned back in April::“The size of the fiscal cliff is such that there is, I think, absolutely no chance that the Federal Reserve could or would have the ability whatsoever to offset that effect on the economy,” The politicians should get moving on this issue or they will find they are faced with a crisis in November. For more see this article.