Cast your mind back to mid-2011.
The US debt level had blown out so badly that it reached the debt ceiling.
The US Government legally couldn’t borrow beyond this level. In other words, the US government credit card was well and truly maxed out.
Endless months of negotiation concluded with a deal that allowed the US government a lazy $900 billion extra credit (terms and conditions apply), which took the limit up to $15.194 trillion.
What happened next was where things got really messy.
Then on the back of all this, in early August 2011 Standard & Poor’s ‘rating agency’ downgraded US debt for the first time ever.
Markets crashed.
Stocks had their most volatile week since the 2008 financial crisis, with the Dow Jones Index falling 5.6% in a single day. The ASX200 fell to its low point for the year. And within weeks, gold soared from US$1600 to set a new record high of US$1920.
With the US government just weeks away from reaching the US debt ceiling again, could all this be set to repeat?
A Typical Political Solution to a Debt Problem
It seems to me that in the midst of all the Fiscal Cliff media coverage, the potential for a re-run of 2011′s debt-ceiling car-crash has been lost in the wash.
But fear not! Everything is going to be ok. Boy wonder, Timothy Geithner – the United States Secretary of the Treasury – has a solution.
Seeing as how it couldn’t possibly be the US government’s profligate spending that is the problem…he has decided it’s the debt ceiling that’s the problem.
So he’s come up with a bold new solution – to get rid of the thing.
OK. It’s not quite that simple I admit, but the net result is probably the same. His proposal is more of a shift in power from Congress to the President in determining the debt ceiling. In Geithner’s press conference he said (with my emphasis),
‘The president could request a debt-ceiling increase and Congress could disapprove it; the president could then veto the disapproval, and Congress could attempt to override the veto.’
Without going into too much detail, the short story is that if Geithner gets his way, the President will have the upper hand. Raising the debt ceiling will be a breeze after that.
Put another way, the fat-man would have the keys to the cake cupboard.
For decades, the debt ceiling was a mundane political issue. It would barely merit a mention. But that has changed in recent years. As the chart below shows, Congress has raised the debt ceiling 13 times since 2001, more than doubling the ceiling.
That includes a further increase of $1.2 trillion in early 2012.
So why has it become such a political issue? For one thing the US is the only country (other than Denmark) that has a legislated debt ceiling that, for now, needs government action to increase.
But more importantly, it is a huge issue because US debt is completely out of control. The chart has gone parabolic.
US debt levels – from $6 trillion to 16 trillion in just 10 years
This incredible rise in the last ten years has taken the size of the US debt, relative to the US GDP, from 56.1% in 2002 – to above 100% now.
When the total debt level exceeds the size of the country’s economy – something has gone seriously wrong.
And now Geithner wants to clear the way for the President to enact future increases to the debt ceiling. If they get this one past Congress, what would stop Obama from pushing the ceiling from $16.4 trillion straight up to $22 trillion? Or more?
That would stop him having to worry about such mundane tasks as having to, you know…balance the country’s books for the rest of his second term.
The Democrats want to set this up as part of the Fiscal Cliff talks. It’s worth listening out for news on this amongst the general Fiscal Cliff banter.
Back Precious Metals and Growth Assets
Should they get it over the line, it would be enormously bullish for precious metals, and potentially for other growth assets. That’s something Kris Sayce is banking on, as he now has more open stock recommendations than at any point in more than two years.
Gold prices have been closely correlated to the US debt level, and where the debt ceiling goes, the debt level follows. Silver moves with US debt levels as well, though not quite as closely as gold. This is certainly not the only reason to own precious metals, but could be a strong short term driver.
We still need to hear which way things will turn in the fiscal cliff debate. But the stock markets and growth assets would certainly breathe a sigh of relief to get rid of the constant overhang of the debt ceiling. Even if it means the US gets even more hopelessly into debt.
Dr Alex Cowie
Editor, Diggers & Drillers
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