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U.S. Debt Ceiling - What Now?

Politics / US Debt Jul 26, 2011 - 08:35 AM GMT

By: Axel_Merk

Politics

William Poole writes: As I write it appears that the federal government is at the brink of default. The Republicans and Democrats have laid out irreconcilable positions on taxes. President Obama has said that he will not sign a bill that does not have some increases in tax rates on upper-income taxpayers. Republicans have said that they will not accept legislation that provides for such increases. In the negotiations, there has apparently been some progress in identifying spending cuts both sides can accept, but there no compromise is possible on the conflict over taxes.


In the past, when there have been fundamental conflicts, our leaders have found a way to compromise some way or other. Ordinarily, there are ways to broker a deal. If you give me more of this, and one more sweetener, I’ll hold my nose and vote for the compromise. Not this time.

Republicans have a vivid memory of what happened to the first President Bush when he backed away from his 1988 campaign pledge, “Read my lips—no new taxes.” Voters did not give him credit for compromise and for addressing the budget deficit. Instead, he got “credit” for being an unreliable negotiator and one who did not keep campaign promises. That was part of the reason he lost to Bill Clinton in the 1992 presidential campaign.

President Obama, by insisting that the Republicans accept some tax increases in exchange for spending cuts, is asking Speaker Boehner to commit political suicide. Moreover, given the adamant positions of many new Republican members of the House of Representatives it is not clear that Boehner could deliver a majority to pass legislation containing tax increases.

Similarly, it is not clear that Obama and Majority Leader Reed in the Senate could deliver a majority of Democrats to pass legislation that began the inevitable and painful process of reining in entitlement spending. Boehner, by insisting that a deal contain no tax increases and significant spending cuts, is asking the President to commit political suicide.

Politicians do not commit political suicide. At least, not knowingly.

What to do now?

Politicians understand that most harsh political rhetoric is part of the game and not personal. Most also understand that, in extremis, they must find a way to work together enough to avoid catastrophic outcomes. A default would most certainly be such an outcome.

The political calculus currently under way of trying to figure out which party would suffer the most from default should end. There is no way to make this calculation; polling data are not at all reliable in guessing the outcome. Once someone or some firm does not receive timely payment from the federal government, her view on that outcome will swamp anything she said to a pollster.

Logically, the Treasury should be preparing to pay certain bills and not others. The Treasury should pay interest on the federal debt and on all other such obligations. I would also argue for making payments to individuals who may not have access to bank loans or the capital markets, such a Social Security recipients. Bills from defense contractors and other firms with such access might be put into a pile for future payment. However logical this approach might be, it may not be operationally feasible. It is not an easy matter to reprogram Treasury computers to pick out payments that must be made from those that can be delayed. In any event, getting to this sad state would be a major black mark on the governance process in the United States.

President Obama and Speaker Boehner should appear at a joint press conference and announce the following agreement:

  • We cannot bridge the gap between our parties and the fundamental differences our parties have on the budget of the United States. This issue will have to be decided by the voters at the election in November of next year. The Administration, as is required by law, will present its budget early next year. Republicans have agreed to present their proposed budget in enough detail that it can be scored by the Congressional Budget Office. The two budgets may permit us to make some progress next year, and where possible we will do so.
  • But our irreconcilable views will have to be addressed by the voters in an election campaign that will be of historic importance to the United States. That is the way great issues are decided in a great democracy and that is what we will do. For now, we will both support an increase in the debt ceiling, with agreed budget cuts where possible.
  • The rest of the job will be in the hands of American voters next year.

Ensure you sign up for our newsletter to stay informed as these dynamics unfold. We manage the Merk Absolute Return Currency Fund, the Merk Asian Currency Fund, and the Merk Hard Currency Fund; transparent no-load currency mutual funds that do not typically employ leverage. To learn more about the Funds, please visit www.merkfunds.com.

By Axel Merk

Manager of the Merk Hard, Asian and Absolute Return Currency Funds, www.merkfunds.com

Axel Merk, President & CIO of Merk Investments, LLC, is an expert on hard money, macro trends and international investing. He is considered an authority on currencies. Axel Merk wrote the book on Sustainable Wealth; order your copy today.

The Merk Absolute Return Currency Fund seeks to generate positive absolute returns by investing in currencies. The Fund is a pure-play on currencies, aiming to profit regardless of the direction of the U.S. dollar or traditional asset classes.

The Merk Asian Currency Fund seeks to profit from a rise in Asian currencies versus the U.S. dollar. The Fund typically invests in a basket of Asian currencies that may include, but are not limited to, the currencies of China, Hong Kong, Japan, India, Indonesia, Malaysia, the Philippines, Singapore, South Korea, Taiwan and Thailand.

The Merk Hard Currency Fund seeks to profit from a rise in hard currencies versus the U.S. dollar. Hard currencies are currencies backed by sound monetary policy; sound monetary policy focuses on price stability.

The Funds may be appropriate for you if you are pursuing a long-term goal with a currency component to your portfolio; are willing to tolerate the risks associated with investments in foreign currencies; or are looking for a way to potentially mitigate downside risk in or profit from a secular bear market. For more information on the Funds and to download a prospectus, please visit www.merkfunds.com.

Investors should consider the investment objectives, risks and charges and expenses of the Merk Funds carefully before investing. This and other information is in the prospectus, a copy of which may be obtained by visiting the Funds' website at www.merkfunds.com or calling 866-MERK FUND. Please read the prospectus carefully before you invest.

The Funds primarily invest in foreign currencies and as such, changes in currency exchange rates will affect the value of what the Funds own and the price of the Funds' shares. Investing in foreign instruments bears a greater risk than investing in domestic instruments for reasons such as volatility of currency exchange rates and, in some cases, limited geographic focus, political and economic instability, and relatively illiquid markets. The Funds are subject to interest rate risk which is the risk that debt securities in the Funds' portfolio will decline in value because of increases in market interest rates. The Funds may also invest in derivative securities which can be volatile and involve various types and degrees of risk. As a non-diversified fund, the Merk Hard Currency Fund will be subject to more investment risk and potential for volatility than a diversified fund because its portfolio may, at times, focus on a limited number of issuers. For a more complete discussion of these and other Fund risks please refer to the Funds' prospectuses.

This report was prepared by Merk Investments LLC, and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward-looking statements expressed are subject to change without notice. This information does not constitute investment advice. Foreside Fund Services, LLC, distributor.

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