Friday, July 22, 2011

Howard Marks Memo: Down to the Wire

Found via Market Folly.

Here are the ingredients in the plot: A problem everyone’s aware of. If it isn’t resolved, a shutdown with unspecified but possibly disastrous consequences. A deadline which seems indispensable, since in its absence it appears nothing would be done. And despite the presence of the oncoming freight train, movement toward a solution is deterred by highly entrenched positions. It’s truly white-knuckle time, and if the progress toward a solution continues to lag, the things that must happen won’t.

I’m not talking about the nearly concluded drama at the National Football League, where failure to reach a labor settlement for just a few more days would have caused significant changes in the schedule for the coming year, upsetting the flow of wealth to owners and players and depriving fans of the game they love. I’m talking about the down-to-the-wire battle over the U.S. debt ceiling. I’ve decided to devote a memo to the debt issue and its significance. I especially hope it’ll be helpful to our non-U.S. clients, for whom the lack of progress to date must be absolutely incomprehensible.

Interestingly, the immediate debt crisis is somewhat artificial. It is occasioned now only because of our debt ceiling, which currently limits the net debt of the United States to $14.29 trillion. Such ceilings are far from the norm worldwide. Many other nations seem to function no worse without them.

But the U.S. has the historical accident of a ceiling, and we must deal with it. Because the limitation is set in terms of absolute dollars and not indexed for inflation or growth, we would run into it every few years even if our debt only grew apace with the economy. “In fact, it’s been raised nearly 100 times over the decades.” (Financial Times, July 16) But thanks to the especially rapid growth of our debt relative to GDP in recent years – exacerbated by the Afghan and Iraq wars and the financial crisis – the ceiling has the potential to provide some real excitement every once in a while.