Presidential Elections

The will be held on Tuesday, November 8th, 2016  ♦  2016 Presidential Candidates

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Economy 101: The American Economy In 30 Minutes

I. Of Cows and Chickens…

Let’s start with a farm, and you’re the owner, the de-facto government. Now let’s add a foreman, Tom, who is the citizen and labor market, and his lovely wife, Rita. Of course, we must have some cows for currency. Some chickens would be nice too, since you would need smaller denominations in your currency system.

In this scenario, your Gross Domestic Product is the sales generated from the total number of cows and chicken your farm trades each year. Tom and Rita’s health expenses are, obviously, your healthcare expenses. The deduction you make from Tom’s salary to pay for their monthly upkeep is the taxes. Your budget will be the forecast of next year’s income and expenditure of the farm as a whole.

However, the death of a pregnant cow last spring is severely taxing your ability to meet your current expenses. So, you offer your neighbor one of next summer’s calves in exchange for some grains to feed your cows now. That’s you issuing a government-backed Treasury Bond, for some immediate capital in exchange for your forecasted future production. It also, sadly, creates a Government Debt.

Tom and Rita meanwhile, were facing problems of their own. Your decision to reduce Tom’s salary and increase his monthly deductions for upkeep couldn’t have come at a worst time. Rita is pregnant, you see, and Tom must now source for external financing to pay for the hospital bills and the new room for the baby. So, he approached his best friend, Humphrey, from the farm next door for a loan. Tom promised Humphrey one of his chickens next year in return for some eggs now. That introduces Private Debt into the mix.

Now that Tom has his own supply of reasonably priced eggs to compete with those that you sell to him, you have no choice other than to reduce the prices of your eggs. That’s market forces and to a lesser extent, capitalism, at work. However, the presence of so many eggs in the community has reduced their value as a commodity, and instead of the normal average of 40 eggs per bushel of wheat, it has now gone up to 45 eggs. That’s inflation making its grand entrance.

The inflation of the wheat started a trickled down effect to other products in the community, including essential items such as livestock feed, iron farming tools and fashionable cowboy hats. It forces you to reevaluate your budget for the following year. Since you have to give one of your calves to your neighbor as your bond matures, you will not have enough money to pay for your expenses, and thus, turning your budget into a deficit budget, forcing you to plan for another Calf-Bond to be issued next summer to offset the projected income shortfall.

And there you have it folks. A basic economic model mimicking the fundamentals of a free market economy. Now that you have a clearer picture of the jargons used in the current national economic debate, let’s delve in a little deeper, shall we?

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II. American History E: A brief look at our economic evolution

Carl Menger, the neoclassical icon of the Austrian school of economics, defines an economy as the correlation between means and ends in a conscious attempt to improve our level of happiness, and “are subject to the law of cause and effect.”

These attempts that Menger spoke of, are dependent and shaped by the availability of natural resources, land and capital, and is influenced by the policies dictated by the ruling institution. In the case of the United States of America, the Founding Fathers, inspired by the proto-libertarian philosophy of John Locke, decided to abandon the mercantile system espoused by the British and their merchant princes in favor of a laissez-faire, isolationist model that sought to minimize the federal government’s direct involvement in the economy of the Thirteen Colonies. The reasoning behind this was simple: a centralized model would, over time, settle at the level of the weakest member of the confederation. Additionally, there is also the inherent risk that the interests of smaller members of the young nation would be swallowed by those of its larger ones.

The decision of Messrs. Washington, Jefferson, Adams and company proved to be a spectacularly correct one. Aided by the sheer, overflowing abundance of natural resources in the form of minerals, precious metals, farmlands and fisheries, among others; fueled by a steady stream of cheap labor, whose continued demands were met by a supportive and aggressive national immigration policy; and greatly powered by a bourgeoning class of young and intrepid entrepreneurs, the nation saw an unrivalled 150 year of economic prosperity, even in the face of the Civil War and seven other smaller international wars.

The American economy surpassed that of its former colonial master, Britain, for the first time in 1854, and 46 years later, it became the world’s largest economy, a position it has never relinquished since. But the extended honeymoon came to a crashing halt in 1929.

The heady days of the early twentieth century saw to the emergence of a new factor in the national economy: the economic warlords and market speculation. As the wealth of these warlords grew to unimaginable levels relative to everyday Americans, the attraction of ordinary enterprise-derived income suddenly became too trivial for these affluent personages. A new concept from the sophisticated and urbane financial centers of Europe made their way across the Atlantic – market speculation. Using vast sums of money, speculators learn that they could influence the stock, commodities and futures market through simple leveraging, aided by bank loans, to make huge overnight gains. The successes of these men invited other less wealthy, but equally ambitious men, to wade in and try their luck.

A slow, but increasingly evident distortion of the market and economy was taking place, and legislators realized that they needed a specialized body to deal with this seemingly obvious, but apparently legal, state of lawlessness. Furthermore, despite the manufacturing bonanza of World War I, the cyclic banking and financial market mini-meltdowns seems to occur with increasing frequency, with the most notable being the Panic of 1907 and the depression of 1920 ad 1927. It all points to deeper fundamental weaknesses in the self-regulated economy’s fiscal and monetary policies. The Federal Reserve was created on December 23rd, 1913, especially to oversee, manage, and where necessary, combat these types of economic malfeasance.

In October 1928, after extensive deliberations, the Federal Reserve decided to tackle the growing menace of market speculators head on by raising their discount rates to banking institutions. The prevailing sentiment then was this would choke the resources from speculators and return the market to more realistic levels with only minor collateral damage. In the nine-month period between October 1928 to July 1929, the Feds raised their nominal rates from 3.5 to 6%, (with actual realized rates between 5.6 to 9%). What happened next will remain a mystery for another 34 years, but it essentially precipitated the October 29 Black Tuesday - the most devastating stock market crash ever witnessed in the United States. Within two months, approximately $40 billion dollars were wiped off from the market, a figure equivalent to $5.6 trillion in 2011, relative to its share of our national GDP.

Note: The legendary economist, Milton Friedman, together with Anna Scwartz, wrote a definitive study of the Great Depression in 1963, A Monetary History of The United States (1857 – 1960). In the book, they explained how the decisions, and indecisions, of the Federal Reserve officials caused a monetary contraction in circulation, which sparked a series of domino-like effect on the economy. However, they also argued that the Federal Reserve was perhaps wrongly constrained in their decision making process by the false significance of maintaining the dollar to a fixed exchange rate against gold.

It effectively triggered the Great Depression, the single most destructive socioeconomic, political and cultural episode ever to occur in America. Between October 1929 to May 1933 (which is generally considered to be the nadir of the Great Depression), propelled by fear and a sense of hopelessness, the GNP shrunk by 49%, unemployment fell from 3 to 25% and deflation rose to double digit figures. The four years also saw massive retrenchments leading to hundreds of thousands of Americans losing their homes. Even the banking sector was pummeled, with saw the suspension of approximately 9,136 banks.

The Great Depression

Adding fuel to the fire, the drought affecting the Midwest in 1930 not only destroyed a significant amount of crop production that year, but years of neglect on the farmlands and the absence of sustainable farming techniques created, in the absence of moisture, dust storms that enveloped large tracts of the land, rendering it, already bereft of topsoil, unsuitable for any type of farming. It immediately destroyed the agrarian societies and the byproduct industries (logistics, processing, manufacturing, etc.) in the affected areas. As a result, not only did this create food shortages for the nation, it also left tens of thousands of citizens without a roof on their head, without any means of survival.

The Great Depression: Unemployment

The Republicans, a little unfairly, bore the brunt of the blame for the nation’s economic ruin, and the Democrats took full advantage of it. Franklin Delano Roosevelt trounced the incumbent, Herbert ‘The Worst is Over’ Hoover, in the 1932 presidential election and was inaugurated as president on March 4, 1933. With both the Senate and House of Representatives under Democratic control, Roosevelt’s slew of Keynesian-inspired New Deal economic measures were implemented without much resistance.

FDR: The New Deal

A full economic recovery was still a decade in coming (Gross National Product took another five years to return to its 1929 level), and unemployment rates only fell during the World War II (some cite the war conscription under the Selective Training and Service Act as the reason for the drop), but there was an evident surge in optimism among the people of the land.

42 separate mechanisms and legislations - fiscally, politically and socially - were enacted in Roosevelt’s first 100 days to prevent a recurrence of a similar catastrophe. Some of the most noteworthy ones were the:

    • Agricultural Adjustment Act of 1933 (farming subsidies)
    • Banking (Glass–Steagall) Act of 1933 (regulations for depository and investment banks)
    • Social Security Act of 1935
    • National Labor Relations Act of 1935 (prohibition against unfair labor practices)

These Acts signaled the entry of both the legislative and executive arms of the government into the uncharted waters of national economic management, and a step into Federalism. But the lingering fear of the Great Depression among the populace and some members of Congress heralded the arrival of the Employment Act of 1946.

The Act mandates the government, chiefly through the newly formed Council of Economic Advisors, a presidential level advisory board, to aim for full employment of the national labor force. The President is tasked with submitting an annual Economic Report to the Congress that details whether the objective has been achieved, and if not, the measures undertaken towards doing so.

Excerpt from the Act
The Congress hereby declares that it is the continuing policy and responsibility of the Federal Government to use all practicable means consistent with its needs and obligations and other essential considerations of national policy, with the assistance and cooperation of industry, agriculture, labor, and State and local governments, ... for the purpose of creating and maintaining, in a manner calculated to foster and promote free competitive enterprise and the general welfare, conditions under which there will be afforded useful employment opportunities, including self-employment, for those able, willing, and seeking to work, and to promote maximum employment, production, and purchasing power.

With the Democrats holding the presidency for 28 of the next 36 years (Roosevelt, Truman, Kennedy, Johnson), Roosevelt’s policy became the de facto economic blueprint for the country, seeping and firmly entrenching itself into the national economic construct. But Richard Nixon’s victory in the 1969 presidential election signaled a swing in fortunes for the Republicans as they went on to win seven out of the next eleven elections, and in the process, began to challenge the Keynesian tenets of the economy.

However, the expected fiscal and monetary ideological battle between the Democrats and Republicans has been regularly interrupted in the forty years since, with several global economic crises and intermittent wars. And all signs indicate that this presidential election, more than any other since 1932, will feature the most bruising battle of economic ideologies between the two dominant parties.

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III. Of the Economy and Financial Climates: The good, the bad and the something…

Now that we have familiarized ourselves with a basic chronological understanding of the nation’s economic progression since independence, perhaps it’s time we return to the present and wade through the unending stream of gloomy forecasts and woeful economic indicators we are being served with daily. It is no surprise that many Americans have been left silently wondering if things are as bad as they are made out to be.
We’ll delve into the matter in detail in the next two chapters. But first, let’s take a look at some numbers and try to slowly immerse yourselves into the complicated labyrinth that is known by some as the national economy. First off, let’s review several positive fundamentals of the American economy before we move on to the less than comforting subsequent segments.

The Good

• Gross Domestic Product (GDP)

For the 111th consecutive year (officially), the United States tops the worldwide GDP figures with 14.7 trillion dollars, a 2.8% growth from 2009.<

Source: World Bank

• Gross Domestic Product Per Capita (PPP)

The quickest way to ascertain the relative level of wealth of the population of any given country is through the average annual income of its citizens, or the GDP per capita. While the ranking is yet again dominated by wealthy, smaller nations, the United States once again came ahead of other major western economies, finishing seventh with $47,284.

Note: However, some argue that PPP figures do not reflect the income disparity between the top percentile and the low-income earners, especially in light of the low index score attained by the United States in the Gini coefficient (a statistical tool used to measure wealth distribution in an economy).

Source: International Monetary Fund

• International Reserve Currency

As countries around the world dusted themselves up and started to rebuild their battered economy following the devastation inflicted by World War II, the Bretton Woods Agreement was signed in July 1944 by 44 Allied nations. The agreement was aimed at facilitating cross border trade using a standard exchange mechanism. By virtue of being the biggest and most stable economy in the world, the US dollar was chosen as the international trading currency, with its exchange rate pegged at $35 per ounce of gold, and with that, the US dollar became the official trading and reserve currency of the world. Even after the dissolution of the agreement in 1973 following the free fall of the dollar, it continued to be the favored currency for trading. Today, despite the economic uncertainties facing the United States and the emergence of the Euro as an alternative reserve currency for central banks, the dollar continues to dominate.

Source: International Monetary Fund

• Gold Holdings

When all else fails, there’s always gold.
Despite the persistent rumors of the ‘unaccounted’ gold in Fort Knox, the Congressional investigative arm, the Government Accountability Office (formerly known as the General Accountability Office), has confirmed the presence of over 8,000 tonnes of gold (valued at almost $300 billion) in the vaults of the United States Bullion Depository (Fort Knox) and Federal Reserve Bank of New York, making United States the leading gold collector in the world.

Source: World Gold Council

• Foreign Direct Investments

One would assume that, in the face of the alleged, imminent collapse of the American economy, foreign investors would shy away from making any forms of investment here. However, the figures tell a different story, as over $2.5 trillion worth of foreign investments came in 2010.

Source: Central Intelligence Agency World Factbook

• External Investment

By the same reckoning, a distressed economy should see a contraction in overseas investments. But American corporations apparently did not get the note as they splurged a record breaking $3.5 trillion overseas last year.

Source: Central Intelligence Agency World Factbook

• Global Competitive Index

It is heartening to see, despite economic adversity, the United States still able to continue offering a competitive business environment, even if they slip to fourth, compared to second in the 2009 Index.

Source: World Economic Forum

Things do appear to be running rather smoothly, aren’t they? Even so, please refrain from popping the cork of the champagne bottle, as the story is about the get bleak. Very bleak.

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The Bad

So are things really as bad as they’re made out to be? Once again, let’s work our way through some numbers and see if they could shed further light on the matter.

• Unemployment
The rate of unemployment often accelerates in an inefficient economy pervaded by underlying structural weaknesses. It is surely one of the most demonstrative statistical indicators available for the general health of an economy. A quick look at the nation’s unemployment figures reveals a decidedly alarming four-year trend that appears to be rising exponentially.

• Supplemental Nutrition Assistance Program

More commonly known as the Food Stamp Program, past participants of the initiative used to be concerned with the associated social stigma. However, with one in eight Americans being part of it, totaling in excess of 44 million people, the apprehension is now long gone. But considering that the program’s benefits are only extended to citizens classified as either in or near poverty, the rising expenditure is cause for great concern.

• Federal Budget Deficit
For the ordinary man on the street, spending more than one earns points to a fundamental character flaw. It also demonstrates a distinct lack of discipline and foresight. However, for a country to fall into a similar trap, it unfortunately portends to the apathy and injudicious motivations of the elected officials tasked with managing our national budget; the same ones who have decided to dump the cumulative past, present and future debts into the laps of our unborn, and yet to be named, descendants.

For the past 43 years, we have had only THREE surplus budgets (1999-2001, arguably and probably attributable to former President Clinton and his band of merry economists, alongside the influx of pre-Dot-Com bubble burst cash and the end of the Cold War). That’s a batting average of .930 for the folks in Washington, no mean feat by any stretch. It is an achievement that will probably be looked upon with incredulity, bewilderment and anger by our unnamed future children.

• Federal Debt

The government borrows money to bankroll budget deficits, and in the process, creates the federal debt. The snowball effect of our recurrent annual budget deficit has reached gargantuan proportions, of the likes never seen before in the world or on Saturday Night Live. So much so, that every citizen now owes close to $47,000 dollars each to some faceless lenders. Babies born in the country are not only rewarded with citizenship, they also have the honor of having a share in the national debt basket.

• Private Debt
Let he who is without debt cast the first stone – a sentence that every legislator in Washington, bearded or otherwise, is just itching to throw back to us. Probably. After all, as bad as the federal debt is, it simply pales in comparison to the debts held by the private sector. Our mortgages, credit cards, debts of local municipalities and state authorities have created a many-headed hydra of a debt that is three times the size of the Federal one.

So what does all these numbers, charts, graphs and pictures tell us? Nothing we didn’t already know. Nevertheless, it did very clearly illustrate our Achilles Heel, which is also the most critical aspect of our economy, the deficits and debts; subjects which we will discuss in detail in the last two chapters.

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The Something

Don McLean: American Pie

A long, long time ago, I can still remember
When Phil Gramm sponsored the Commodity Futures Modernization Act of 2000…
And no one knew what would come next
As ‘sophisticated parties’ no longer fall under
The Commodity Exchange Act of 1936
Or the SEC and the Commodities Futures Trading Commission
Leaving the emerging derivatives industry functionally self-regulated…
It continued even after the Enron’s energy derivatives speculation fiasco
And culminated with the 2008 sub-prime mortgage crisis

I can’t remembered if I cried
When I read about the size of the
OTC credit swap derivatives market
The day when I heard 601 trillion for the first time…

The end.

Ps: We would love to elaborate more on the subject. Unfortunately, since the industry is essentially self-regulated, very few substantive independent data is available for this major component of the so-called shadow banking system of Wall Street. Besides reports from the market players themselves, there’s really naught else to speak of.

We can only bite our nails waiting for the inevitable sneeze from the six hundred trillion-dollar behemoth (ten times the size of the ‘real’ global economy) that would once again shake the very core of the whole fiscal and monetary system of the United States of America. In the meantime, why don’t we all resume with our huffing and puffing about the $1.5 trillion budget deficit, and just pretend that's not a lion curled up on the couch in our living room?

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IV. Of Budgets, Deficits and Debts

We’re going to let you in on a little secret. But first, pull up a chair and get yourselves seated. This is going to hit you hard.

You see, based on historical, ideological, cultural, national and behavioral precedents, our colossal federal debt will NEVER be paid off. There are just too many conflicting agendas and motives at play here to prevent it from becoming a realistic possibility. Even if we somehow manage to miraculously elect 537 clones of George Washington to Congress and the White House, all independents at that, the depth of sacrifice and belt tightening required from us, the citizens, will be overly excessive to stomach. The wholesale pork-barrel cuts, the hefty tax hikes, the across the board termination of approximately 245 state and federal subsidy programs – all this will significantly alter the lives of a significant number of ordinary Americans.

.However, you wonder, what if the citizenry suddenly and inexplicably grew a collective conscience and transformed into a selfless and altruistic society; would it be possible then? Still no, unfortunately. For in such an instance, the demand for the long-neglected reinvestment of our archaic and decaying national infrastructure will undoubtedly take precedence.

Plus, there is also the matter of the global economy to reflect upon. A dramatic shift in our fiscal and monetary policy will cause an endemic worldwide economic crash that will inevitably produce a backlash to our very own shores as well. Despite the flaws of our economy, it is still the biggest in the known universe and Americans remains the largest and most prolific buyers of international goods and services. Without America propping the world’s manufacturing sector and its byproduct industries, a series of domino like economic collapse will take place the world over, beginning from the industrial hotspots of Guangdong and Selangor, to bustling Pune and Cairo, followed by beautiful Barcelona and Randstad, before crossing the Atlantic to Sao Paulo and Cordoba in South America.

We are of course working on the premise of the nation not getting dragged into yet another armed conflict.

However, we’re getting ahead of ourselves. Let’s take a step back and return to our budgets, deficits and debts. We have compiled below a 41-year table illustrating some major economic statistics for you fine folks to stare and gape at, before fainting.

The Table of Irresponsible Governance (1970-2010)

A deficit budget is not necessarily a bad thing. At times, it is a powerful and essential economic tool. For instance, the Keynesian school of thought believes that a suitably deployed deficit budget will spur demand in a weak economy, automatically increasing production and maintaining employment levels.

However, 38 budget deficits in 41 years clearly demonstrated a careless and unsustainable approach towards the national economy. If such an approach were practiced in the private sector, not only will the management of the firm be fired, the board members would face serious risks of criminal charges being filed against them.

So you think we’re being too hard on our legislators? Take another look at the table and consider this.

In 41 years, our debt has risen to almost the same as our total national economic output, and based on projections, the debt will surpass our GDP either this year or the next. Still feeling a little sympathetic? We’ll give it another shot.

In the same 41 year period, our debts, through chronic budget deficits, increased from $381 billion in 1970 to $13,787 billion in 2010 - a $13.4 trillion increase. And here’s the kicker; we paid $5,730 billion in interest during the period.

$5.73 trillion in interest alone.

In case anyone has trouble visualizing the sheer magnitude of that number, please allow us to illustrate. With $5.73 trillion, you can buy a $23,453 Ford F-150 everyday for the next 668, 931 years.

With $5.73 trillion, you can buy a $499 iPad 2 for every single American for 37 consecutive years.

With $5.73 trillion, you can end world hunger. You can immunize, educate and provide shelter for every single one of the estimated 1.35 billion to 1.7 billion people living in absolute poverty worldwide. You will be able to end generational poverty, with enough left over to initiate a major redevelopment initiative involving the supply of clean water, electricity, farming, small-scale manufacturing and wipe off the debts of countries (some countries use the equivalent of half their GDP to pay for loans to ‘donor’ countries and the IMF).

Wait a minute, you suddenly wonder. To whom are we paying these interests to? Who is lending us these obscene amount of money? We’re glad you wondered.

The Bureau of the Public Debt (BPD) of the Treasury Department is the primary government unit in the country’s borrowing mechanisms. Financing requirements are sent to the BPD, who will then issue one of the following Treasury instruments:

  • Marketable Securities (tradable in the open market; including the private sector and individuals)

    • Treasury Bonds

    • Treasury Notes

    • Treasury Bills

    • Treasury Inflation Protected Securities (TIPS)

  • Intragovernmental Holdings/ Non Marketable (non-tradable; restricted to Federal and State bodies, including the Social Security Trust Fund and Medicare Trust Fund)

    • Government Account Series (GAS)

    • State and Local Government Series (SLGS)

The BPD manages the sales process (through primary government securities dealers), reporting, interest payment and redemption of the borrowing instruments at their respective maturity dates. As at June 30, 2011, America’s debt figures stand officially at $14.343 trillion, consisting of $ 9.74 trillion marketable Treasury instruments and $ 4.6 trillion intragovernmental holdings. So how do the numbers stack up? Let’s have a look.

As you may have noticed, intragovernmental holdings constitutes almost a third of the federal debt. Institutional and private investors (local) meanwhile, are second and sixth, with the Federal Reserve, the People’s Bank of China (which incidentally is the biggest ever bank in the history of human civilization, based on assets) and the Bank of Japan coming in third, fourth and fifth respectively.

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V. Of Debts and Ceilings

In a letter to the Senate Majority Leader, Senator Harry Reid of Nevada on January 6, 2011, Treasury Secretary Tim Geithner stated,

“…the Treasury Department now estimates that the debt limit will be reached as early as March 31, 2011, and most likely sometime between that date and May 16, 2011. This estimate is subject to change...”

In a follow-up letter to Senator Reid on April 4, 2011, Secretary Geithner wrote,

“The Treasury Department now projects that the debt limit will be reached no later than May 16, 2011… If the debt limit is not increased by May 16, the Treasury Department has authority to take certain extraordinary measures...would be exhausted after approximately eight weeks, meaning no headroom to borrow within the limit would be available after about July 8, 2011”

On May 2, 2011, Geithner sent his third and final letter to John Boehner, Speaker of The House of Representatives, stating that,

“Therefore on May 16, I will declare a “debt issuance suspension period” … we now estimate that these extraordinary measures would allow the Treasury Secretary to extend borrowing authority until about August 2, 2011 … I want to emphasize that, contrary to common misconception, the debt limit has never served as a constraint on future spending, nor would refusing to increase the debt limit reduce the obligations the country has already incurred. Increasing the debt merely permits payment of obligations Congress has already approved…”

The crux of the 2011 debt ceiling crisis revolved around the administration’s attempt to amend the statutory debt limit written in the Pay-As-You-Go Act of 2010 (P.L. 111-139). The legislation limited federal borrowings to $14,294,000,000,000, and the Obama administration were aiming for a minimal upwards revision of $738 billion, which corresponds with the projected government outlay for the remainder of Financial Year 2011.

The debt limit was already surpassed on May 16, 2011, and the country was left effectively penniless. Treasury Secretary, Tim Geithner, declared that all stalling tactics have been exhausted and the United States of America will, for the first time in its history, default on their financial obligations after August 2, 2011, if Congress fails to pass the debt ceiling amendment.

Geithner had repeatedly stated over the past several months that the debt ceiling had no relevance to ongoing policy discussions, as the money will be channeled for expenditures already approved by Congress and charged to the Treasury. The Republican leadership however, led by House Speaker John Boehner and House Majority Leader Eric Cantor, contends that the debt ceiling is the leverage they need to bring the wasteful Obama administration back into the negotiating table for discussions on future fiscal and monetary policies, specifically on future spending cuts. While this is not the first-time debt-ceiling skirmishes has occurred, this was by far the most public and hostile one yet.

A deal was eventually struck between the Democratic and Republican legislators one day before the Geithner deadline, and in the process, pulled the American economy back from the brink of disaster. The new deal will see an immediate $400 billion increase in the debt ceiling, with another $500 billion coming in by the fourth quarter of 2011. The ceiling will be raised a further $1.5 trillion in the next financial year, ensuring a similar battle will not recur on an election year. However, as part of the deal, the Republicans demanded that all the increase must be matched by spending cuts, which will be determined by a bipartisan congressional committee.

While we savor the conclusion of this most unappealing of legislative dramedies, why don’t we take a stroll down memory lane and learn a little bit more about the debt ceiling and how it came into being?

There was a time when America was a nation of great fiscal discipline, and the government’s spending is dependent solely on the revenue it generates. Alas, the arrival of the 20th century saw an increase in infrastructural demands, prompting the Congress to authorize the issuance of one-off government bonds. However, the experienced of World War I forced a rethink of the situation.

Owing to the highly fluid nature of capital requirements, and the need to preserve the secrecy of the Treasury funding level, the Congress passed the Second Liberty Bond Act of 1917. The Act provided the federal government with the ability for long-term fiscal planning, and in the process, reduces the rate of short-term interests and overall cost of government securities.

However, Congress was cognizant of the threat of a runaway government spending and placed a debt limit mechanism into the Act that creates a statutory limit, or debt ceiling, to keep the government in check. It also compels the government to provide a retroactive report on any subsequent debt ceiling increase request. The initial ceiling set by the Congress was $11.5 billion. The Second Liberty Act has since then been incorporated into the Constitution (31 USC 3101 - Sec. 3101, public debt limit).

The debt ceiling has been amended regularly ever since, and based on the data from the Office of Management and Budget, there have been 102 separate amendments since 1940, as illustrated in the table below.

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Current President of the United States

Barack Obama

Presidential Candidate Barack Obama
Obama Position on the Economy

No matter how one looks at it, the 2012 presidential election will be a referendum on the economic policies of the Obama administration. The sub-prime mortgage fiasco of 2007/08 and the resulting recession, which wiped off almost $17 trillion from the wealth of the citizenry, played a prominent part in Senator John McCain’s defeat to President Obama in the 2008 presidential election. The aftereffects of that recession are now threatening to derail the Obama presidency. Things are definitely not looking particularly rosy for the Democrats at the moment, and the tepid job market is certainly not helping.

President Obama is being personally held responsible by a majority of the conservative Republican base for the spiraling federal debt, the unchecked federal deficit of the past three years and the general sense of malaise pervading the psyche of the nation.

However, despite unceasing pressure from GOP lawmakers, President Obama remains unyielding on one of the bulwarks of his 2008 presidential election campaign, which is also one of the principal tenets of his socioeconomic policy – Social Security, along with Medicare and Medicaid.

A myriad set of numbers have been traded across the political spectrum on the size of unfunded entitlement liabilities, with some estimating the figure to be in excess of a hundred trillion dollars, highlighting the urgent need to either revamp or dismantle entitlement programs to fix the budget and in the process, salvage the long-term future of the nation.

However, the Obama administration, with the declared aim of repealing the tax cuts of former President Bush and bringing the federal tax rates back to the 40% level of the Clinton era, is confident that the additional tax revenue and amendments of entitlement programs benefits will restore the fiscal viability of the social net mechanism.

Less one forget, this is a central part of President Obama’s manifesto in the 2008 campaign.

"I will reform our tax code so that it is simple, fair, and advances opportunity, instead of distorting the market by advancing the agenda of some lobbyist or oil company. And I'll use the money to help pay for a middle class tax cut that will provide $1000 dollars of relief… We'll also eliminate income taxes for any retiree making less than $50,000 per year. Because every senior, every senior, deserves to live out their life in dignity and respect… I will never waver in my commitment to protect that basic promise as president. We will not privatize Social Security. We will not raise the retirement age and we will save Social Security for future generations by asking the wealthiest Americans to pay their fair share”

Blueprint For Change: Fiscal, Barack Obama’s Campaign Manifesto for the 2008 Election

The key requirement towards a short-term fix for our budget lies with reducing unemployment. Halving of the unemployment rate would see the nation receiving a gross injection of almost $400 billion annually into the economy from direct wages and reduced support costs. The Obama administration claims that they are well on their way towards achieving that, pointing at the recovery of employment figures as a result of the $787 billion American Recovery and Reinvestment Act of 2009 stimulus spending beginning from February 2009.

Opinions are sharply divided along partisan lines, with legislators trading blows almost daily in the capitol and on the national media.

Deficit and Debts

President Barack Obama has presided over the largest federal budget deficit in the nation’s history, and the federal debt in turn, has skyrocketed into stratospheric levels.

His first full budget, for the period between October 1, 2009 to September 30 2010, showed a net operating deficit of $1.294 trillion. Between Jan 2009 to June 2011, the federal debt grew from $10.6 trillion to $14.3 trillion, an increase of $3.7 trillion. The White House has projected that the federal deficit will peak in 2011, featuring a record breaking $1.645 trillion, before leveling off to sub-$700 billion position starting from 2014.

So how does President Obama reconcile these numbers with the pledge he made in his 2011 State of the Union Address?

“Now the final critical step in winning the future is to make sure that we aren't buried in a mountain of debt. We are living with a legacy of deficit spending that began almost a decade ago. And in the wake of the financial crisis, some of that was necessary to keep credit flowing, save jobs, and put money in people's pockets. But now that the worst of the recession is over, we have to confront the fact that our government spends more than it takes in. That is not sustainable. Every day families sacrifice to live within their means. They deserve a government that does the same.

So tonight, I am proposing that starting this year, we freeze annual domestic spending for the next five years. Now this would reduce the deficit by more than four hundred billion dollars over the next decade, and will bring discretionary spending to the lowest share of our economy since Dwight Eisenhower was President. This freeze will require painful cuts. Already, we've frozen the salaries of hard working federal employees for the next two years. I've proposed cuts to things I care deeply about, like community action programs.

Secretary of Defense has also agreed to cut tens of billions of dollars in spending that he and his generals believe our military can do without”

President Obama’s State of the Union Address

The Obama administration claims that the combination of stimulus, bailouts, lending and other measures adopted by the government effectively prevented a catastrophic economic meltdown that could’ve rivaled the Great Depression itself.

The Congressional Budget Office (CBO) partially supports the claim. In their Estimated Impact of the American Recovery and Reinvestment Act on Employment and Economic Output From July 2010 Through September 2010 report, the CBO opines that:

• They raised real (inflation-adjusted) gross domestic product (GDP) by between 1.4 percent and
• 4.1 percent,
• Lowered the unemployment rate by between 0.8 percentage points and 2.0 percentage points,
• Increased the number of people employed by between 1.4 million and 3.6 million
• Increased the number of full-time-equivalent jobs by 2.0 million to 5.2 million

The administration claims were supported further by a report co-written by Mark Zandi, the respected non-partisan Chief Economist of Moody, and former Federal Reserve Vice-Chairman, Alan Blinder.

"The U.S. government’s response to the financial crisis and ensuing Great Recession included some of the most aggressive fiscal and monetary policies in history. The response was multifaceted and bipartisan, involving the Federal Reserve, Congress, and two administrations. Yet almost every one of these policy initiatives remain controversial to this day, with critics calling them misguided, ineffective or both. The debate over these policies is crucial because, with the economy still weak, more government support may be needed, as seen recently in both the extension of unemployment benefits and the Fed’s consideration of further easing.
In this paper, we use the Moody’s Analytics model of the U.S. economy—adjusted to accommodate some recent financial-market policies—to simulate the macroeconomic effects of the government’s total policy response. We find that its effects on real GDP, jobs, and inflation are huge, and probably averted what could have been called Great Depression 2.0. For example, we estimate that, without the government’s response, GDP in 2010 would be about 11.5% lower, payroll employment would be less by some 8½ million jobs, and the nation would now be experiencing deflation… While the effectiveness of any individual element certainly can be debated, there is little doubt that in total, the policy response was highly effective,”

July 27, 2010, How the Great Recession Was Brought to an End (Zandi and Blinder).

Critics, however, charge that the report’s findings were flawed as it was based entirely on Zandi’s econometric modeling. Furthermore, the report was not submitted for peer-review with any scholarly journal, casting further doubts on its methodology and conclusions. Some even contend that the piece was merely a piece of political propaganda.


Liberal. Socialist. Left Wing. Obamanomics.
These are some of the more prevalent expressions used to describe President Obama. However, on matters concerning the economy at least, his actual philosophy might raise a few eyebrows. In his 2006 bestseller, The Audacity of Hope, Obama remarkably revealed streaks of Reaganomics in his economic perspective. In page 92 of the book, Obama confides,

“In his rhetoric, Reagan tended to exaggerate the degree to which the welfare state had grown over the previous twenty-five years. At its peak, the federal budget as a total share of the U.S. economy remained far below the comparable figures in Western Europe, even when you factored in the enormous U.S. defense budget. Still, the conservative revolution that Reagan helped usher in gained traction because Reagan’s central insight—that the liberal welfare state had grown complacent and overly bureaucratic, with Democratic policy makers more obsessed with slicing the economic pie than with growing the pie—contained a good deal of truth. Just as too many corporate managers, shielded from competition, had stopped delivering value, too many government bureaucracies had stopped asking whether their shareholders (the American taxpayer) and their consumers (the users of government services) were getting their money’s worth.”

His understanding and acceptance of the open market is further illustrated in an interview with the New York Times on August 20, 2008, where economist David Leonhardt reveals,

“… he (Obama) didn’t think President Bush deserved all that much blame for the stagnant incomes of the current decade. Income growth for most families began to slow in the 1970s, and the causes of the great pay slowdown were complex. Obama didn’t name them all, but a decent list would look something like this: new technologies that have made some blue-collar work obsolete; a slowing in the nation’s educational attainment; the shriveling of labor unions; the increase in one-parent families, which are far less economically secure; and the rise of other countries that have huge low-wage work forces.

Obama blamed the current administration for {, he said, was} aggravating these trends with the tax code. To a large extent, Obama’s own economic agenda revolves around reversing Bush’s tax policies and then going a bit further in the other direction. Here, more than in his regulatory approach, Obama stands on the left side of the Democratic Party, but not exactly in the traditional tax-and-spend ways.”

To complicate matters further, Obama appointed Austan Goolsbee, Professor of Economics from the University of Chicago, to head his Council of Economic Advisors. The Booth School of Business of the University of Chicago, which is one of the finest economics departments in the world and the force behind the neoclassical Chicago school of economics, is famous for its rejection of the Keynesian macroeconomic theory, which has long been synonymous with the Democratic Party. Obama’s decade-long tenure there as a Constitutional Lecturer would have provided the perfect setting in exposing him to the fundamentals of the neoclassical economic slant of the faculty.

The icing on the cake comes in the form of the Democratic Party economic point-man - Director of the National Economic Council, Senior Fellow at the influential Council of Foreign Relations and the ex- National Economic Adviser of former President Bill Clinton - the progressive, liberal heavyweight, Gene Sperling.

At a glance, Obama looks to have surrounded himself with an array of conflicting economic ideology, and he appears to be the often talked about, but rarely found, progressive-conservative; a believer in the free-market forces, tempered by a liberal social outlook. However, this blend of controlled expansion anchored on a solid center has not been all too evident in his 30 months in office, despite the occasional glimpses. We will revisit this issue once again next year, as the rhetoric dies down and his maturing policy reveals itself more clearly.

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