Will Donald Trump Be a Traitor to His Class?

The most important legislative priorities of the Trump administration--tax and health insurance reform--will be enacted within a matter of months.  Both of these measures will greatly impact the working class whites who propelled Trump to the White House--either for better or for worse.

Preliminary assessments of the proposed tax reform indicate that taxes for the middle class will drop about a couple hundred dollars.  One percenters can look forward to many thousands in tax savings.  This isn't exactly what folks in small town America were hoping for.  To make up for the loss of income tax revenues from these cuts, the President may endorse a border adjustment tax (basically, a tariff on imports that would likely increase the prices of the inexpensive food and goods that low and moderate income Americans rely on).  To many, this might feel like another kick in the teeth.

Health insurance reform is turning out to be a very tough nut to crack.  President Trump has said he wants to preserve the protections that many low and moderate income Americans count on--guaranteed acceptance, coverage against pre-existing medical conditions, and subsidies for those unable to pay full freight.  But these conditions are very expensive.  How will the President cover the costs?  There seems to be little consideration of progressive taxation of the wealthy or increasing the federal debt.  Yet there's no free lunch.  One possible "solution," so to speak, would be to offer low cost policies with skimpy coverage--prior medical conditions would be covered but total coverage might go only up to $25,000 or $50,000 a year.  This would be expedient, but would effectively deprive people of coverage when they needed it the most.

On top of this, the President's desire to turn Medicaid into a program of block grants for the states has significant potential to reduce coverage for the low income.  Many of these people voted for him.  Where will they go for care without health insurance? Medicaid covers around 74 million Americans--almost 1 in 4.  Cuts to this program could mean many millions of people mad at the President.

President Trump's problems are exacerbated by his proposal to increase military spending by $54 billion.  Where will this money come from?  The Republicans in Congress won't agree to more deficit spending.  So the President can either raise taxes, or piss off many millions of voters by cutting other federal programs.

Donald Trump is President at a time when stark choices are necessary.  He was elected as an insurgent.  But he's stacked his cabinet with establishment Republican types, people who have no demonstrated concern or sympathy for his core constituents.  The Republicans who control Congress gave him scant and faint-hearted support during his campaign.  But today they stack the legislative agenda with bills that would make the rich richer and offer the working class hardly more than a crumb or two--and stale ones at that.  

If the President really wants to help his constituents, he'll have to be a traitor to his class.  He'll have to offer substantial improvements in life to the working class, and sorry to say, but wealthier people will have to pay for them.  America got itself into its current mess by believing that somehow everyone can get more of everything all the time at no cost to anyone else.  The last two large nations to subscribe to this notion--the Soviet Union and Communist China--had to abandon their illusions and now struggle with the consequences of the their wishful thinking.

Franklin Delano Roosevelt, the greatest President of the Twentieth Century, was labelled a traitor to his class.  And he was.  He endorsed legislation like Social Security and a strengthening of protections for workers and labor unions that uplifted many millions of ordinary Americans out of poverty and into the middle class.  The cost was born to a large degree by a sharp increase in federal income taxes paid by the well-to-do.  The rich grumbled and plotted against him.  But he ushered in the prosperity of the 1950's and 1960's, now viewed as a golden age in America.  America's perceived decline from those days also correspond with ever increasing inequality of wealth and income.  If Donald Trump really wants to make America great again, he'll have to make it great for the working class.  That isn't the direction he's been going in since his inauguration.  The next few months, when his most consequential legislative initiatives will be enacted, will likely make him both a traitor--either to his core constituents or to his class--and a hero--to the wealthy, many of whom didn't support him but are glad to free-ride on his policies and program, or to the working class that vaulted him into office.  The choice is his.

The Shrinking Deficit: a Plus for the Market

The federal deficit is projected by the Congressional Budget Office to be just under $500 billion this fiscal year (the year ending Sept. 30, 2014). (See http://www.cnbc.com/id/101581648.) That's a lot of money, but only one-third the deficit of five years ago.  In other words, the deficit is lower by a trillion dollars, compared to half a decade ago.  That's a whopping huge drop, which leaves this year's deficit at 2.8% of GDP, below its historical norm of 3%.

When deficits fall, the government competes less in the credit markets against private sector borrowers.  This makes it easier for private interests to secure investment capital, a key predicate to economic growth.

Stocks tend to rise during periods of falling federal deficits.  The late 1940s and the 1950s are one example.  The 1990s are another.  The fact that stocks have risen steadily from their 2009 lows indicates that we are in another period of falling deficits and rising stocks. 

The future direction of the deficit is unclear.  The CBO predicts that it will fall a bit more next year and then begin to rise.  However, five years ago CBO didn't come close to predicting the deficit reduction we now have.  The weird, dysfunctional cognitive dissonance that is today's federal governance somehow managed to produce this beneficial result.  Who knows whether it might stumble its way to more good outcomes.  If the deficit stays moderate (near 3%), the markets will probably benefit.  While there are many other factors fueling volatility today, the federal deficit, improbably, isn't one of them.

The Fiscal Crisis: Can Kicks Are All We Can Expect

Tonight (Wednesday, Oct. 16, 2013), Congress has temporarily "fixed" the fiscal and debt crises by re-opening the government until Jan. 15, 2014, and raising the debt ceiling until Feb. 7, 2014.  In other words, the government will resume operations and not default on its debt until early next year, when we return to crisis mode again.

Can kicking is all we can expect.  The government that the voters elected in 2012 isn't capable of decisive action on divisive issues like government spending.  With the House held hostage by a small but very loud group of Tea Partiers, and the rest of government controlled by the Democrats, dysfunction is baked into the cake the voters made last year.  Maintaining the status quo--a/k/a can kicking--is the only thing a sharply divided government can do.

Early next year, when Congress and the White House revisit the fiscal and debt crises, they will again kick the can through the end of the 2014 fiscal year (which ends Sept. 30, 2014)--because they won't be able to do anything else.  Maybe they'll make minor tweaks, but nothing big will happen.  Come late September or early October 2014, with the 2014 Congressional elections imminent, they will kick the can again past the election date, perhaps into early 2015 for the next Congress to deal with.

To end can kicking, voters need to elect a functional government next fall.  Yes, the idiots in Washington are to blame for behaving like children.  But the electorate put them in office.  Democracies function by compromising.  If narrow-minded, uncompromising fanatics are elected, expect the can to be well-kicked for years to come. 

Why the Republicans Blinked

The Republicans, especially those in the House of Representatives, are rapidly giving ground in their fiscal battle with the Democrats.  A resolution is pretty likely within a week or less.  It will probably provide a short term delay of the debt ceiling and re-open the government, while the parties negotiate over long term fiscal issues.

Why did the Republicans blink?  Because they tried to manufacture a crisis out of a non-problem and a long term problem.  The non-problem is Obamacare.  The truth is that Obamacare offers valuable benefits to millions of people.  The huge traffic jams on health exchange websites demonstrate that lots of people understand Obamacare's value and want to participate in the program.  The Republican attempt to de-fund Obamacare would take away something millions of people want, and that's usually a very poor political strategy.  The Republicans seem to have belatedly figured this out, but not before forming a circle and firing volleys inward.

The long term problem is the federal deficit.  It is a serious problem.  But it's not an immediate problem.  The Republican effort to create a crisis at this moment over something that will play out years and decades from now is too obvious a political ploy.  The minority party wants to call the shots by gratuitously inflicting damage on the economy with a government shutdown and coercing an unnecessary default on the most important financial instruments in the world, U.S. Treasury securities.  Political parties thrive by winning over a majority of voters, not by wrecking economies and financial systems.  The fiscal deficit is not an immediate crisis.  It needs to be addressed, and will be, over the next years and decades as it becomes more pressing.  But the Republican tactic--give us everything we demand or we will destroy your government and wreck your finances--is bound to, and in fact did, alienate a majority of the electorate. 

After Barack Obama's re-election last year, the Republicans launched a process of reflection and reconsideration.  It's unclear that they made much progress, and the fiscal brawl of the past few weeks has surely left the party more damaged than before.  The Tea Partiers have prevented the Republicans from doing the thing that's necessary to political domination--shifting toward the middle.  Since political power abhors a vacuum, the Democrats have easily moved into the breach. 

From the Fed: Short Term Gain, Long Term Pain

As the Fed's ultra low interest rate policies grind on for a fifth year, we can see ever more clearly that there is no such thing as a free lunch, even when it comes to central bank policies.  The benefits of the Fed's low interest rate policies were easy to see at first:  cheap credit, stimulus to housing, a boost to the economy.  The costs didn't seem so great. 

However, by persistently favoring borrowers and heaping mulch on income-seeking investors for five years, the long term costs of the Fed's policies are emerging--and painfully so.  Detroit is in bankruptcy, and other cities teeter on the brink. Corporate defined benefit pension plans are becoming less common than the ivory-billed woodpecker. It's no wonder why.  Pension funds rely on safe long term investments that provide solid returns.  U.S. Treasury notes and bonds used to be crucially important components of pension fund portfolios.  AAA-rated corporates, which would have to pay slightly better than Treasuries, also were favored investments.  But pension plan returns came under stress as the returns on these low-risk investments nosedived.  And pension fund deficiencies, calculated on the basis of long term returns, balloon when returns fall.  Plan sponsors have to increase contributions--sometimes enormously--to keep the plans solvent.  Corporate executives intent on making the big score with their stock options see little upside to signing off on these contributions.  Shrinking cities like Detroit have little ability to make them.  Something has to give, and pensioners seem to be doing a lot of giving these days.  Detroit's problems go well beyond low long term interest rates.  But the city really didn't need the Fed to push it closer to the abyss. 

Neither did a lot of corporate employees whose retirements are less secure after losing their defined benefit pensions or seeing the plans capped.  Most people aren't skilled at managing their finances.  When fewer have defined benefit pensions, more are likely to end up with just Social Security, even if they start retirement with good-sized 401(k) account balances.  When people have fewer or no private resources, cutting benefits from the government becomes political anathema. 

Low interest rates hurt older folks in other ways.  As income from their interest-bearing investments dries up, fear drives them to become serial economizers.  That's a hard habit to break even after rates rise again (assuming they do).  Consumption may be impaired for a long time.  In addition, long term care insurance is getting scarce and expensive.  While poorly conceived estimates by insurers of the cost of care have much to do with that, the inability of insurers to obtain decent, safe returns on investments has added to the problem.  Fewer people are able to afford such policies.  So we have a ticking demographic time bomb, with lots of uninsured elderly likely to need Medicaid in a decade or two or three instead of being able to rely on their own resources.  Low interest rates are beneficial to the federal government's borrowing costs right now, keeping the budget deficit lower.  But positioning a lot of people to need Medicaid in decades to come means we'll have pressure toward an increased deficit in the long term.

 The Fed is taking a page from corporate America:  focus on short term returns at the risk of increasing long term costs.  The great corporate success stories don't follow this plot line.  But there's not much chance the narrative will change.  The Fed's easy money merry-go-round keeps the stock market buoyant.  With mid-term Congressional elections coming up next year, the Obama administration needs to keep the market feeling chipper.  Ultimately, everything in Washington happens for political reasons.  And politics dictates that Janet Yellen, a monetary dove, will be Obama's nominee as the next Chairman of the Fed.

How Is GDP Financed?

It may seem strange to ask how GDP is financed.  GDP simply measures the total market value of final goods and services that an economy produces.  It is a way to measure national income, not a measure of assets on a national balance sheet. 

But the way GDP is paid for does matter.  If large quantities of borrowed money finance GDP, then GDP in future years may be less sustainable than GDP produced by organic growth (i.e., GDP derived from people and companies spending their earnings, rather than borrowings).  The pauper nations of the EU, mostly located on the southern rim, are good examples.  They borrowed heavily (or their banks borrowed heavily) to finance consumption.  For a while, their GDPs grew.  But debt, unfortunately, has to be repaid.  A nation's whose GDP is heavily dependent on borrowed money will eventually have to pay the piper.  If those payments are burdensome enough, the nation's GDP bubble will burst, and recession will follow.  That isn't hypothetical; look at Greece, Ireland, Cyprus and Spain.  Indeed, look at the EU as a whole, which is sinking into recession even as we blog.

In America, the picture ain't pretty.  Even though GDP is nominally growing, in the first quarter of this year at an annual rate of 2.5%, the question of sustainability looms.  The federal government is constraining its borrowing (partly because of sequestration and partly because of Social Security and income tax increases).  Thus, the federal budget wouldn't be a source of GDP growth. 

But the Federal Reserve's quantitative easing program is.  The Fed is pumping $85 billion a month into the economy through purchases of financial assets.  Over a full year, the QE program would pump $1 trillion into the economy.  That's equivalent to about 6% of America's $16 trillion GDP.  It wouldn't be accurate to say that $1 trillion spent on QE results in $1 trillion of GDP.  Much of the money printed by the Fed for QE is recycled back to the Federal Reserve System in the form of member bank deposits at Federal Reserve banks.  This process is a near wash (except that it gives the depositor-banks riskless profits).  But QE is boosting the economy.  Our stock market--bizarrely exuberant in the face of a tepid economy--needs its regular fix of QE to maintain and increase its high.  The real estate markets seem to be getting a boost from the Fed's purchases of mortgage-backed securities.  Increases in asset values such as these appear to be creating a wealth effect that boosts spending (mostly by the top 10%).  That is probably a primary source of GDP growth today. 

But QE is similar to borrowed money.  At some point, the Fed will start selling down its more than $3 trillion balance sheet.  This akin to debt repayment.  It will remove money from the economy.  When there is less money to spend, there may well be less economic growth.  The Fed is hoping that the economy will be organically growing briskly by the time it goes into QT (i.e., quantitative tightening).  But there's no way to know for sure that will be the case.  The Fed may have to shift to QT because of a rise in inflation, whether or not growth has revived.  Whatever the reason for QT, it will constrain growth.  In some circumstances, it could produce a recession. 

Like toothpaste and genies, QE on the loose isn't easily put back into the place where it came from.  There's no riskless way to execute QT.  It's possible that continuation of the Fed's QE program could stimulate the economy to resume vigorous growth.  But that's far from certain.  And every additional month of QE heightens the risks that our economy is becoming overleveraged.

No Fiscal Discipline in the Stock Market

As the federal government belly flops into sequestration, the stock market merrily rolls along.  Europe is sinking into recession, an inevitable result of its austerity and deleveraging policies.  Japan is in recession, and has pledged to worship at the altar of monetary accommodation in an effort to revive its economy.  American consumers are creeped out by continued government dysfunction, continued economic dysfunction and an increase in Social Security taxes.  Retailers are reaching for the little paper bag in the seatback on front of them.  But stocks are delirious.

Of course, it's all because Federal Reserve Chairman Ben Bernanke yesterday swore up and down that central bank accommodation is next to godliness, or something to that effect.  If the most powerful agency in the United States government promised to subsidize you indefinitely, you'd be delirious, too. 

By ignoring real world problems, and flying high on the Fed's fiat paper meth lab, the market is letting Congress off the hook.  Without someone or something twisting their arms behind their backs, the members of Congress have little or no incentive to get real and work out the nation's fiscal problems.  The stock market has the leverage to make Congress devote its full attention to a problem. In the fall of 2008, when the financial system teetered on the brink, Congress voted down a rescue package.  The market promptly nosedived, and squashed 401(k) accounts from sea to shining sea.  Constituents deluged Congressional offices with negative commentary (that's putting it mildly).  Congress immediately reversed course and enacted the TARP rescue legislation.

Today, however, fed by the Fed with printed money, the market romps.  Congress fiddles.  And the rest of us get nervous about the smell of smoke that waffles through the air.  By not holding Congress accountable, the market enables government dysfunction.  The market can be quite effective when it imposes discipline.  But an undisciplined market is scary.

Reducing the Deficit: Should the Fed Monetize the Federal Debt?

Desperate times call for desperate measures.  We've seen yet another dysfunctional mess from the political process, and have to think expansively.

The recent fiscal cliff deal was largely a failure.  It raised taxes on most Americans, while doing virtually nothing to reduce federal spending.  While income taxes were not increased for the middle class, Social Security taxes were increased for all workers at all income levels.  The well-off (the $400,000 plus crowd) face a higher income tax rate of 39.6% (20% on qualified dividends and capital gains) and wealthy dead people now pay a 40% tax rate (instead of 35%) on the portions of their estates exceeding $5 million ($10 million for married couples).  The automatic spending cuts required by the cliff were deferred for two months (except for $24 billion in cuts that do go into effect), so spending largely continues apace.  Presumably, there will be a second face off over spending cuts when the President asks Congress to increase the debt ceiling in the next few weeks (even though the White House insists it won't negotiate over the debt ceiling).

One thing to take away from the cliff deal is that spending cuts are really hard to agree on--so hard that the Dems and Republicans simply kicked the can down the road.  But they will be even harder to agree on two months from now.  The Republicans have lost significant leverage by agreeing to tax increases now.  The tax side of the fiscal cliff has been resolved, more or less favorably to the Democrats (although some liberal Dems are still unhappy).  What incentive do the Dems, who control the Senate, now have to agree to spending cuts?  Of course, the Dems would agree to some spending cuts (the defense budget would be their target number one).  But Republicans are focused on hurting core constituencies of the Democratic Party through Social Security, Medicare and Medicaid cuts.  With the Dems having largely won on the tax issues, they have little reason to make concessions on the social safety net.  Even if the President is willing to give the Republicans some of what they want (which he seems to be), he may have a problem in the Senate, where Social Security, Medicare and Medicaid were stoutly ring-fenced and defended during the fiscal cliff talks.

Realistically speaking, we shouldn't expect our dysfunctional elected government to find grand solutions to the fiscal deficits.  Due to a variety of bad and intractable political dynamics, that simply won't happen.  We have to look elsewhere for solutions.

The next logical candidate to get the hot potato would be the Fed.  The central bank has played a central role in combating the Great Recession, not without some success.  In the course of its massive quantitative easing programs, it's accumulated a balance sheet of close to $3 trillion.  This total is likely to grow as the Fed continues to purchase debt on the open markets.  Slightly over half of the balance sheet consists of U.S. Treasury securities.  Total federal debt is about $16 trillion.  Thus, the Fed holds about 10% of all federal debt.

Why not have the Fed simply forgive some or even all of the U.S. Treasury debt it holds?  In other words, it would declare that the Treasury wouldn't be required to pay the debt.  That, by definition, would reduce the federal deficit by reducing the amount of federal debt outstanding.  And it's what happens anyway.  When the Fed receives debt payments from the Treasury (usually consisting of interest payments), it simply remits those funds back to the Treasury Dept. (except for a small amount retained to finance the Fed's budget).  Debt forgiveness by the Fed would simply expand on what happens in the ordinary course.   

Of course, such debt forgiveness would be tantamount to monetizing the debt, and has the potential to be inflationary.  But precisely what the heck do we think is going on now?  When the Fed launches repeated quantitative easing programs, with ever more asset purchases but not the tiniest hint of when, if ever, it would unwind its Brontosaurian balance sheet, it has functionally monetized the debt.  With the economy expected to be a sick puppy for years, reality is the Fed may hold a lot of its current inventory of U.S. Treasury securities until they mature.  When they mature, it will remit the principal payment it receives from the Treasury back to the Treasury (or use the funds to make more open market purchases of Treasury securities).  The federal debt has been monetized, even though no one on the government's payroll is going to admit it. 

Such debt forgiveness wouldn't fully resolve all the deficit problems.  But it could reduce the scope of the crisis, and would amount to little more than accurately accounting for what is actually going on.  If inflation flared, the Fed could suspend debt forgiveness and raise short term interest rates, combating inflation as it traditionally would.  But as long as inflation is subdued, debt forgiveness could contribute to resolving a problem that politicians clearly won't be able to solve, at least not comprehensively.

Ultimately, the best solution to the deficit problem is to boost economic growth.  Greater growth means higher employment levels and more income and corporate profits to be taxed.  If the economy were growing briskly and unemployment were around 5%, we probably wouldn't feel we have a deficit crisis.  Housing seems to be stabilizing, although its long term prospects remain clouded.  So we can't count on housing to be the engine for growth.  Measures the government could take include:  (a) rebuilding infrastructure--this is something the government has historically done well, and should do more of given the crumbling state of our infrastructure; (b) loosen up immigration restrictions for well-educated people and people who can invest substantial capital in America to create jobs--we need more innovators and entrepreneurs; (c) improve education, not by handing out loans to anyone who has a pulse and a signature (there's way too much student debt already, and it will be the next big debt bubble), but with measures to make education more efficient and inexpensive, like expanding Internet-based educational programs.  Achieving greater economic growth will take time, but it's a lot easier than trying to use the political process to agree on budget cuts. 

Will Stocks Drop Over the Cliff?

The stock market has been eerily calm in spite of all the sturm und drang over the fiscal cliff.  After a brief sell-off following President Obama's re-election, the Dow Jones Industrial Average has treaded water right around the 13,000 mark.  Evidently, the market believes the anonymously leaked assurances from both the Republican and Democratic sides that a deal on the fiscal cliff will be reached.  And, rationally speaking, that should happen.  So maybe the market is justified in its equanimity.

But is it?  Looking back at the most recent comparable instance of fiscal dysfunction, the 2011 debt ceiling scrum, we find that "resolution" of the political problem was followed by a drop in the market.

The debt ceiling fight simmered until June and July 2011, when all hell broke loose and records were set for political dysfunction in Washington.  Only at the last minute, on August 2, 2011, was a deal to lift the debt ceiling finalized and approved by Congress.  The Dow, which floated around in the 12,000s during July, fell below 11,000 within a week.  One might have thought that resolution of the debt ceiling battle would produce a market rally.  But, no, just the reverse happened.

The debt ceiling fight revealed the depths of America's political dysfunction.  Standard & Poor's cut America's credit rating on August 5, 2011.  The future looked, if anything, more uncertain than before the debt ceiling crisis.  The resolution to the debt ceiling problem was to kick the can down the road, and defer confronting the government's tax and spending issues until after the November 2012 elections.  Stalling and delaying isn't the kind of thing to inspire investors.  The market's frothiness before the deal and its drop after the deal seemed like a classic case of buy on the rumor and sell on the news.

Well, that may be where we are headed today.  There are plenty of nice sounding rumors being floated by politicians who have plenty of incentive to shade the truth.  Reality is that whatever compromise the Republicans and Democrats reach on the fiscal cliff will surely be ugly.  The pie is too small to be apportioned in a way that will make many, if any, happy.  With the "resolution" to the fiscal cliff likely to make most of the nation grumpy, stocks aren't likely to be exuberant.  Whatever you do, don't bet on politics to produce investment gains.

Political Risks of the Fiscal Cliff

Who faces the greatest political risks from the fiscal cliff?  It ain't the Democrats.  They could do nothing, and watch the pre-Bush tax rates go back into effect in 2013.  While this would have a near term negative impact on consumer spending, it would lower the federal deficit.  That would promote long term economic growth.  The President would take some heat for the economic slowdown, but the Democrats would have four years to recover before facing the 2016 Presidential election.  By then, the economy might well be improving.

If there is a deal on the fiscal cliff, it would probably include some cuts to Medicare and Medicaid, and perhaps to Social Security (although the latter is less likely, since Social Security is actually much less of a fiscal problem and more visible to the voting public).  The Democrats would blame these cuts on Republican insistence (of which there is plenty).  Meanwhile, the Democrats would take credit for whatever tax increases or enhancements or whatever else would be part of the deal, which probably would fall more heavily on the rich than the 99%.

The Republican insistence on no tax rate increases allows President Obama to replay his winning electoral strategy of advocating tax increases for the rich.  Republicans believe too much in their own P.R., that all taxes increases are invariably bad and that spending cuts would somehow be made to prevent taxes from increasing.  A majority of the electorate thinks otherwise, and the Republicans conceded these voters (let's call them the 51%) to President Obama. 

 The baseline problem with the Bush tax cuts is that they reduce federal revenues to the point where Social Security and Medicare--the two most sacred bovines of American politics--are imperiled.  It's one thing to attack federal funding of bridges leading to nowhere.  It's another to take away bread and butter from the elderly.  Republicans have managed to put themselves in a corner where they seek to protect low taxes for the wealthy while trying to squeeze pensioners having modest incomes.  They ultimately can't protect the wealthy from a tax increase--the Democrats can do nothing and those increases will take effect at midnight, Jan. 1, 2013.  But the Republicans can manage to look like Scrooge during the Christmas season as they advocate cuts for moderate income retirees.  Politically, it won't be the Democrats who tumble over the fiscal cliff.

Why the Congressional Supercommittee Can't Reach a Budget Deal

Today, news services report that the Congressional supercommittee tasked with the responsibility for reaching a $1.2 trillion budget deficit reduction deal has a snowball's chance in a convection oven of success. That's really not surprising. Even though last summer's debt ceiling debacle taught every member of Congress that fooling around with the federal government's financial standing is reckless, the problem is that the American electorate doesn't want a deal. We have a Democratic President and Senate, and a Republican House. We want fiscal stimulus to combat with the nation's economic woes, but we also want fiscal conservatism to constrain long term debt growth. In other words, we want to have it both ways. That's not how to reach the compromises needed for a deficit deal. That's a formula for failure.

Look at California. The Golden State is the home of the no new taxes movement. In 1978, an amendment to the California Constitution severely limiting real estate taxes was approved by the state's voters in a referendum called Proposition 13. The antitax sentiment that propelled Proposition 13 to success set down deep roots in the state, and today California is a fiscal mess. Voters want good public services and schools. But they don't want to pay for them. To accommodate voters that want to have it both ways, California's state and local governments made fools of themselves with budgetary and borrowing shenanigans that accomplished little except kick the can down the road while schools and other public services deteriorated. Everyone--voters, politicians, public sector unions, and government employees--are to blame. There's no meaningful solution in sight. California has governmental gridlock that makes the federal government look somewhat functional even on bad days.

California, first in so many trends, will be America's fiscal future, unless we make up our minds to grow up. We have to pay for what we want, which could mean raising taxes. We also have to live within our means, which could mean cutting back on federal expenditures. We have to elect a government that can and will make decisions. But today, in Washington and across the nation, we are a house divided. That does not portend well for the future.

Of course, if there is no debt deal and the financial markets panic, all eyes will turn toward the Federal Reserve. This moment, if it occurs, will reveal the fallacy in the Federal Reserve's policy of endless accommodation. Because the Fed has been there when everything else failed, everyone now assumes that the Fed will always be there for us. Neither Congress nor the President have the incentive to actually do anything. Doing things in Washington necessarily means you will make enemies. And elected politicians always prefer to avoid making enemies. So it's better to do nothing and wait for the appointed officials and career civil servants at the Fed bail us out, because we know they will try. Of course, a few disheveled Cassandras foam at the mouth about moral hazard and the limitations of monetary policy. But ebullient pronouncements by inflation doves on the Federal Reserve Board allow the rest of the government to hear what it wants to hear and rationalize inaction. So Washington bubbles along, believing six impossible things before breakfast, and peering through the looking glass for the imminent arrival of prosperity that won't cost us anything.

So the Market Dropped 634 Points. What's For Dinner?

It isn't surprising the Dow dropped 634 points (5.55%) today. Since the 2008 financial crisis, governmental action has been the largest force behind the economic recovery. But European efforts to stabilize the EU sovereign debt crisis have repeatedly stumbled. And America's recent debt ceiling debacle more vividly than ever demonstrates federal dysfunction. The revival of organic economic activity has been limited, and corporations remain very cautious about expanding and hiring. The financial markets need government spending and bailouts. Consequently, political instability translates into market volatility. When government is ineffective, the markets will pout and throw a hissy fit.

Better get used to volatility, because it may well become part of our daily routine. There's no prospect of true economic recovery anywhere on the horizon. The markets will continue to look to politicians for succor, and nothing is as unpredictable as politics. You'd never want to bet your hard earned savings on political action. But the truth is the balance in your 401(k) now depends on how well mouth-foaming Tea Partiers, wailing liberals and befuddled moderates interact with each other. Keep saving, because this isn't exactly a safe bet.

Just about the entire world is now slyly pretending they aren't glancing at the Federal Reserve. Almost surely, Chairman Ben Bernanke is on the verge of ordering his troops to mount up and the regimental band to play "Garry Owen." The command to charge will come soon. Let's hope that, against the odds, Bernanke succeeds, because he's not leading a regiment of cavalry, he's leading an entire nation's economy.

Inflation: the Last Bazooka

We seem to have had a little queasiness in the stock markets today, with the Dow Jones Industrial Average dropping over 50o points (more than 4%). Money is fleeing Europe, where investors have suddenly focused on the fact that the EU is dealing with its debt crisis by increasing, rather than paying down, its debt. That's like reaching for ever larger amounts of the hair of the dog that bit you. You may feel better for a little while. But a hangover is coming, and plenty of investors don't want to stay around to find out how bad it will be.

Meanwhile, back in the States, rumor has it that the economy is fluttering toward another recession. If not, then stagnation is clearly indicated by the economic data.

Because the government is expected to solve all problems that everyone has, the question now arises what can and will the federal government do. In terms of fiscal policy, the answer is nada. Tea Partiers and other conservatives in Congress now hold fiscal policy hostage. No significant stimulus, which would require one or more of increased federal spending, increased taxes and increased deficits, is politically possible. Hank Paulson's bazooka--TARP--is winding up, and there's no prospect of resupply.

That leaves only the Federal Reserve. It can't push rates any lower at the short end, because they're already at zero. It can (and probably will) do more quantitative easing, by buying longer term U.S. Treasuries and perhaps other debt instruments. The ostensible purpose of a third round of QE would be to lower already very low long term interest rates in the hope of stimulating growth. But QEII was done for that purpose, and its beneficial impact appears to be increasingly modest as statistics firm up. QEIII, in all likelihood, would offer even less benefit.

But QEIII might be inflationary. And that, dear reader, may be the point.

Debtors, like America, reduce their debt burdens by paying them down, refinancing them at better rates (and eventually paying them off), or, in the case of a nation, by inflating its currency. Inflation reduces the real cost of paying off old debt, with debtors using less valuable money to extinguish their obligations. Creditors, quite arbitrarily, take the hit from inflation. But in an overleveraged situation, losses are inevitable. The only question is how and where they will fall.

In many, and perhaps most debt crises, creditors take losses when debtors default. These losses appear as recoveries of cents on the dollar. But America cannot afford to default. That was the lesson of the recent debt ceiling debacle. The U.S. dollar is the foundation of the world's financial system, and a U.S. Treasury default simply cannot be allowed. But America's political system, paralyzed when it comes to raising taxes, cutting federal spending, and, most importantly, reaching reasonable compromises, can't figure out a way to pay off America's debt.

So the only way to reduce America's debt burdens is for the Fed to inflate the dollar. That's been done before. From 1945 to 1950, the Fed kept interest rates low and the price structure inflated by a third. Meanwhile, the economy grew briskly in real terms. The result was that the burden of paying off the war debt from the Second World War was significantly eased. In the 1970s, the U.S. was running large (for that time) deficits because of the Vietnam War. In addition, oil price hikes imposed by OPEC threatened an enormous transfer of real wealth from the industrialized West to the oil producing nations. The Fed responded by keeping money available on easy terms, allowing inflation to drive down the cost of debt repayment, and the amount of real wealth transferred overseas.

Today's Fed faces tremendous temptation to pull the same maneuver. No one else in the federal government will do anything. Ben Bernanke has made it clear that he'd rather do something controversial than nothing at all. The outcome is hardly clear. In the late 1940s and the 1950s, the Fed had a rapidly growing economy to leverage the debt reducing impact of inflation by providing more real wealth to pay creditors even as the value of the dollar shrank. In the 1970s, the economy grew hardly 1% a year. But personal income tended to keep up with inflation (in part because the work force was more heavily unionized in those days), insulating consumers from real sacrifice. Today, recession may return, reducing real wealth. And middle class Americans seem not to be able to keep up with inflation, cutting many expenses to have money for food and gasoline. But, rightly or wrongly, inflation may be the last bazooka for federal policy makers. And they could be taking aim even as we write.

Losers and Winners in the Debt Ceiling Deal

LOSERS

Stocks. The market dropped over 2% today, as the debt ceiling deal became law. With federal spending--the last bit of economic stimulus standing--being knocked down, the economy can only follow. State and local government budgets, hit by revenue losses from the Great Recession, are already shrinking. Corporate investment is at stall speed. Consumers have again begun saving more. Even China's and other Asian economies are slowing down, offering less stimulus. Wishful thinkers will latch onto the falling dollar, which will help with exports. But America isn't an exporting nation in the tradition of Japan, Germany and China, and a weakening currency won't by itself make that much difference. The stock market is approaching cold water and icebergs lurk.

Liberal Democrats. The liberal wing of the Democratic Party has been squeezed almost entirely out of power, by a Democratic President. Oddly, the truth is liberals would be better off with a Republican President. When George W. Bush was in the White House, he made no headway with efforts to change Social Security. His big change to Medicare was the Medicare Part D prescription drug program, which significantly increased federal benefits and spending. Democrats tend to unite when faced with a Republican President, and can largely protect their constituencies and priorities. But they have no effective defense against a Democratic President who largely surrenders to Republican diktat.

Barack Obama. He triangulated the political spectrum, and got a deal. But, unlike the congenial Bill Clinton, Barack Obama can't pull this stunt and still schmooze his way back into the good graces of the left. Obama appears to have acted with the hard edge of Chicago power politics, leading some liberal Democrats to seem to refer to him as He Whose Name Shall Not Be Spoken. He had the support of about half the Democrats in the House. But half voted against him, and their votes reflect the views of many of the Democratic faithful. Obama's re-election bid is starting to look like George H.W. Bush's, another moderate president who lost the faith of his party's core and then lost his bid for re-election. Obama leaves many Democrats wondering if he has any goals or principles other than his own re-election. That feeling won't motivate them to line up at the polls.

John Boehner. Boehner's weaknesses as Speaker were never so clearly exposed as during the Sysiphean trek toward a debt ceiling deal. Policy positions are imposed on him by the small number of Tea Partiers in the House. He doesn't dictate, or even hardly influence, anyone or anything. If he continues on his current downward trajectory, there won't be a Boehner Office Building in Washington.

Republicans. The Republican Party is kind of like the mortgage industry, circa 2006. It only looks at upside potential, not downside risk. By pushing through spending cuts now, and more spending cuts in a few months, it has placed itself clearly downrange in the Washington blame game for the impending economic slowdown and has painted a bright red bullseye on itself. Obama and other Democrats can quite plausibly contend that the federal spending cuts that now will hinder economic recovery were forced on them by the Republicans. You can bet that the Republicans on the deficit reducing bipartisan committee prescribed by the debt ceiling legislature will avidly play the role of the Grim Reaper, and in so doing will provide grist for Democratic attack ads in the fall of 2012.

Tea Partiers. People usually learn little from victories. Tea Partiers were victorious this time, although they got much less than they wanted. Having won a victory, but not the war, they will only pursue the same agenda using the same tactics. They won't realize when they go a bridge too far. About half of all Tea Partiers receive benefits from Social Security and/or Medicare. These programs must be cut if Tea Partiers are to see the deficit reduction they claim to desire. Emboldened by victory, they will fail to notice that their point of aim strongly resembles their feet. They will lose benefits they may be relying on, and popularity.

Federal Reserve. Although the Fed has tried to play innocent bystander during the debt ceiling fight, it will come under enormous pressure to provide stimulus taken away by the debt deal. While the Fed won't say so publicly, it's probably already laying the keel for QEIII. Even though such a measure would probably be futile and maybe inflationary, expect it to be launched after a couple more months of bad economic statistics.


WINNERS

Bond market. In the welfare states that 21st Century capitalist nations have become, the biggest welfare recipients of all are holders of debt, especially government and bank debt. They just won another round in Europe, followed promptly by today's debt ceiling deal. But the smart money knows this game can't go on forever. Europe's solution to its debt problem is to increase its debt. That looks like a win-win, but long term is a lose-lose-lose-lose all around. America's debt ceiling deal is really a kick of the can down the road, with the usual Washington solution of creating a bipartisan committee to deal with the big deficits. Whoop de do. Just as the mortgage industry couldn't shift its losses away indefinitely, holders of government and bank debt won't have taxpayers and citizens as patsies forever. Losses in one form or another are inevitable if things remain on today's trajectories.

Liberal Democratic Leaders. In the yin and yang of politics, the seeds of success are sown during stinging defeats. Witness how the Republicans have rebounded from their horrendous losses in 2008. Liberal Democratic leaders need to understand that: (a) they are no longer Middle American (most are, or reflect the attitudes of, upper middle class elites), and (b) they need to find a way to get through to Middle America. Middle America means people who live on $40,000 to $60,000 a year. Most of these people are moderate, and cautious about government. They don't like overbearing government, and that cuts in both directions. An overbearing Republican governor in Wisconsin, bent on not only balancing the state budget but destroying his Democratic opposition, has offended many of the voters who elected him nine months ago. He's delivered badly needed ammunition to labor unions and other Democratic faithful, and revived their flagging spirits. Democrats in Wisconsin had the opportunity to stage weeks of raucous demonstrations in full view of today's 24/7 news media coverage, getting the better of the political debate there. Ten Wisconsin legislators have or will face recall elections--six Republicans and four Democrats. A Democrat has won one. Nine others will be held a week from today. The outcome will be informative.

Liberal Democratic leaders now have an opportunity to rethink their message. With Republicans offering nothing except "no" to government action, the field is left wide open for Democratic initiatives. Democrats have to stop playing defense. The best medicine for a sick economy and large government deficits is a pro-growth program. Tax cuts aren't necessary for growth. The late 1940s, the 1950s and the 1960s, a time when America had a gigantic debt overhang from World War II, enjoyed storied prosperity, even though marginal income tax rates reached as high as 90%. Innovation was rampant--today we may think that improvements to smart phones are a big deal, but remember that the computer as a device was created in the 1940s and 1950s. During the same period, brisk per capita income growth made the American Dream come true from sea to shining sea.

America's transportation systems must be repaired, improved and extended. A transcontinental nation like America needs top tier transportation much more than compact nations like those of Europe. But, today, ours don't even compare. America needs renewable economic resources--i.e., those primary economic activities that perpetuate themselves (unlike homebuilding, which is a secondary economic activity dependent on the health of primary economic activities). Manufacturing is the classic example, and Germany's focus on high quality machine tool work exemplifies the concept of renewable economic resources. America may not have the best lathes, but it has the best geeks. High tech tinkering and inventing should be encouraged and funded. Special scholarship money should be made available to engineering majors and other aficionados of pocket protectors. America's second largest export is entertainment, and protecting copyrights worldwide should be a priority. Maybe the rest of the world's tastes are no better than ours, but if they'll pay for our reruns, why not make a virtue of necessity in a time of economic stress? America's agricultural sector shouldn't be subsidized in wasteful ways, but improvements to our transportation systems and trade negotiations aimed at opening up more foreign markets would assist our highly productive farms. Very few Americans today are farmers, but prosperous farmers buy new trucks and tractors, and lots of computers. Other Americans benefit as a result.

A strong economic growth program may require some shifting of spending away from defense and other large programs, at least for a while, and a renewed battle for tax revenue enhancement. But, it takes money to make money. Let us remember that the Interstate Highway system was initiated during the 1950s, a time of major governmental retrenchment. But it greatly sped up transit times for just about everybody and everything, and was one of the wisest uses of public resources in the 20th Century.

Advocating a strong economic growth program doesn't mean foregoing traditional Democratic priorities of protecting the unfortunate and the underprivileged. What it does is add hope to the Democratic message. Today's Republicans would refuse Oliver Twist another bowl of porridge. That leaves them vulnerable to the political cycle as it comes around.

A Glimmer of Hope for a Debt Ceiling Deal

As the House of Representatives struggles tonight to hold a futile, symbolic vote on Speaker John Boehner's debt ceiling proposal--which the Senate will reject, so the vote achieves nothing except to throw more mud at the other side--there is a glimmer of hope for a resolution. It comes not from a smoke filled room on Capitol Hill, but the stock market.

For five days in a row, the Dow Jones Industrial Average has fallen, dropping a total of almost 4%. The S&P 500 has dropped four days in a row, for a total loss of over 3%. The Nasdaq went slightly off message today, rising 0.05%. However, in the preceding three trading sessions, it dropped a total of over 3%. Although these numbers don't come close to a correction, let alone a bear market, they are large enough to make many registered voters get nervous about their 401(k) accounts. If voters were wondering why the debt ceiling mattered, well, now they know.

The politics of the debt ceiling issue have become more convoluted than the serpents that served as Medusa's tresses. The impasse over the debt ceiling comes, to a large degree, from Tea Partiers and other conservatives seeing the ceiling as a matter of ideology. Just about everyone else understands it's a matter of financial management. But ideologues tend not to compromise on matters of ideology. So the trains no longer run on time in the processes of the federal government.

However, on Wall Street, Main Street and even Pennsylvania Avenue, money talks and bullswaggle walks. When the House got all wound up over TARP and voted it down on September 29, 2008, the market dropped about 8%. Constituents from sea to shining sea communicated with their representatives promptly, frankly and not positively. This captured the full attention of the House, and an amended TARP bill was promptly passed on a second try.

The principal activity of members of Congress is to tell their constituents what they want to hear; that's how they get elected. The debt ceiling squabble has devolved into a lot of posturing for the choir, which not surprisingly admires the Representative's new clothes. Representatives aren't getting enough objective feedback from the political process.

The stock market is just about the only means for imposing legislative discipline. There's no chance of a compromise before this weekend. Another down day in the market tomorrow might work wonders in opening hearts and minds on Capitol Hill to the joys of productive dialogue. Even though more market drops mean investment losses, there is no way to reach a resolution on the debt ceiling problem without pain. If there is no resolution, the pain from the financial markets will be much more acute that what we've experienced so far. If the markets fall again tomorrow, view it as filling the glass halfway.

Facing a Never Ending Governmental Debt Crisis

As the federal debt ceiling scrum thrashes toward a short term solution, it's evident that we won't have a permanent solution for many months, maybe years. The Republican right made a mistake in thinking it could use the debt ceiling as a lever for reducing federal spending. The lever, it turns out, is one red hot tamale--not lifting the ceiling in time to prevent a government cash squeeze could blow up the stock and bond markets, slow economic and jobs growth, smack other nations with similar consequences, and worsen consumer malaise. The debt ceiling is like a nuclear weapon: too horrifying for actual use. So it doesn't provide much real leverage. Now, with time very tight, leaders of both parties are scrambling to stabilize an increasingly messy situation. Chances are they'll come up with something, but it will be short term, and the crisis will renew itself within months, if not weeks.

Across the pond, we have the same short termism managing an increasingly large load of governmental debt in the Euro zone. Greece's latest default spasm was quieted down with more borrowed money while a long term resolution was pushed off for a couple of months. The dominos in Ireland, Portugal, Spain and Italy quivered. High ranking EU officials debated what might be done without reaching agreement (sound familiar?). Banking officials in Europe applied extra lipstick to the latest round of bank stress tests, and admired the pigs as best they could. But the stink of the sty remained.

The sovereign debt problems on both sides of the Atlantic have taken on the quality of a sickening roller coaster ride, with crisis followed by crisis followed by crisis. Each crisis has the potential to blow up banks and sink financial systems, taking economies with it. With a frenzy of stress every few months, a toll on long term economic well-being will be extracted. You can't plan years ahead if your 401(k) is about to be torpedoed. A business can't hire for the future if its bank funding might evaporate in two months because a foreign nation 4,000 away can't get its national accounts straightened out. Just a few of the detrimental effects of such endemic crisis would include:

Lower business spending. It's well-known that corporate America is sitting on top of shiploads of cash, but not investing or hiring. While this reluctance to put money to work is due in significant part to overall economic sluggishness, the seasickness that comes from just watching the sovereign debt crises surely heightens cautiousness.

Less long term investment. The 2008 financial crisis drove large numbers of individual investors out of the stock markets. The sovereign debt dilemmas encourage further departures. With stocks still close to their two-year highs, it's easy to rationalize taking chips off the table, and some individual investors are doing just that.

More consumer malaise. If consumers keep hearing that the world as they know it will collapse in a couple of months, they won't: (a) buy a house, (b) buy a car, (c) buy household furnishings or equipment like washers and dryers, or (d) take a big vacation. Staycations devoted to buying bulk, discounted quantities of rice, beans, and ramen noodles will become all the rage.

Income stagnation, leading to economic stagnation. Incomes at almost all levels except the top 10 or so percent are stagnant. With federal deficits under scrutiny, governmental benefits may be trimmed. The continuing volatility created by these debt problems will only encourage the Federal Reserve to persist in its policy of never again allowing interest rates to rise. A future of low rates in America precludes a revival of the interest income on which millions of retirees and others used to depend. For an economy that's 70% consumption, income stagnation means economic stagnation. There's no possibility of growth if there's no income to spend. People aren't so crazy as to borrow money for consumption any more, nor are banks so crazy as to lend it. The inflation the Fed so desperate seeks won't spur consumption if there's no increased income to compensate for higher prices. Indeed, for most today, the response to inflation seems to be to stop spending on all but essentials.

A state of perpetual crisis precludes stabilization and growth. Today's sovereign debt crises are political problems more than anything else. Both Europe and America have the wealth to solve these problems. They just can't figure out how to allocate the burdens of the solutions. But the price of this political dysfunction is economic dysfunction. And that's our future, unless something really changes.

A Buyer For 14th Amendment Bonds

There has been speculation that, if the federal debt ceiling isn't raised by August 2, 2011, the President might order the Treasury Department to issue more U.S. Treasury securities anyway, relying on supposed authority from the 14th Amendment to the Constitution. The President has said he won't do this. But if push comes to shove, and the ship is about to hit the iceberg, who knows? Desperate times call for desperate measures.

Legal talking heads have yammered busily about the correct interpretation of the 14th Amendment. Market talking heads have speculated that buyers would be hard to find because the uncertain legality of 14th Amendment debt would make it a pig in a poke that investors would shun.

The legality of such debt is open to vigorous debate. But in terms of finding buyers, that's easy. No sweat. There's a buyer out there who will snarf up all 14th Amendment debt, if necessary, and not worry a bit about its legality. That buyer would be the Federal Reserve.

Fed Chairman Ben Bernanke hasn't said a word publicly about the Fed buying 14th Amendment debt. The thought may not have even occurred to him. But if push comes to shove, and the Sword of Damocles is about to drop on the federal government, the Fed will undoubtedly ride to the rescue with regimental colors flying and Garry Owen playing. A central bank buying its government's debt is said to monetize that debt, a serious no no in the view of many economists because it could trigger inflation. But the Fed hasn't, in recent years, seen any inflation it didn't like. And with the economy slowing again, Chairman Bernanke may well be pondering how to slip a little more quantitative easing into the financial system. Buying up 14th Amendment debt may be the least controversial way to do it, since the Fed could claim it's monetizing debt for the sake of Old Glory.

The Fed need not send a check directly over to the Treasury for the 14th Amendment debt. That might be a tad indiscreet. Instead, it could quietly signal to its primary dealers that they wouldn't take any losses on the stuff. The dealers would likely do the patriotic thing and choke down these latter day Liberty Bonds even if they taste an awful lot like broccoli. The Fed could then buy the stuff up from primary dealers or accept it as collateral for their borrowings from the Fed.

What if the 14th Amendment bonds turn out to be unlawful? The Fed would surely protect its primary dealers and take the losses itself. The uncollectable bonds would simply relieve the Fed of the necessity of withdrawing some liquidity from its quantitative easing program. Nothing would make the Fed happier. Of course, the Fed would have a paper loss. But the loss would consist of money it printed, not real money from member banks or taxpayers. Easy come, easy go.

The Debt Ceiling Crisis: Did McConnell Just Throw Obama Into a Briar Patch?

Today, Mitch McConnell, the leader of the Republicans in the Senate, proposed a "backup" plan for the debt ceiling crisis: a law that would allow President Obama to raise the debt ceiling in three steps over the remainder of his presidency. The proposed law provides an elaborate procedure for Democrats and Republicans to tag each other "It." Obama would tell Congress of an increase in the debt limit. Congress could (and perhaps would) adopt a resolution opposing the increase. The President would then veto Congress' resolution. The Republicans would be unable to override the veto since Congress, as currently constituted, would not give debt ceiling opponents the two-thirds majority needed. Obama could use this procedure to increase the debt ceiling by a total of $2.4 trillion through the end of 2012.

Failure to raise the debt ceiling could cause chaos in the financial markets, and trigger an economic downturn. Opinion polls show that much (and perhaps most) of the blame would fall on the Republicans. McConnell surely wants to steer his party away from self-immolation. At the same time, unilateral increases in the debt ceiling might weaken Obama's standing with swing voters in the middle, bettering the chances for a Republican victory in next year's presidential elections.

Obama himself may be wary of the Republican proposal, because he would three times be taking action that would appear profligate in a time when austerity seems to be in political vogue. The amount of increased borrowing he could authorize--$2.4 trillion--is slightly below the $2.5 trillion to $2.7 trillion projected as the government's increased borrowing needs through the end of 2012. So McConnell's proposal would keep Obama on a fairly tight leash, and expose him to being excoriated by right wing debt ceiling zealots three more times before he faces the 2012 election.

At the same time, though, Obama would get an opportunity to shift his attention away from the deranged histrionics that now permeate the debt ceiling debate. He could focus on tax and entitlements reform (where the budget deficit problem will really be solved). He could also stay on top of defense matters. Completion of our withdrawal from Iraq, and a brisk drawdown from Afghanistan might do much to close the gap between the $2.4 trillion debt increase McConnell would allow, and the $2.5 trillion to $2.7 trillion Obama is projected to need.

Although the White House hasn't reacted to McConnell's proposal, it may go along in the end. One clever aspect of the McConnell proposal is that it allows both Democrats and Republicans to cater to their respective alternative political universes. The Republicans would allow the debt ceiling to increase--something they really have little choice about--while forcing the President to take the blame for this heresy by vetoing Congressional objections. The debt ceiling ideologues on the right would have a field day doing what they like best--babbling 17-second soundbites for the evening news. The Democrats in Congress would avoid a distasteful task (neither party likes having to raise the debt ceiling), while the President would three times have to grit his teeth momentarily but then be able to get on with more substantive matters. This may be a briar patch he doesn't mind being tossed into.

Commentators on the right have already blasted McConnell's proposal. That alone tells you it could be a sensible compromise. It wouldn't give the President the grand $4 trillion long term deal he's been seeking, so he can't claim it's a victory. Moreover, McConnell has now positioned the debt ceiling zealots to take the blame if his proposal isn't enacted, the debt ceiling isn't raised, and the financial markets tank. That surely infuriates the Tea Partiers who have bedeviled McConnell's efforts to negotiate with the President.

McConnell may be aiming to forestall a longer term checkmate for the Republicans. The extension of the Bush tax cuts, enacted last fall, expires at the end of 2012. That means the Democrats get the tax increases they want simply by not agreeing to extend the Bush cuts again. They don't need to negotiate with the Republicans to raise taxes. They can simply wait, and they win the waiting game if President Obama is re-elected next year. By forcing the President to take the initiative on raising the debt ceiling, three times no less in the next 18 months, McConnell may weaken Obama's chances for re-election.

Because of right wing fury, there's no certainty that McConnell's proposal will become law. Many in his own party already question it. McConnell himself may have floated the idea simply to send his Tea Partying colleagues a message that they should talk turkey instead of preaching hellfire and damnation. The debt ceiling crisis remains far from resolution. Don't bet the rent money on the financial markets being stable in the near future.

FDIC Insurance Coverage

Nothing's being resolved. The most recent flareup in the European sovereign debt crisis ended with Greece getting enough pocket change to tide it over for a couple of months, while the EU squabbles over the terms of a second Greek bailout. In other words, the can was kicked a short distance down the road, after Greece got a few hamburgers that it promised to pay for on Tuesday. But the prospects of a real solution are as bleak as ever.

The debt ceiling fight in Washington is getting louder and more strident. That could mean both sides are posturing for their supporters and preaching to their respective choirs for a while, before working out a last minute deal. Or else they might be heading for a showdown. The latter would be dumb, seeing as how it would flummox the financial markets. But then again we're talking about politicians, so dumb is s.o.p. The moody intransigence of today's politics makes it harder for politicians to compromise. The one hope we may have is the world's largest collection of hypocrites is in political Washington, and if driven by expediency, they'll readily go back on their words in order to save their glutei maximi.

Meanwhile, back at the ranch, the poor consumer has to figure out how to avoid having his or her own glutei maximi deep fried. The European sovereign debt crisis could trigger a financial crunch like 2008, except maybe worse. If the U.S. defaults on its debt, 2008 will seem like Party Central. When the going gets tough, the prudent make sure their bank accounts are FDIC insured. Here are the basics on coverage.

Each account "owner" gets $250,000 per bank. In other words, all of the owner's accounts are totaled, and up to $250,000 of deposits is protected. So if you have a checking account and a couple of CDs, their balances are aggregated and as much as $250,000 is covered.

Here's the fun part: you can be more than one type of owner, and each owner you become gets $250,000 of coverage. This isn't like the Internet where you might have multiple user names, and you don't need to have dissociative identity disorder. Just take on various different legal persona, and, presto, you get another $250K of coverage.

Start with you as an individual: $250,000 of coverage is provided for accounts in your name.

You as a joint account owner (such as with a spouse, parent or child): $250,000 of coverage for each joint account owner. So a joint account for a married couple gets $500,000 of total coverage.

You as the owner of an IRA: $250,000 of additional coverage for your IRA accounts.

You as the owner of a revocable trust account: another $250K of coverage per beneficiary.

You as the beneficiary of an irrevocable trust account: yet another $250K of coverage for all beneficial interests granted by the same person creating trusts (known to lawyers as the "settlor") at any one bank.

A corporation that you own: another $250K coverage, as long as you operate the corporation for an independent purpose (i.e., a purpose other than increasing your FDIC coverage).

Then, here's your ace in the hole: if the foregoing account types aren't enough to protect the enormity of your wealth, you can, until Dec. 31, 2012, get unlimited FDIC coverage for non-interest bearing transaction accounts. In other words, you can open a non-interest bearing checking account, and protect as many of your hard-earned shekels as you like until the end of 2012. If you hear some ringing that sounds like Hell's Bells, keep this in mind.

What are the chances that FDIC coverage will actually matter to you? So far, in 2011, 55 banks have been closed by the FDIC. In 2010, there were 157 bank closings. The number in 2009 was 140. Banks close when the financial system goes bonkers and the economy nosedives. If today's governmental debt crises keep metastasizing, more banks will fail, and holders of uninsured deposits will take losses. If your money is too concentrated for full coverage, spread it around.

In addition, if your money is an uninsured place, like a money market fund, you may want to move some or all of it into FDIC insured accounts. The European debt crisis has cast a cloud over money market funds holding commercial paper of European banks (which would be many of them; check to see if your fund holds it). The U.S. debt ceiling showdown could cause losses--probably minor, but you never know--for money market funds holding U.S. Treasury bills (many funds hold T-bills in varying amounts). FDIC protection for at least some of your cash may improve the quality of your sleep.

For more information on FDIC deposit insurance, go to http://www.fdic.gov/deposit/deposits/insured/index.html.

Solution for the Debt Ceiling Crisis: An Early Vote in Congress

A way to resolve the debt ceiling crisis would be to introduce legislation that would force an early vote in Congress (i.e., a week or so before the August 2, 2011 deadline). Why would this work? Because the Tea Partiers and other conservatives would reject it. The ensuing market consternation would force all concerned to quickly reach an effective compromise.

Recall TARP. On September 29, 2008, the House rejected an initial version of TARP due in large part to anti-bailout sentiment. The Dow Jones Industrial Average dropped 777 points that afternoon, pummeling voters' 401(k) accounts. Public reaction to Congress was swift and not favorable. Four days later, duly woodshedded, the House signed off on an amended version of TARP. Voters, if smacked in the pocketbook, deal with reality and insist on Congress dealing with reality.

An early rejection of a debt ceiling bill would trigger financial market dismay. Perhaps not as severe as the initial rejection of TARP, if the debt ceiling vote were held early enough to allow time for a second vote for the House to get it right. But a moderately melodramatic swoon by the Dow might work wonders in clarifying the thinking of members of Congress up to their left ears in revisionist misinterpretation of the unverified statements of the supposed Founders (not excluding those of elementary school age).