Obama Signs Debt Plan to Avoid Default

President Barack Obama signed a debt- limit compromise that prevents a U.S. default on the day the Treasury had warned the nation’s borrowing authority would expire, ending a months-long debate that reinforced partisan divisions over federal spending.
The Senate voted 74-26 for the measure, which raises the nation’s debt ceiling until 2013 and threatens automatic spending cuts to enforce $2.4 trillion in spending reductions over the next 10 years. It won backing from 45 Democrats, 28 Republicans and one independent. The House passed the plan yesterday.
Obama said approval of the measure is a “first step” on a path that must include increased revenue and spending cuts.
“We can’t balance the budget on the backs of the very people who have borne the brunt of this recession,” the president said in the White House Rose Garden.
Passage ends a months-long battle over spending that consumed Congress as lawmakers and the Obama administration negotiated to the last days to avert a potential default. Still, the compromise legislation defers decisions on the nation’s finances to a bipartisan panel of lawmakers and may reduce government deficits only modestly while slowing economic growth.

‘Push and Pull’

“The push and pull Americans saw in Washington these past few weeks was not gridlock,” said Senate Republican leader Mitch McConnell of Kentucky. “It was the will of the people working itself out in a political system that was never meant to be pretty.”
“This bill does not solve the problem,” McConnell said. “But it forces Washington to admit that it has one.”
Moody’s Investors Service today confirmed the AAA rating for U.S. government bonds, citing the legislation raising the statutory debt limit.
The agreement on the debt limit is a “first step” toward maintaining the U.S. government debt metrics within AAA parameters, Moody’s said. The outlook on the rating is now negative.
Fitch Ratings said the risk of a U.S. sovereign default remains “extremely low.” Still, the U.S. needs to confront “tough” choices on tax and spending against a weak economic backdrop if the budget deficit is to be cut to safer levels over the medium term, Fitch said.

Rating Review

Fitch said it expects to conclude its scheduled review of the U.S. sovereign rating by the end of August.
For all the anxiety in Washington over the debt debate and averting a default on the nation’s financial obligations, investors with the most at stake made more money buying Treasury securities in July than any month this year. They made $183,000 for every $10 million invested.
Investors snapped up Treasuries in the $9.34 trillion market, driving yields on 10-year notes -- a benchmark for everything from mortgage rates to corporate debt -- to the lowest levels since November.
Treasury 30-year bonds rallied the most in more than a year. Yields on 30-year bonds dropped 17 basis points, or 0.17 percentage point, to 3.91 percent at 5:23 p.m. in New York, according to Bloomberg Bond Trader prices. It fell 18 basis points earlier to touch 3.9 percent in the biggest drop since May 2010. The 4.375 percent securities maturing in May 2041 rose 3 3/32, or $30.94 per $1,000 face amount, to 108 5/32.

10-Year Note

The 10-year note yields touched 2.60 percent, the lowest since Nov. 9. The seven-day relative strength index of the 10- year note yield dropped below 30, indicating a reversal of direction may be imminent.
Stocks extended losses. The Standard & Poor’s 500 Index fell for a seventh straight day, losing 2.6 percent to 1,254.05 at 4:31 p.m. in New York. The Dow Jones Industrial Average fell 265.87 points, or 2.2 percent, to 11,866.62.
The House voted 269-161 yesterday for the deficit-reduction measure, which raises the $14.3 trillion debt ceiling enough to fund the government until 2013 and threatens automatic spending cuts if a bipartisan congressional committee doesn’t identify reductions that Congress will accept.
“Finally, Washington is taking some responsibility for spending money we don’t have,” said Lamar Alexander of Tennessee, the third-ranking Senate Republican. “This is a change in behavior from spend, spend, spend to cut, cut, cut.”

Not ‘Without Pain’

Second-ranking Democrat Dick Durbin of Illinois said his vote for the plan “does not come without pain” because it will reduce funds for disease research and education programs for poor children. Lawmakers must “be prepared to raise revenue” in future efforts to cut the deficit, he said.
The legislation falls short of the long-term deficit savings that Obama initially sought. The political obstacles to reaching even the lower target are formidable, though the measure’s sanctions improve prospects “a bit,” said Peter Orszag, Obama’s former budget director.
“The fundamental problem is that we are hyper-polarized, and that does not go away,” said Orszag, now a vice chairman of Citigroup Inc. (C) and a contributor to Bloomberg View. “This deal is not going to solve that.”
Bill Gross, who runs the world’s biggest bond mutual fund at Pacific Investment Management Co., said the debt ceiling compromise won’t make a “significant dent” in U.S. deficits.
“In addition to an existing nearly $10 trillion of outstanding Treasury debt, the U.S. has a near unfathomable $66 trillion of future liabilities at net present cost,” Gross wrote in a monthly investment outlook posted on the Newport Beach, California-based company’s website today.

Entitlement Programs

Representative Paul Ryan, a Wisconsin Republican who is chairman of the House Budget Committee, said today on CNBC that lawmakers must confront spiraling costs of entitlement programs.
“Medicare is driving itself into bankruptcy; Medicaid is bankrupting states,” Ryan said. “Our health-care entitlements are the core driver of our debt. Programs need to be reformed and strengthened if they’re going to be saved.”
A $917 billion down payment in discretionary spending reductions contained in the measure is back-loaded so more than two-thirds of the cuts come after 2016. The spending reduction next year is $21 billion, less than two-tenths of a percent of U.S. gross domestic product.
Amid signs that the economic recovery slowed almost to a standstill earlier this year, Michael Feroli, chief U.S. economist for JPMorgan Chase & Co., said he expects the spending cuts next year to “add modestly” to the drag on growth from expiring provisions of the economic-stimulus package and the scheduled Dec. 31 end of a temporary payroll tax cut.

‘Super-Committee’

While the measure specifies the $917 billion in discretionary spending cuts over 10 years, the rest is left to a panel of 12 members of Congress, split evenly between the two parties.
That “super-committee” is supposed to come up with recommendations by Nov. 23, with a guaranteed up-or-down vote by Congress to prevent obstruction through parliamentary maneuvers. If Congress doesn’t act, automatic spending cuts begin in 2013.
Still, the sanctions run up against a history of failure when Congress has tried to motivate itself with threats of penalties. No Congress can bind a successor, and the impact of sanctions relies primarily on the political embarrassment of reversing course.
The 1985 Gramm-Rudman-Hollings Act set enforceable budget targets that Democrats credit with pressuring Republican President Ronald Reagan to agree to tax increases. Still, during the five years of the law, the spending reductions required were reduced in one case by Congress and in another overridden by a subsequent budget agreement.

Military Spending

Among the sanctions that would trigger political pushback if Congress didn’t meet its goals is an automatic cut of up to $500 billion in military spending, which would come on top of $325 billion in defense-spending reductions already in the deal.
“If the American military is cut as much, in the worst case, as the proposal would cut it, it’s the beginning of the end of America as a great international power,” Senator Joseph Lieberman, a Connecticut independent, said on the Senate floor yesterday.
While the new joint committee will have broad jurisdiction to reduce the deficit through both spending cuts and tax increases, congressional rules present obstacles to using the Bush-era tax cuts to meet that goal.

Revenue Baseline

The Congressional Budget Office’s revenue baseline assumes those tax cuts will expire as scheduled at the end of 2012. Republicans want a future revenue level equal to extending all the cuts, while the administration wants to raise about $1.8 trillion above that level over the next decade by letting tax cuts for only high-income earners expire. Measured against the CBO’s yardstick, either approach would be viewed as a tax cut, not deficit reduction.
Though White House press secretary Jay Carney said the committee could choose to use a different yardstick, at least one Republican would have to agree for majority support.
“This compromise we have reached is not perfect,” said Senate Majority Leader Harry Reid of Nevada. “The richest of the rich have contributed nothing to this.”
To contact the reporters on this story: Laura Litvan in Washington at llitvan@bloomberg.net; Catherine Dodge in Washington at cdodge1@bloomberg.net