Why There Will Be No 11th Hour Debt Ceiling Deal

Why There Will Be No 11th Hour Debt Ceiling Deal
// Zero Hedge

Authored by MN Gordon via EconomicPrism.com,

A new milestone on the American populaces' collective pursuit of insolvency was reached this week.  According to a report published on Tuesday by the Federal Reserve Bank of New York, total U.S. household debt jumped to a new record high of $12.84 trillion during the second quarter.  This included an increase of $552 billion from a year ago.

Moreover, this marked the second consecutive record high on a quarterly reported basis for U.S. household debt.  Indeed, this is a momentous achievement.  From our vantage point, it is significant for several reasons.

One, it shows U.S. household debt has returned to its upward trend which had previously gone uninterrupted from the close of World War II until the onset of the Financial Crisis in late 2008.  Second, it demonstrates that, like the S&P 500, new all-time highs are being attained with the seeming precision of a quartz clock.  Is this just a coincidence?

More than likely, it's no coincidence at all.  More than likely, the mass quantities of central bank liquidity that have been injected into the financial system over the last decade have provided the plentiful gushers of cheap credit that have pushed up both stock prices and household debt levels.   But remember, the easy stock market gains can quickly recede while the increased debt must first drown the borrowers before it can be expunged.

To understand where the liquidity has come from, look no further than the total combined assets of the Federal Reserve, European Central Bank, and the Bank of Japan.  They were around $4 trillion a decade ago.  Today, they're over $13.8 trillion.  And if you include the People's Bank of China's assets, combined major central bank assets jump to nearly $19 trillion.

A Gigantic Letdown

Of course, record debt and record stock prices were part of the plan all along.  If you recall, the clever economists at the Fed promised the hoi polloi their cheap credit policies would rain riches down from the heavens via something they called the wealth effect.  We never quite followed the logic of it all.

Per the policy wizards, the wealth effect is what happens when the value of people's assets rise.  When investment portfolios bubble up, consumers feel more financially secure.  Hence, they buy stuff they don't need, and that they really can't afford, using credit.  The increase in spending, in turn, is supposed to stimulate the economy and make everyone wealthy.

Yet the experience over the last 9 years tells a different story.  The S&P 500 has gone up 270 percent.  However, GDP has gone up just 34 percent.  On top of that, median household income has been stuck in first gear for over two decades.

Obviously, the stock market did its part by soaring to record highs.  And consumers did their part, by spending their way to record levels of debt.  The economy, on the other hand, lunged and lagged.  In short, the wealth effect was a gigantic letdown.

On top of that, the Fed now plans to normalize its balance sheet.  That's what they say, at least.  This week the July FOMC minutes were released and included a strong consensus for the Fed to begin reducing its $4.5 trillion balance sheet "…relatively soon, absent significant adverse developments in the economy or in financial markets."

Here at the Economic Prism we watch intently for the Fed to commence its adventures in quantitative tightening.  We have an inkling the unwind will be more disruptive than the Fed advertises.  Plus, we have doubts the Fed will ever make substantial reductions in its balance sheet before they're compelled to further expand it due to "significant adverse developments."

Why There Will Be No 11th Hour Debt Ceiling Deal

Consider that the stock market is poised for a crash like never before.  Consider, too, that over the past week – even with yesterday's selloff – the stock market has shrugged off the North Korea nuclear threat, major civil division, and the collapse of retail, like these doom scenarios were merely the 24-hour flu.  But will the stock market shrug off the major financial epidemic that is developing?

While Congress is ...

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