The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.
NEW YORK (
) -- The super committee's failure to compromise on $1.2 trillion in budget savings won't much affect the deficit and U.S. credit ratings, or the interest rates and prices of U.S. Treasuries. Still investors should limit holdings of those securities, because the long-term outlook is not good.
Although the super committee did not reach consensus on a combination of spending cuts and tax hikes, the Budget Control Act automatically triggers $1.2 trillion reductions in defense outlays, nonentitlement domestic spending and some payments to hospitals and health care providers.
Savings from winding down wars in Afghanistan and Iraq were already scored into budget projections. Hence, new defense cuts will be from the "base" military budget that maintains readiness and defends U.S. security interests around the globe.
The Budget Control Act, passed in August, already cut defense spending by $450 billion over 10 years, and another $500 billion is simply unacceptable. U.S. hardware is aging, with sons flying the same fighters as did their fathers. Cyberwarfare requires new capabilities beyond conventional land, air and sea forces. China is building a navy and within a decade will spend 60% as much on defense as the U.S. -- with lower personnel costs and without America's global responsibilities. More, not fewer, naval resources are needed to meet that challenge in the Pacific. On a recent trip to Asia, President Obama committed to a beefed-up U.S. presence.
Republicans in Congress will propose repealing the $500 billion cut, but liberal Democrats will demand that spending be refinanced with other cuts or new taxes. Grover Norquist won't be able to stop such a deal. Hard realities, especially national security concerns, have a way of neutralizing the clout of monoline political activists.
A deal on defense spending will legitimize similar tradeoffs to reduce other Budget Act-mandated cuts and make some tax increases acceptable, even among many conservative Republicans.
Consequently, the impact on the deficit of the super committee failure will be marginal. The budget dance that follows should not provide a basis for Standard & Poor's to lower its double-A-plus bond rating on U.S. bonds, or for Moody's and Fitch to lower their triple-A ratings.
Longer term, the cuts the Budget Act required won't be enough. The U.S. will continue to borrow too much and grow too slowly until more important structural issues are addressed. Within a few years, U.S. borrowing costs will be much higher than they are today.
Currently, Washington enjoys low borrowing costs, because foreign central banks, private institutions and ordinary investors are all fleeing European debt. Similarly, China's shaky banks and dodgy accounting standards, along with Beijing's exhortations that yuan appreciation has run its course, are causing money to flee China for America. That money is flowing into Treasuries, solid corporate and state debt, and even junk bonds.
Within a few years, that money will leave, after Europe has its ultimate financial crisis and recovers, and investors realize that China's sovereign debt is no more risky than U.S. paper. Rates on Treasuries will rise, as investors become much more nervous that either Washington won't be able to continue floating $1 trillion a year in new debt or the
will simply roll the printing presses to buy what Treasuries investors won't take.
Long-bond rates will rise, and Treasuries bought today will lose value. In 2014, why would someone pay as much for Treasuries maturing 27 years later and yielding 3%, when a new 30-year bond pays 5%? At that point investors who purchased bonds today either must wait for those to mature and endure low interest rates, or take a haircut if they sell.
The message to the ordinary investor is simple. Treasuries are safe up to a point as the U.S. government can always print money if necessary to honor its debt. But those investors should only buy bonds with maturities no longer than their circumstances permit them to have their money tied up. Treasuries won't long be a liquid investment.
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Professor Peter Morici, of the Robert H. Smith School of Business at the University of Maryland, is a recognized expert on economic policy and international economics. Prior to joining the university, he served as director of the Office of Economics at the U.S. International Trade Commission. He is the author of 18 books and monographs and has published widely in leading public policy and business journals, including the Harvard Business Review and Foreign Policy. Morici has lectured and offered executive programs at more than 100 institutions, including Columbia University, the Harvard Business School and Oxford University. His views are frequently featured on CNN, CBS, BBC, FOX, ABC, CNBC, NPR, NPB and national broadcast networks around the world.