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US DEBT Crisis and ITS IMPLICATIONS
Team: Nagaraju Oruganti (D041) Hemant Negi Saurav Sharma Subbareddy P (D039) (D056) (D039)
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Click icon to add It is now August and this picture
month the United States government expects to take in about $170 billion inrevenues.
Expenses will likelytotalmore than $300 billion; however, so about $130 will have to beraisedby borrowing.
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Borrowing a normal thing?
That isnormal. The US government is deeply in debt more than $ 14 trillion and it borrows to meet its debt obligationsevery month. There are usually more than enough people willing tolendthe US government money because it is seen as a very safe investment. What is not normal is that for the first time asubstantialnumber of Republicanlawmakersare not willing to allow the additional borrowing unless huge spending cuts without tax increases are agreed on. They have the power to force spending cuts because of what is called the debt ceiling.
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US Treasury Department and Republican lawmakers
Periodically, the CongressauthorizestheUS Treasury Departmentto borrow money up to a certain limit. That is the debt ceiling. In the past, whenever the debt ceiling was reached, Congress simply voted to increase it. That has happened dozens of times in the past without problems, but not this time.
The last election brought a large group of new Republican lawmakers into the US House of Representatives who were committedto forcing the government intobalancing its budget. They are refusing to support raising the debt ceiling unless theirdemandsare met. Since the Republicans control the House of Representatives, thisthreathas been taken very seriously. This is a dangerous game, because if the debt ceiling is not raised very quickly, the US Treasury Department will run out of money and it will not be able to pay its bills. This could result infinancial panicthroughout the world, because so many people around the world either receive payments from the US government or have lent it money.
It now looks likely that some sort of acompromisewill be reached at the last
What is the debt ceiling in US?
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In theUnited States, the federal government can only pay for expenditures if Congress has approved the expenditure. If the total expenditure exceeds the revenues collected there is abudget deficit, and the only way that the shortfall can be paid for is for the government, through theDepartment of the Treasury, to borrow the shortfall amount by the issue of debt instruments. Under federal law, the amount that the government can borrow is limited by the debt ceiling, which can only be increased with a vote by Congress. Prior to 1917, Congress directly authorized the amount of each borrowing. In 1917, in order to provide more flexibility to finance the United States' involvement inWorld War I, Congress instituted the concept of a "debt ceiling". Since then, the Treasury may borrow any amount needed as long as it keeps the total at or below the authorized ceiling. The process of setting the debt ceiling is separate and distinct from the regular process of financing government operations, and raising the debt ceiling does not have any direct impact on the budget deficit. The US government passes a federal budget every year. This budget details projected tax collections and outlays and, therefore, the amount of borrowing the government would have to do in thatfiscal year. A vote to increase the debt ceiling is, therefore, usually seen as a formality, needed to continue spending that has already been approved previously by the Congress and the President.
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Causes of us debt Ceiling
Expansion of the housing bubble
This encouraged quite a few homeowners to refinance their homes at lower interest rates, and take out second mortgages secured by the price appreciation. Although this collection of money roughly doubled in amount, income generating investments were not able to grow as fast..
Simple credit conditions
From 2000 to 2003, the Federal Reserve lowered the federal funds rate from 6.5% to 1.0% to reduce the effects of the disintegration of the dot-com bubble. These lower interest rates encouraged borrowing. The USA's high and rising current account deficit further pressurized to lower the interest rates as US required to borrow money from overseas. This developed a demand for different types of financial assets, thus raising the prices of those assets while reducing the interest rates.
Sub-prime lending 2004-2006 saw a dramatic increase in U.S. Sub prime lending. Borrowers with
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Causes of us debt Ceiling
Deregulation
Critics have debated that the regulatory framework did not keep up to the mark with financial advancements. The shadow banking system, derivatives and off-balance sheet financing were not given due importance. In many cases, laws were altered and enforcement made weak in parts of the financial system. Regulators and accounting standard-setters permitted the depository banks such as Citigroup to shift important amounts of assets and liabilities off-balance sheet into complex legal entities. These were among the main causes of American debt crisis
Over-leveraging
During the years preceding the crisis, the U.S. households and financial institutions became increasingly indebted and thus adding to their susceptibility to the collapse of the housing bubble, this only led to worsen the following economic downturn. Reports reflect how the free cash used by consumers from home equity extraction doubled from 2001 to 2005 as the housing bubble expanded. This is looked upon as one of the several reasons for American debt crisis.
Complexity in financial modernization Use of the financial innovations like the adjustable-rate mortgage, collateralized debt
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Causes of us debt Ceiling
Predatory lending
Another of the reasons for American debt crisis was predatory lending, which refers to the practice of dishonest lenders, to enter into "risky" loans for improper purposes. This resulted in negative amortization, which the credit consumer might not observe until long after the loan transaction had been accomplished. There is growing
Statistics and Figures of US Debt 4/21/12 Ceiling
The United States has had public debt since its inception. Debts incurred during theAmerican Revolutionary Warand under theArticles of Confederationled to the first yearly report on the amount of the debt ($75,463,476.52 on January 1, 1791). Every president sinceHarry Trumanhas added to the national debt. The debt ceiling has been raised 74 times since March 1962,including 18 times underRonald Reagan, eight times underBill Clinton, seven times underGeorge W. Bushand three times (as of August 2011) underBarack Obama.
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Statistics and Figures of US Debt
Red lines indicate theDebt Held by the Public(net public debt) and black lines indicate theTotal Public Debt Outstanding(gross public debt). The difference between the two is the debt that is held by the federal government itself.
4/21/12 Solution: Cut on spending or reducing Tax increase?
Initially, nearly allRepublican legislators (who held a majority in the House of Representatives) opposed any increase in taxes and proposed large spending cuts as part of the agreement to raise the debt ceiling. A large majority of Democraticlegislators (who held a majority in the Senate) favored tax increases along with smaller spending cuts The immediate crisis ended on July 31, 2011, when a complex deal was reached that raised the debt ceiling and reduced future government spending. However, similar debates are anticipated for the 2012 and 2013 budget. After the legislation was passed by both theHouseandSenate,President Barack Obamasigned theBudget Control Act of 2011into law on August 2, the day of the deadline.
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Impact of this crisis on india
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Exports to USA
12 10
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2005-06 76828
2006-07 85368
Indian Exports to the US(Crores) 2007-08 2008-09 83388 96458
2009-10 92416
2010-11 81884
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Impact on exports
US is the Indias leading export destination, so a slowdown in US will have an impact on Exports. Indian exports will become uncompetitive because of a stronger rupee against dollar. Export driven industries like garments, handicrafts and leather may suffer badly. IT sector can suffer depending on the Policies of US Govt, as most of its revenues nearly 2/3 rd are from US clients.
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Shift in Trade pattern
India is exporting more to China and East Asian countries where the effect of slow down is minimum. It leads to robust infrastructure development and spurs the progress of special export zones. Indian IT service providers are concentrating more on domestic and Middle east markets. Imports like crude oil will turn cheaper as dollar depreciates and our subsidy bill can come down drastically Indian Government may Tax Sops to increase Exports.
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Impact on equity market
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Impact on equity market
Panic among Investors about a probable double dip recession has resulted in Stock Market Crash. In near term we can see out flow of money invested by FII and FDI. Stocks which are dependent on Exports will get impacted in medium and long term depending on the appreciation of Rupee against Dollar. In long term, we can expect Indian Stocks to reach to their Pre-US Debt crisis levels. Present situation can be treated as a buying opportunity and investors can accumulate shares.
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Impact on gold
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Impact on gold
Flow of capital from all other avenues into Gold Market as it is considered to The Most Safe Investment. In the long term, Depending on the growth European and North American major economies, there can be a huge correction in Gold prices. Gold reserves has been increased to USD 500 crores due to increase in value of gold by 20% . India contains 8% of National Forex reserves in Gold and this may increase in future if dollar value depreciates.
Impact on Forex Market
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Impact on Forex Market
Persistent demand for Dollar from oil refiners for import payments added to the selling pressure on the Rupee and FDI outflow have resulted in the weakening of Rupee. in the medium run the RBI ( Reserve Bank of India) may step in to stabilize rupee by providing backstop swap window for banks to equity outflows. In the Long term, Rupee will appreciate against dollar if US Economy is not able to maintain its growth trajectory.
4/21/12 On Macro indicators of Indian Economy
Growth in GDP will come down. A default may push up borrowing costs and hence government may cut spending and increase taxes. Decrease in global trade due to protectionism Increase in unemployment due to job losses in service sector. Slowdown in Agriculture sector due to impasse in import of technology
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Inflation
Inflation in India has stayed above 9 percent since the start of December, eroding spending power of people. Softening crude prices in the International Market due to Us debt Crisis will help in bringing down inflation. If the inflation comes down, RBI can change the monetary policy by reducing REPO Rate and CRR to fuel growth.
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Impact on china
China has the world's largest foreign exchange reserves with about two-thirds estimated to be held in dollars. Although the agreement on the US debt ceiling has reduced short-term risks for China, it has revealed some long-term risks. The main impact for China lies in the import and export sectors which are closely related to the exchange rate against the dollar.
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Impact on china
Accelerated pace of Yuan appreciation is a cause of concern. As exports account for a large part of Chinese
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Impact on other countries
The U.S. Federal Reserve's policy of keeping interest rates near zero until 2013 will likely lead to higher global commodity prices Weakness in the U.S. dollar will also hurt the purchasing power of foreign exchange reserves Economic slowdown due to protectionism, decrease in purchasing power and cut in spending.
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Conclusion
Indian Economy is going to be affected adversely in the short term, but depending on the policies formulated, we can sustain growth of 8% around in the long term due to factors like, 1. Inclusive Growth of economy. 2. Strong demand for consumption. 3. Robust Banking System. policy. 4. Cautious and gradual liberalization
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