Unless you've been living under a rock, you would have most likely heard about this 'Fiscal Cliff' dilemma in the States. Your first reaction may be 'if this is a problem over the pond, why should we be worried/bothered?' Well as explained in more detail on www.HedgingAgainstUncertainty.com - when the US sneezes, the world catches a cold, so it's kind of a big deal. If the US falls back into recession, guess what's likely to happen on the world stock markets? And the answer isn't up...
So in simple terms, what is it?
I always view politics as simply a high school popularity contest. When you remove all the fancy jargon and big job titles etc and view politics in this perspective, things can be a lot easier to understand. So between 2001-2003 President Bush got into power and started losing favour amongst the people pretty quickly. People weren't happy with the wars (until 9/11) and they were rapidly expanding the currency supply to pay for all of these Middle Eastern excursions. So in order to gain favour, Bush simply instigated some rather hefty tax cuts across the whole spectrum of taxes. The result? He became the classroom's favourite leader again and US debt and deficits began to increase at a faster pace.
Then what happened is that when the expiry date came near, the tax cuts were simply continued. This was similar to buying a large round of drinks on a night out and putting it on the tab. Then when the bar man wants to call your tab in, you just put another round of drinks on it.
So what is this cliff bit?
Well like with any form of borrowing and lending, there's always a limit. And in a nutshell, we've now reached that limit. So the barman has now refused to sell anymore drinks until you actually pay what you owe.
Haven't they come to a solution?
No. Not at all. They've had this massive looming elephant in the room for a decade now and all they've done is kicked the can down the road for another 2 months. They made a big hoohah about leaving it until the 11th hour before coming to a solution but they've just postponed making the hard decisions. What they've done is keep the tax cuts for families earning under $450 000 a year and haven't reduced any government spending. This will result in an extra $4 trillion in debt over the next 10 years.
What's likely to happen now?
Well looking at the charts, the market is showing that it's now 'risk on' so we'll likely see vast rises in the stock markets as we've already seen with the FTSE 100 crashing by over 100 points to 5860 before the Cliff and it now jumping up to over 6020. So in 2 months when the Vice President has to 'sell' this solution to the Senate, Fiscal Cliff 2.0 is likely to be a lot worse with a possible debt ceiling being in the fray. In the medium to long term, I'm still expecting a huge stock market crash in 2013, so if you are thinking of buying any stocks, just make sure you know exactly why you're about to do so. And definitely do a double check if you're about to buy Apple shares!
So what's this whole 'Debt Ceiling' about then?
Simply put, due to the Petro-Dollar arrangement with Saudi and OPEC (will cover this in future publications-very interesting stuff) the US has been able to essentially get free oil for the last 40 years. This is because all oil transactions have to be done by the Dollar (until recently) and so whenever the US needs to import oil, it just prints off a few billion Dollars. Also, the Fed has just been printing more and more currency willy nilly. The US has had lots of wars to pay for with fake printed currency, trillions in military research and all sorts of other Government programs. They're currently running with over $120 Trillion in unfunded liabilities and a few years back, the Fed somehow 'LOST' $9 Trillion! YouTube 'Fed loses money', the hearing is eerily hilarious. As a result of all of this spending, they US debt is now over $16.4 Trillion. To put it into context, if the US was an average man earning $20 000 a year, his equivalent debt would be over $200 000. This would lead to insolvency very quickly and that’s what's happening with the US. But debt just can't continue rising unchecked indefinitely, there's always a limit. And that limit is nearing rather quickly. A good analogy is that if a sewage pipe broke under your home and your house completely filled with excrement to the ceilings. Would you raise the roof or would you remove the shit....?