Archive for July, 2011

Deal or no deal? US downgrade looking likely

Tuesday, July 26th, 2011 | Finance News

NEW YORK – Could the U.S. lose its top credit rating even if a deal is reached to raise the debt limit? Market analysts and investors increasingly say yes. The outcome won't be quite as scary as a default, but financial markets would still take a blow. Mortgage rates could rise. States and cities, already strapped, could find it more difficult to borrow. Stocks could lose their gains for the year.

"At this point, we're more concerned about the risk of a downgrade than a default," said Terry Belton, global head of fixed income strategy at JPMorgan Chase. In a conference call with reporters Tuesday, Belton said the loss of the country's AAA rating may rattle markets, but it's "better than missing an interest payment."

Even with a deadline to raise the U.S. debt limit less than a week away, many investors still believe Washington will pull off a last-minute deal to avoid a catastrophic default. Washington has until Aug. 2 to raise the country's $14.3 trillion borrowing limit or risk missing a payment on its debt. President Barack Obama and Congressional Republicans have failed to reach an agreement to raise the debt ceiling and pass a larger budget-cutting package. Politicians have tied raising the debt limit and spending cuts together.

But at least one credit rating agency has already made it clear that unless that agreement includes at least $4 trillion in budget cuts over the next decade, the country's AAA rating could be lost. Right now, the proposals under discussion cut around $2 trillion or less.

Standard & Poor's warned earlier this month that there was a 50-50 chance of a downgrade, if Congress and President Obama failed to find a "credible solution to the rising U.S. government debt burden." S&P said it may cut the U.S. rating to AA within 90 days. Passing a $4 trillion agreement could prevent a downgrade, S&P said.

The other chief rating agency, Moody's Investors Service, said the U.S. government would likely keep its top rating if it avoids a default.

Spokesmen from both Moody's and S&P said they wouldn't comment beyond their recent reports.

JPMorgan's Belton said clients have started asking how markets will respond if the U.S. loses its AAA rating. A drop to AA will mean permanently higher borrowing costs for the U.S. government, he said. And because government lending rates act as a floor for other lending rates, mortgages, student loans, corporate debt and other types of loans will become more expensive.

Belton estimates that borrowing costs would rise between 0.60 to 0.70 points. That may not sound like much. But mortgage interest rates, which have hovered around 4.5 percent for the last several weeks, could rise by at least that amount, to more than 5.1 percent.

And for the federal government, it eventually means an extra $100 billion in interest payments to Treasury holders like China each year.

"That's a huge number," Belton said. That $100 billion a year that could be spent elsewhere on everything from education to infrastructure.

An increase in interest rates could soon become a drag on other parts of the economy, experts say. State governments and insurance agencies would also be downgraded — and states are already having financial troubles. Business confidence could sink again, leading to prolonged high unemployment.

But some investors aren't unhappy about the thought of a U.S. debt downgrade. Don Quigley, manager of the $1.5 billion Artio Total Return Bond fund reasons that such a move could provide a buying opportunity. He believes that a downgrade would immediately send the yield of the 10-year bond up to 3.15 percent from its current level of about 3 percent.

If the economy sinks further in part because of higher interest rates, investors would very likely return to buying bonds, Quigley said. That's what they've done during the last several years both during the financial crisis and recession, and again the last several months as the economic recovery has slowed.

Treasurys would keep their allure, in part, because there are few alternatives for large foreign buyers looking for a market big enough to handle massive investments.

"The German market is not big enough and Japan has its own problems," Quigley said.

A cut to the U.S. credit rating could hit stocks harder than bonds. A study by Janney Montgomery Scott looked at rating changes to countries over the past decade. After Spain was downgraded in 2009, Spain's stock market fell 8 percent in three months. A cut to Japan's credit rating in 2011 knocked the country's stock market down 3.4 percent in three months. The study, released in April, suggested the S&P 500 would fall 6 percent after a U.S. downgrade, erasing all its gains for the year.


Travelers may be owed a tax refund

Tuesday, July 26th, 2011 | Finance News

DALLAS – Travelers who paid all their federal airline taxes when they bought tickets might get a refund if they're flying now, after some of the taxes expired.

The situation has airlines confused. Some are telling customers to file refund claims with the IRS, while others invite them to contact that airline.

Airlines stopped collecting taxes that expired at midnight Friday.

Affected are people who paid all the taxes when they bought tickets two weeks ago — or any time before Friday night — but are flying now. The Treasury Department acknowledged over the weekend that they people might be owed a refund.

JetBlue Airways said Tuesday that customers flying in the next week should email their refund request to the airline and put "Expired Tax Refund Request" in the subject line.

Alaska Airlines said amounts paid for taxes that are no longer in effect will be considered an overpayment. It told customers to file a refund claim with the IRS.

American Airlines and Virgin America also told customers to direct their refund questions to the IRS.

The airlines said they're expecting guidance from the Internal Revenue Service soon.

The terminated taxes expired when Congress failed to pass a bill to keep the Federal Aviation Administration running at full speed. The dispute could drag on for days or weeks.

For a brief time, it looked like the Washington standoff would result in a break for air travelers. But most airlines raised fares by the same amount as the expired taxes cost, leaving customers to pay the same they did before.

The expired taxes can add 10 percent or more to an airline ticket.

"Those people traveling in July probably paid a lot for their tickets," said Tom Parsons, CEO of travel website "For a family of four, it could be worth $100 in refunds."

The airlines said there hasn't been a rush for refunds.

"We're not getting a lot of incoming inquiries about this," said Tim Smith, a spokesman for American.


US lawmakers war over debt as world warily watches

Tuesday, July 26th, 2011 | Finance News

WASHINGTON (AFP) – The White House threatened Tuesday that President Barack Obama would veto a two-step Republican debt deal, amid mounting global fears the world's top economy is on the brink of default.

As the dollar slid to new lows and stock markets wobbled, the White House raised the stakes as Obama's Democratic allies and his Republican foes remained deadlocked in a bitter battle to raise the $14.3 trillion debt limit.

With a week to go before the United States hits an August 2 deadline and runs out of funds, Republican House Speaker John Boehner insisted his plan to raise the ceiling in two stages was the only "reasonable approach."

"It has real caps and a real process for cutting spending before the end of this year," he said of the plan which would initially hike the debt ceiling just enough to last until February or March 2012, and then follow with a second increase that would last into 2013.

But in a solemn address to the nation late Monday, Obama said a two-stage debt ceiling increase was "kicking the can further down the road" and would only plunge the country into crisis once again in six months time.

"We can't allow the American people to become collateral damage to Washington's political warfare," Obama said, warning of a "deep economic crisis" if the United States, still emerging from recession, defaults.

The Office of Management and Budget said Tuesday the US administration "strongly opposes" the Boehner plan and if it is presented to Obama "the president's senior advisors would recommend that he veto this bill."

The Obama administration has said it will run out of funds to pay its bills from August 2 unless the debt ceiling is raised to allow it to continue borrowing.

Republicans have said they will only agree to raising the debt limit if there are accompanying measures to rein in the ballooning US deficit.

Obama has agreed to a raft of deep spending cuts, but Republicans emboldened by newly elected arch-conservative Tea Party lawmakers have refused his demand for matching revenue increases to be imposed on the rich and big corporations.

Republican House Majority Leader Eric Cantor called on the party "to stop grumbling and whining and to come together as conservatives and rally behind the speaker and call the president's bluff," a Republican source said.

But Democratic Senate Majority Leader Harry Reid urged Republicans to support an alternative Senate plan which he said was "the best shot we have to avoiding an economic crisis a week from today."

His plan would call for a single $2.7 trillion hike in the debt ceiling, backed by the same amount of spending cuts over 10 years and does not include tax increases.

He said Senate Democrats would start reaching out to Republicans to support his "reasonable middle ground," warning that Boehner's plan was "dead on arrival in the Senate."

There are mounting global fears Congress will fail to resolve the deadlock by Tuesday, August 2.

Christine Lagarde, the new head of the International Monetary Fund, urged the two sides to find a compromise. "The clock is irremediably ticking, and people really have to find a solution," she said in New York.

She warned that a default "would be a very, very, very serious event. Not for the United States alone, but for the global economy at large."

And Brazilian Finance Minister Guido Mantega, whose country's economy is booming, said the United States needed to come "to its senses," saying he believed there would be a solution "but I am worried by the turn of events."

World markets were jittery with US stocks falling, with the Dow Jones Industrial Average down 64 points (0.52 percent) at midday.

European equities also ended mixed while the dollar slid against the euro and yen. By 1900 GMT the dollar had dropped almost one percent in a day against the euro, which was buying $1.4516.

But in a glimmer of hope, analysts said Tuesday that strong tax receipts meant the United States could have up to two extra weeks after August 2 before it could be forced to default.

Wrightson ICAP said they think August 15 is "the critical deadline from a cash-flow perspective."

"It still looks as though they'll have enough cash in August to fund operations into the second week of the month," their chief economist Lou Crandall said.

Washington hit its debt ceiling on May 16 but has used spending and accounting adjustments, as well as higher-than-expected tax receipts, to continue operating normally.