Odds Just 1 in 3 on Deal to Raise Debt Ceiling

Public outcry encourages GOP to win spending cuts first.

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Despite revived negotiations between Vice President Joe Biden and GOP leaders over boosting limit on the nation’s credit spending by $2.4 trillion, some on Wall Street predict that there is just a 33 percent chance a deal will be cut in time to avoid default. And even if the two sides come to an agreement, expectations are rising that the debt ceiling will only be raised by about $1 trillion, forcing both sides back to the table before next year’s elections.

Chris Krueger, political strategy analyst at MF Global’s Washington Research Group, says: “Our odds remain at 1 in 3 that the Congress fails to raise the debt ceiling by the August 2 hard deadline.” If that holds true, others have predicted that Wall Street could crash and the government default on loan payments. [Read the U.S. News Debate: Should Congress Raise the Debt Ceiling?]

In his weekly report to clients, Krueger explains that Congress and the House essentially have to come up with a deal in three weeks so that both sides can write the legislation and pass it by the August 2 deadline when the debt is expected to reach its $14.2 trillion ceiling.

Krueger adds that, since the GOP wants every dollar of increase to be offset by a spending cut, the two sides might only be able to agree to a $1 trillion boost in the debt ceiling, forcing both sides back into talks next year. The original request for a $2.4 trillion raise would have lasted to the end of 2012. [Check out a roundup of political cartoons on the budget and deficit.]

Recent public polls back up the GOP’s demands for spending cuts. A Washington Post-ABC News poll last week found that 51 percent back a plan to raise the debt limit that comes with big cuts.

From Krueger’s weekly note:

The debt ceiling negotiations led by VP Biden will see three separate meetings this week, tackling spending (both mandatory and discretionary) as well as budget reforms. The first of the three meetings is tomorrow. Our odds remain at 1 in 3 that the Congress fails to raise the debt ceiling by the August 2 hard deadline.

To raise the debt ceiling to the end of 2012, an approximate $2.4T raise in the debt ceiling is required. Congressional Republicans are adamant that for every dollar the debt ceiling is raised, an equal amount of spending cuts is required. It remains up for debate and negotiation on how much the debt ceiling will be raised, which is the yardstick for when you would need another raise. By ‘back of the envelope’ accounting, the U.S. burns approximately $150B of debt per month. If the debt ceiling is raised by $1T, another raise will be required well before the 2012 elections.

Of the options available to forge a deal on the debt ceiling, the most likely framework remains the Commitment to American Prosperity Act, co-authored by Sens. McCaskill (D-Mo.) and Corker (R-Tenn.). It puts in place a 10-year glide path to cap both discretionary and mandatory spending from the current 24.7% of GDP to 20.6%. To keep them honest, there is a trigger that should the Congress fail to meet the annual cap, the OMB will make evenly distributed, simultaneous cuts. To sweeten the pot, Obama may have to throw in a few hundred billion in spending cuts as a ‘down payment.’

The Balanced Budget Amendment is another negotiating chit.

July 4 remains the target date to reach the deal that is required to entice enough votes to raise the $14.3T debt ceiling. Once the deal is reached, putting the agreement into legislative text will likely take several days and then the real work begins: securing passage in both the House and Senate.