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From: US GIO [us.gio@jpmorgan.com] Sent: 7/25/2011 4:33:45 PM To: Undisclosed recipients: Subject: Eye on the Market, July 25, 2011 Attachments: image002.png; image004.png; image006.png; image008.png; image021.png; image022.png; image023.png; image024.png; 07-25-11 - EOTM - White Castle.pdf Eye on the Market, July 25, 2011 (the attached PDF document is much easier to read) Topics: US debt ceiling negotiations, a more ambitious European bailout plan (finally), and how large cap growth stocks and rising corporate profits are patiently waiting for both of them to end White Castle. Twenty five years ago, I had a friend with a peculiar way of responding to seeing things he didn’t like on TV: he would throw White Castle hamburgers at the screen. I always thought this was a bad way to waste a good hamburger, but I had one of those moments the other night when watching news reports on debt ceiling discussions. Media outlets have referred to President Reagan’s scolding of Congressional Republicans for delaying debt ceiling increases, and the 18 increases that took place during his Presidency. The implication: reservations about raising the debt ceiling are as irresponsible now as they were then. This is a disingenuous argument; in the 1980’s, the debt ceiling being debated was 50% of GDP, and had no bearing on the solvency of the United States. Today, the proposed increase raises the debt limit twice as high, measured relative to GDP or government revenues. While a default is a very bad idea (deserving of a White Castle hurling of its own), unconstrained debt growth with no plan to slow it is bad as well. Some suggest we not worry about debt growth, since demand from foreign central banks and the Federal Reserve would keep yields in check. That logic is irresponsible at best. Debt limit legislation is a rocky but healthy way for a democracy to decide whether mega-deficits are in the long-term public interest. Debtlimit debate of the 80's: anentirely different discussion Percent Multiple 110% 100% Reagan scolds Debt limit to Congressional GDP Republicans for not — raising the debt ceiling YS , , + ’ + . 1950 1956 1962 1968 1974 1980 1986 1992 1998 2004 2010 Debt limit to gov. receipts ———»> Source: OMB, BEA, J.P. Morgan Private Bank Over the last few days, the Gang of Six plan, the Reid-McConnell plan and the Obama-Boehner plan have all been raised up the flagpole and then lowered. By the end of the process, we’re still looking for deficit reduction of $3 trillion+ over 10 years (relative to the CBO Alternative case in which there is no deficit reduction at all). However, Congress is running short on time, and may have to do a smaller debt ceiling increase/deficit reduction first. For now, we wait to see the balance of spending cuts and revenue increases will be agreed to. Last week’s Profiles in Courage piece walked through the history and dynamics of this process, so we won’t repeat that here. Here’s our take on what has been proposed so far, with the caveat that many plans are not crystal clear what baseline they are using, or what steps they recommend to get to that baseline first. For example: the Gang of Six state that they used the President’s budget as a baseline (scored by CBO in March 2011), reduced deficits by $3.7 trillion, and ended up with a 71% debt/GDP ratio; but they do not explain how they get to the President’s baseline in the first place. HOUSE_OVERSIGHT_025215