US debt 'super committee': what if they fail?

A lot is at stake: stock market losses, a deteriorating credit rating, and even a further blow to US military dominance.

The cross-party US ‘super committee’ in charge of reducing the US debt by at least $1.2 trillion over 10 years only has until 23 November to reach a deal. So far, in conversations that are being held behind closed doors, there is little evidence of progress towards a winning combination of spending cuts and revenue increases to bring down the US budget deficit. The fear, fund managers whisper, is that the politicians will fudge it.

‘They've had a lot of conversations, but it feels as if people continue to try to stick with their rigid positions rather than solve the problem,’ president Barack Obama said at a press conference on Sunday.

If a deal that signals real commitment to cutting the deficit is struck – and there are rumours of a ‘grand bargain’ beyond the $1.2 trillion required – then some US investors including Jeffrey Rottinghaus, fund manager at T Rowe Price, speculate that confidence in the country's equity market could get a boost.

Conversely, a failure to reach agreement ‘will be interpreted as yet another sign of governmental gridlock that will strike a blow to market confidence and lead to a decline in stock prices,’ according to US brokerage Charles Schwab.

Tim Roberts, manager of Cavendish Asset Management’s North American fund, said: 'I just hope that given the circumstances and the chaos that summer’s debt row produced, they will be more careful this time.'

And Moody’s, which did not follow S&P in cutting the US credit rating in August, opting instead to wait to see what the super committee would do, is watching closely.

If a deal isn’t reached then automatic spending cuts to the tune of $1.2 trillion kick in anyway.

Automatic spending cuts if super committee does not strike deal (source: CBO, SG Cross Asset Research/Economics)

In this instance, the defence sector, which is already facing cutbacks, would be hard hit. So hard, in fact, that Leon Panetta, US defense secretary, has warned it would be ‘devastating’ for the Pentagon, with a ‘substantial risk’ that the country’s defence needs might not be met, according to US press reports.

However, most US market watchers expect a deal of some sort to be struck, albeit not a straightforward one. ‘It is looking more likely that Congress will ultimately vote on a two-step package which consists of future promises to raise revenues or cut entitlement spending on top of a smaller ‘down payment’,’ Bricklin Dwyer, an economist at BNP Paribas, said in a research note.