Wall Street says cuts alone won't fix budget

In a Reuters survey conducted on Tuesday, 17 out of 29 of fund managers and economists representing major Wall Street bond dealing firms said the Republicans' favored option of spending cuts alone would not a work.

The good news for politicians is that big Treasury market players say they have a couple of months to hammer out a solution. Twelve out of 23 surveyed said the government had until the end of July before the bond market would start to worry.

The bad news is any deal requires a compromise between anti-tax Republicans and Democrats, who support social spending programs known as entitlements -- positions that each side is holding onto dearly ahead of 2012 elections.

A middle path is needed, Wall Street said.
"I would ask Republicans to come up with new revenues that don't undermine incentives to work and invest. And I would ask Democrats to recast entitlements in a way that doesn't compromise the social safety net," said Bob DiClemente, head of U.S. economic and market analysis at Citigroup in New York.
Nine of the respondents said a deal could still be credible without dealing with the popular but huge entitlement programs, Medicare, Social Security and Medicaid before the 2012 elections.
Eight said such a deal would not be credible and the rest did not answer.
Politicians the past week have talked of pushing these hot-button issues off the table until after 2012, making them a campaign issue. Standard and Poor's warned last month that a credible medium-term budget deal needs to be in place by 2013 or the United States risks is gold-plated, triple-A sovereign debt rating, which keeps its borrowing costs low.
PREACHING TO THE CHOIR
The United States is expected to hit its $14.3 trillion legal limit on how much it can borrow on May 16. Republicans have tried to link any rise in the debt ceiling with a deal to narrow the budget deficit, which they worry is approaching unsustainable levels.
To avoid a showdown, the U.S. Treasury says it can hold off until August 2 before defaulting on the nation's debt.
A default would be a cataclysmic event for the U.S. economy, its financial markets and, probably, for the rest of the world.
Republican congressmen began making visits this week to Wall Street to stump for their budget reform proposals, which aim to cut the budget deficit with spending cuts and no tax hikes.
The survey showed their pitch may fall on sympathetic ears. Most primary dealers, or 7 out of 11 of the Wall Street firms who answered the question, said they favored spending cuts as the main method of tackling the budget deficit.
Four who answered wanted tax hikes in the mix.
In contrast, of the money management firms in the Reuters survey, which oversee nearly $2 trillion in investments, 13 favored a mix of spending cuts and tax hikes.
Primary dealers are critical to pricing of U.S. debt. They bid at U.S. government bond auctions and are authorized to deal directly with the Federal Reserve and the Treasury to help distribute U.S. debt to investors.
OPPORTUNITY FOR A RIOT
Even with the debt limit looming and specter of default not far off, most of the investors are taking a sanguine view of the problem in the near-term.
U.S. 10-year Treasuries are yielding 3.22 percent -- well below their average of 6.75 percent over the last 30 years. Any worries about the budget would most likely emerge in the bond market in the form of rising yields.
Of the fund managers and primary dealers surveyed, 12 out of 23 said the government had until the end of July before the market started to worry.
A small group of respondents to Reuters' survey thought a budget deal would not be reached until the end of August.
"I do not believe that many expect near-term action on the key entitlement programs," said Michael Moran, chief economist at Daiwa Securities in New York.
However, they also said politicians should not take the market's patience for granted.
"I think the opportunity for the markets to stage a riot is going to be elevated because this is not going to get done before the very last second and it's not going to be done in a way that's very satisfying to markets," said Mitch Stapley, chief fixed income officer, Fifth Third Asset Management in Grand Rapids, Michigan. Fifth Third has $17 billion in assets under management