19 July, 2011

U.S. Debt–Where Do We Go Next?

This is the third part of my series on the U.S. debt. Part 1, “U.S. Debt-How We Got Here”, can be found here, and part 2, “U.S. Debt-The Economy”, can be found here.

For months now, I’ve been detailing the issues with our debt problem. And explaining that it’s worse than most people are saying. In the last two posts, I showed that while the economy has had a major impact on our debt the last couple of years, the Democrats still own the problem. They can try to pretend otherwise, but the numbers don’t lie.

The previous two posts were chock full of facts. I will attempt to maintain the same evenhandedness here, but it’s true that when talking about the next steps, I’m entering the realm of speculation. Still, hopefully I’ll back up my speculation with enough supporting facts. That’s for you to decide.

There are a number of possibilities from here, so I’ll hit the significant ones one at a time.


The first is the one that the Democrats and the President keep bringing up, “default”. Unless they have come up with a new definition for the word “default”, my understanding is that means “not paying one’s creditors”. So, let’s just put that one to bed right now. The U.S. government will take in approximately $172B next month. Interest on the debt will amount to $29B. Last I checked 172 > 29. So, we’re not going to default. Anyone who says that is a danger is either dangerously misinformed, or lying. Yes, I’m talking to you, Mr. President.

However, I do think that in such a situation, the credit agencies would likely downgrade our credit rating, regardless of an actual default occurring. No, a downgrade in our credit rating is not the end of the world, but unless the downgrade is very short-lived, it makes the job of solving our problems that much harder.

Do nothing

Once we take the option of default off the table, then we can examine the option of doing nothing. I don’t believe that’s possible mathematically or economically. And it’s certainly not possible politically.

This study by the “Bipartisan” Policy Center does show the danger of doing nothing. First, we have to quickly and drastically pick some winners and losers. Second, no matter what winners and losers we pick, we will be victim of the natural ebb and flow of cash. If you’ve ever worked for a company that’s under fiscal constraints, you know what that’s like. Yes, you have plenty of money at the end of the month to meet all your obligations, but the problem is that the cash coming in isn’t always ahead of your obligations going out. Third, due to our shortfall in revenue discussed in the previous post in this series, we’d be forced to make some very hard choices. We simply can’t pay everyone, and we’re not even very close on the “essentials” list. As the Weekly Standard article linked above points out:

The BPC study found that the United States is likely to hit the debt limit sometime between August 2 and August 9. “It’s a 44 percent overnight cut in federal spending” if Congress hits the debt limit, Powell said. The BPC study projects there will be $172 billion in federal revenues in August and $307 billion in authorized expenditures. That means there's enough money to pay for, say, interest on the debt ($29 billion), Social Security ($49.2 billion), Medicare and Medicaid ($50 billion), active duty troop pay ($2.9 billion), veterans affairs programs ($2.9 billion).

That leaves you with about $39 billion to fund (or not fund) the following:

  • Defense vendors ($31.7 billion)
  • IRS refunds ($3.9 billion)
  • Food stamps and welfare ($9.3 billion)
  • Unemployment insurance benefits ($12.8 billion)
  • Department of Education ($20.2 billion)
  • Housing and Urban Development ($6.7 billion)
  • Other spending, such as Departmens [sic] of Justice, Labor, Commerce, EPA, HHS ($73.6 billion)

The decision to prioritize payments would fall on the Treasury department, and Powell points out it would be chaotic picking and choosing who gets paid (in full or partially) and who doesn't. 
Powell notes, however, that Congress made sure during a budget standoff in 1996 that Social Security recipients would not be affected. “In 1996, during an impasse, [Treasury Secretary] Bob Rubin gave the Congress notice that he would be unable to pay the March ’96 Social Security payment. Congress immediately—and I mean, immediately—passed a law that allowed the Treasury to borrow money specifically for that purpose and exempted that borrowing from the debt limit.” While the U.S. wouldn't default on its debt, Powell argues that failure to raise the debt ceiling could spook the credit markets and lead to higher rates. But that's a risk many Republicans are willing to take if the alternative is accepting a rotten deal.

And there’s no doubt that the stock market would not like that choice at all. There would definitely be at least a short term economic hit. I’m not sure how long it would last, but we’re teetering on the brink of a recession already. Beating up on a fragile economy is not a wise thing to do.

But the political damage is likely even worse. Jazz Shaw nails it in a piece at the Green Room @HotAir.

The spending decisions will take place under the watchful eye of the bean counters who are all on Team Obama.

What does that mean? Here’s where we get into the prognostication. While I have absolutely no way to confirm this right now, I would bet you dollars to donuts that there is a person (or, more likely, team of people) in the White House right now who are coming up with a list of bills coming due. True, some will be looking at the things that have to be paid. But more importantly, there is a list of bills that could conceivably not be paid, and those will be based on the ones that cause the greatest possible political damage. Think of it as Plan Nine from the DNC.

Yes, the Democrats will decide which bills to pay and which not to pay. And every time one doesn’t get paid, they’ll be on TV blaming the Republicans. Kiss the White House goodbye in 2013. Kiss the Senate goodbye. Maybe lose the House too, depending on how long it drags on.

So, let’s agree that we don’t want to go down that road.

Next, we have a couple proposals from the GOP that appeared in the last 10 days or so that have virtually no chance of getting a signature from President Barack Obama (D-USA), and a “proposal” from the One Himself.

The McConnell Plan

First, there’s the plan from Senate Minority Leader Mitch McConnell (R-KY), which has more holes in it than I can count. Here’s the best summary I’ve found, from Jamie Dupree:

  • Congress would first pass a new law that authorizes the President to approve an increase in the debt limit in three steps before the 2012 elections - currently, the Congress approves debt limit changes.
  • President Obama would have to send up budget cuts that matched the level of debt limit increase, but it would not require their immediate approval
  • Lawmakers could then vote on a "Resolution of Disapproval" in order to block any such increase in the debt limit.
  • The President could then veto that "Resolution of Disapproval," if it gained a majority in both houses of Congress
  • Congress would then need a two-thirds supermajority to override that veto, or the debt limit increase would automatically occur.
  • The plan would allow for a debt limit increase of between $700-900 billion in three distinct requests by the President
  • Response to this from the right has been mostly negative, but here’s a contrarian view from The American Spectator:

    On the contrary, he is giving Obama the rope necessary on which to hang his presidency. Just because Obama could be given the authority to thrice raise the debt ceiling over the next twelve months doesn't mean he actually has to do so. But McConnell knows full well that Obama cannot help himself and has never met a government program he thought unworthy of borrowing more money to finance. McConnell is banking that Obama will raise the debt ceiling three times over the next year. And if Obama does so, it will ensure that the President's irresponsible fiscal policy remains in the spotlight through next year's presidential election and all the while Republicans remain free to object to his ways and means.


    Or let me put it this way. If the cost of giving Obama more power today results in Obama not having any power eighteen months from now, then wouldn’t it be a price worth paying? Let’s give him the rope.

    I understand this viewpoint, and I agree with the bolded section, but I’m not sure that’s how it would play out. Even if I did, there’s a bigger problem. As I keep hammering home, the credit agencies are not just concerned about our debt ceiling, but also about our rising level of debt. If we don’t at least try to address the debt issue itself, the credit agencies will give us a downgrade. Now, it’s true that in such a scenario, the President would have to take all the blame, and I don’t see how his Presidency could survive, but that’s not a path I’m willing to follow. It’s possible that I’m being too pessimistic here. But I think that if this is the scenario we end up with, next year is going to be a bumpy one.

    The President’s “Plan”

    The next option to address is the President’s plan. I find myself in the position of the CBO, in that I’m trying to score a speech. While the President has given 4 press conferences over this during the last few weeks, he’s been remarkably non-specific about his ideas (actually, that’s not remarkable at all—he did the same thing during the healthcare debate). However, given what I’ve been able to pick up from leaks and from House Speaker Boehner’s (R-OH-08) remarks, the President’s “plan” is heavy on tax increases and while it may have some budget cuts, they’re pushed as far back in the 10 year plan as he can get them. In fact, that’s apparently one of the reason for McConnell’s plan. He asked how much there was in cuts for next year under the President’s plan and got the response $2 billion. It was then he determined that the President is still not serious about his issue and decided we needed a fall back plan.

    Anyway, the prospects of the President’s “plan” appear dim. I’m not sure it would even satisfy the credit agencies, and certainly could not pass the House without major changes. Speaker Boehner has been adamant that there will be no new taxes in any bill passed by the House. He may be willing to give a little on loopholes, deductions, and credits, depending on what he gets in exchange for them. However, he may even have trouble selling that one to the new House freshman and to the Tea Party base. With the cuts pushed back so far, it’s easy to believe they won’t even happen, in any event, and as I have said repeatedly, it is impossible to get out of this situation with only tax increases. Entitlement reform is a necessity.

    However, we have that same problem to some degree with all the plans. Everyone is doing a ten year plan and they’re all backend loaded. But some are worse than others. The President’s appears to be the worst. I say, “appears” because I still can’t find concrete details. If I’m wrong, let me know & I’ll update the post.

    Cut, Cap & Balance

    The third option is the House GOP plan, “Cut, Cap, & Balance”.

    1. Cut – The bill provides specific numbers to limit both discretionary and mandatory spending for FY12. These numbers would drive further Congressional action this year or else force a Presidential sequester. (I explain a sequester below.) The intent of this section is to force Congress and the President to cut spending immediately.
    2. Cap – The bill would establish a new enforceable limit on total federal spending as a share of the economy. The new caps are designed to phase federal spending down to just below 20% of GDP by FY17 and then hold it there through the end of a 10-year budget window in FY21. Put more simply, this is a new enforceable aggregate spending cap.
    3. Balance – The bill would increase the debt limit by $2.4 trillion after the House and Senate have passed a Balanced Budget Amendment (of a certain type).
    What is a sequester?

    A sequester is an automatic across-the-board proportional spending cut written into law and implemented by the Office of Management and Budget (OMB). It is usually combined with some kind of budget target and designed as a backup measure to force legislative action to hit that target.

    Keith Hennessey discusses the sequester in more detail in the linked post. Sequesters are great in theory, but awfully hard to pass.

    By the time you read this, CCB may have already been passed in the House. Generally, I like the bill. I think it’s exactly what the credit agencies are looking for. If it weren’t for our complete inability to get Congress to pass reasonable budgets, I’d be opposed to the balanced budget part of it. I’m more in favor of limited debt tied to GDP. There’s some data that suggests that small debt, particularly when owned by the citizenry, not foreign governments, is good for the economy and good for the citizenry. In case you haven’t noticed by now, I’m generally in favor of things that are likely to be good for the economy, and opposed to those that are not. And I tend to think about things in terms of 5-50 years out, not 6-18 months. I’m not convinced a BBA is good for the economy long term. I just think it’s likely better than the insane spending we’re doing now.

    But I digress. Back to the bill.

    Since it’s a budget bill, it won’t need 60 votes to make it through the Senate, merely 51. I think it could possibly get all 47 Republicans. But the White House has already signaled a veto in its future. However, despite all the bluster from Obama, he doesn’t really want to veto this bill. He knows doing so will not make him look good. He’d much rather it never reach his desk. The White House will be reminding Senate Majority Leader Harry Reid (D-NV) and the rest of the Democratic caucus of that quite emphatically.

    It won’t pass the Senate. Not without major changes, i.e. the kinds of changes that would make it unlikely the House would pass the amended version. This bill hasn’t even been voted on by anyone and it’s already dead. (Note: while writing this, the bill passed the House)

    This bill is going nowhere. I like it, but it’s a waste of time, and it’s the wrong time to be doing things that are wastes of time. However, it’s not symbolic. The point of this bill is not to get it passed. The point is to force the other side to do something. And, from that perspective, it’s a huge success. So, maybe it’s not a waste of time after all.

    The Gang of Six

    Suddenly today, the Gang of Six popped up again, with their own bill. So, that’s next on the possibility list. The Gang of Six presented it with apparently the support of 50+ Senators. Of what we’ve seen so far, this is the most likely bill to pass the Senate. Many other questions remain unanswered, though. Does it do what’s necessary to keep the credit agencies happy? Will the House pass it? Will the President sign it? Is it a good bill?

    From what I can tell, the preliminary answers are maybe, maybe, maybe, and probably not. Nice definitive answers, eh?

    Here’s the executive summary (h/t Kaiser Health News):

    This bipartisan, comprehensive, and balanced plan consistent with the recommendations of the Bowles-Simpson fiscal commission that will:

    • Slash our nation’s deficits by $3.7 trillion/$3.6 trillion over ten years under CBO’s March 2011 baseline, or $4.65 trillion/$4.5 trillion under the original fiscal commission baseline (which used the President’s 2011 budget request as the starting point for discretionary spending).

    • Stabilize our publicly-held debt by 2014.

    • Reduce our publicly-held debt to roughly 70% of our economy by 2021.

    • Impose unprecedented budget enforcement.


    The plan uses a two-step legislative process: (1) an initial bill that makes immediate cuts; and (2) a process for a second bill to enact comprehensive reform and put our nation on a stable fiscal path. The plan would:

    Immediately implement aggressive deficit reduction down payment

    • Cut deficits by $500 billion.

    Dramatically cut discretionary spending

    • Cut nonsecurity and security discretionary spending over 10 years.
    • Maintain investments that encourage economic growth, strengthen the safety net for those who truly need it, and preserve a strong national defense.

    Carefully strengthen the solvency of our most important entitlement programs

    • Spend health care dollars more efficiently in order to strengthen Medicare and Medicaid while maintaining the basic structure of these critical programs.
    • Fully pays for SGR (the “doc fix”) over 10 years.

    Fundamentally reform our tax code

    • Reduce marginal income tax rates and abolish the $1.7 trillion Alternative Minimum Tax.
    • Encourage greater economic growth.
    • Enhance the competitiveness of American businesses and workers against global competition.
    • Reform spending through the tax code to eliminate investment distortions and tax gaming.
    • Change the debate about taxes in America from rate levels and carve outs to competitiveness, fairness and growth.
    • If CBO scored this plan, it would find net tax relief of approximately $1.5 trillion.

    Strictly tighten the government’s budget processes

    • Impose spending caps and security/nonsecurity firewalls.
    • Sequester accounts at the end of the year to recoup any excessive spending by Congress.
    • Restrict the use of emergency designations that circumvent the spending caps.
    • Prevent Congress from exceeding the caps by requiring a stand-alone resolution subject to a 67-vote threshold, in order to isolate that vote to increase the deficit from any other policy items.

    Reform Social Security for future generations

    • Ensure 75-year solvency of Social Security and provide for a decennial review of the program to ensure it remains solvent.
    • Reform Social Security on a separate track, isolated from deficit reduction – any savings from the program must go towards solvency.


    The plan would be implemented through an open, aggressive two-step legislative process led by committees of jurisdiction and involving the American people by:

    Enacting a $500 billion down payment that would secure immediate deficit savings, while establishing a fast track process for the committees in Congress to specify further savings

    • Impose statutory discretionary spending caps through 2015.
    • Implement numerous budget process reforms.
    • Shift to the chained-CPI (a more accurate measure of inflation) government-wide starting in 2012, along with the following specifications for Social Security: (1) exempt SSI from the shift for five years, and then phase in the shift over the next five years; and (2) provide a minimum benefit equal to 125% of the poverty line for five years. (According to CBO, the shift to chained-CPI would result in the annual adjustment growing, on average, about 0.25 percentage points per year slower than the current CPI.)
    • Repeal the CLASS Act.
    • Enact concrete policy changes that lock-in additional savings, including freezing Congressional pay and selling unused federal property.
    • Require GAO and the Department of Labor to report to Congress on establishing a more effective unemployment insurance trigger.

    Enacting a comprehensive deficit reduction plan that includes discretionary and entitlement savings as well as fundamental tax reform

    • Require committees to report legislation within six months that would deliver real deficit savings in entitlement programs over 10 years as follows:
        • Finance would permanently reform or replace the Medicare Sustainable Growth Rate formula ($298 billion) and fully offset the cost with health savings, would find an additional $202 billion/$85 billion in health savings, and would maintain the essential health care services that the poor and elderly rely upon.
        • Armed Services would find $80 billion.
        • Health, Education, Labor, and Pensions would find $70 billion.
        • Homeland Security and Government Affairs would find $65 billion.
        • Agriculture would find $11 billion while protecting the Supplemental Nutrition Assistance Program.
        • Commerce would find $11 billion.
        • Energy would find $6 billion and may propose additional policies to generate savings that would be applied to the infrastructure deficit or to reduce the deficit.
        • Judiciary would find an unspecified amount through medical malpractice reform.
    • Require the Finance Committee to report tax reform within six months that would deliver real deficit savings by broadening the tax base, lowering tax rates, and generating economic growth as follows:
        • Simplify the tax code by reducing the number of tax expenditures and reducing individual tax rates, by establishing three tax brackets with rates of 8–12 percent, 14–22 percent, and 23–29 percent.
        • Permanently repeal the $1.7 trillion Alternative Minimum Tax.
        • Tax reform must be projected to stimulate economic growth, leading to increased revenue.
        • Tax reform must be estimated to provide $1 trillion in additional revenue to meet plan targets and generate an additional $133 billion by 2021, without raising the federal gas tax, to ensure improved solvency for the Highway Trust Fund.
        • If CBO scored this plan, it would find net tax relief of approximately $1.5 trillion.
        • To the extent future Congresses find that the dynamic effects of tax reform result in additional revenue beyond these targets, this revenue must go to additional rate reductions and deficit reduction, not to new spending.
        • Reform, not eliminate, tax expenditures for health, charitable giving, homeownership, and retirement, and retain support for low-income workers and families.
        • Retain the Earned Income Tax Credit and the Child Tax Credit, or provide at least the same level of support for qualified beneficiaries.
        • Maintain or improve the progressivity of the tax code.
        • Establish a single corporate tax rate between 23 percent and 29 percent, raise as much revenue as the current corporate tax system, and move to a competitive territorial tax system.
    • Require the Budget Committee to report legislation within six months that would:
        • Extend discretionary caps and enforcement mechanisms through 2021.
        • Ensure Congressional action to reduce the deficit if the debt-to-GDP ratio after 2015 has not stabilized.
        • Review total federal health care spending starting in 2020 with a target of holding growth to GDP plus one percent per beneficiary and require action by Congress and the President if exceeded.
        • Achieve program integrity savings of $26 billion in entitlement programs to curb fraud, abuse, and other wasteful spending government-wide.
        • Create a working group to provide updated budget concepts for CBO and OMB.
    • Provide expedited floor consideration for a consolidated bill meeting these instructions:
        • If any committee fails to report entitlement program savings, impose across the board cuts to programs in that committee’s jurisdiction as necessary to achieve the required savings. To protect programs that benefit low income families, exempt from across the board cuts those most in need.
        • Allow a group of at least five senators from each party to introduce a resolution in lieu of the non-reporting committee.
        • If a resolution receives 60 votes on the floor, those recommendations will be added to the comprehensive bill.
        • If the Senate does not agree to those recommendations, the comprehensive bill cannot come to the floor under the special procedures established in the first (down payment) bill.
        • Bar substitute floor amendments that upset the revenue/spending balance or any amendments that make the deficit worse, but place no other limits on debate or the substance of amendments.
        • Allow the Majority Leader and Minority Leader to limit debate and the number of amendments, or impose other substantive restrictions by agreement, so that the Leaders can manage the bill with a process that satisfies 60 Senators and the process cannot be held up by a small group on either side. If the Leaders cannot agree, the bill is considered under the regular order.
        • Hold any such comprehensive bill that receives 60 votes at the desk pending consideration of the Social Security bill.

    Enacting Social Security reform if the comprehensive deficit reduction plan has passed

    • Consider Social Security reform, if and only if the comprehensive deficit reduction bill has already received 60 votes.
    • Reform must ensure 75-year solvency of the program and provide for a decennial review to ensure it remains solvent. Any savings from the program must go towards solvency, not deficit reduction.
    • If Finance fails to report Social Security reform meeting the instructions, allow a group of at least five senators from each party to introduce a resolution with recommendations that meet the committee’s instructions.
    • Bar substitute amendments that worsen the solvency of Social Security.
    • Combine any qualifying Social Security reform bill that receives 60 votes on final passage to the comprehensive bill at the desk before being sent to the House as a single bill.
    • Vitiate the vote on the deficit-reduction bill if the Social Security reform bill does not receive 60 votes.

    There’s good and bad here. It’s hard to say whether the good outweighs the bad. Which is the first bad thing about it…

    This is awfully complex. Complex is not good. Complex allows people to hide things. Complex allows people to claim they’re lowering taxes while actually raising them. Complex may allow people to claim they’re addressing the debt issue while they aren’t really at all. And it’s not just complex by accident. It’s deliberately complex. In fact, complexity is mandated by the bill!

    That line about an “aggressive plan that involves the whole Congress” caused at the very least, 100 Senators to get on the phone with their staffs telling them to start adding in their pet projects. This bill is going to be ugly when it’s finished.

    It claims it will lower the marginal rates, lower the corporate tax, and get rid of the AMT. Those are all good things, and will spur economic growth. The summary seems to imply that tax revenue growth will come primarily from economic growth. But it doesn’t say so explicitly. And it definitely doesn’t say that it will come exclusively from economic growth.

    There are also a couple phrases in the summary that make me very nervous. The first is “reform spending through the tax code”. I’ve mentioned before that I find this phrase worse than Orwellian. The second is “maintain or improve the progressivity of the tax code”. Just reading that sends shivers down my spine. The fact that it comes with no explanation of exactly what that means makes me want to go hide all my money in a coffee can in the back yard.

    Worse, this plan is a two phase process. So, there will be two bills. One that makes some quick cuts. And increases the debt limit by some amount. The same amount? I don’t know. It doesn’t say. Then a second, bigger bill, some time later, that will do all the heavy lifting. Will there be another increase in the debt limit then? Or is the entire debt limit increase in the first bill? I don’t know. It doesn’t say. If it’s all in the first bill, the idea is DOA in the House. And, frankly, should be DOA in the Senate too. Still, though, to get it through the Senate, it’s going to have to have Democrat support. That means that if they can craft something together that’s not DOA in the House, there might be enough Democrat support to push it through, even with the obvious Republican defections. It might  make it through the House then. But the President has threatened to veto anything that just comes with a small debt limit increase. Will he do so, knowing that this big “wonderful” bill is around the corner? I don’t know.

    Furthermore, there’s nothing in this plan regarding Medicare and Medicaid reform. Let me be blunt. Without that, it’s junk. If we can’t pass something with Medicare and Medicaid reform with this White House (and we probably can’t), then our goal should be to pass something as small as we can get away with, so we can really fix things in 2013. We shouldn’t be trying for some big “grand bargain”. The only person that wins that way is Obama. The remaining 311,802,074 people in the United States lose.

    So, the last unanswered question is whether this will satisfy the credit agencies. Again, the answer is that I don’t know. They killed the Greek plan precisely because it was too complex. In the Greek plan they were trying to make it so complex that no one would notice it amounted to a default. The credit agencies noticed. I worry that the same thing will happen here. We’ll craft this incredibly complex bill that does nothing to address the actual problems we have and the credit agencies will slap us in the face for it.

    Still, having said all of that, of the things that I’ve discussed so far, this seems to have the best chance of getting a Presidential signature and getting the credit agencies off our back for a while. That doesn’t mean it’s a good bill or that it should be passed.

    There’s one final option that should be considered. And I hit on it briefly in the last section.

    Pass a small bill now

    This is probably the best idea. And it had been gaining steam on the right over the last few days. Call it “calling the President’s bluff”. Frankly, CCB is targeted along these lines. But it should be even smaller than CCB. Pass a bill with targeted cuts and a matching debt limit increase that will get us through August, maybe even September. This would be fairly easy to write and would easily pass the House. Then force Reid and Obama to explain to the people why enacting that would be worse than not. They won’t be able to. They would be in an indefensible position.

    There are two problems with that scenario. Maybe three. First, it might not make the credit agencies happy. I keep hammering on that, but it’s a big deal. Unfortunately, I don’t see any way to make them happy before January 20, 2013. All we can hope to do is get them to remain at their same level of unhappiness until then. Second, the Gang of Six plan torpedoed this idea. It’s going to be hard to get momentum for this stopgap plan as long as everyone thinks a “grand bargain” is a possibility. Third, it still depends upon the intelligence of Reid and Obama. They may be just stupid enough to stop it.


    So, did I answer where we go next? No, not at all. Sue me. I’m feeling disgusted tonight. It seems apparent to me that there’s only one way to do the following:

    1. Pass the House
    2. Pass the Senate
    3. Get a Presidential signature
    4. Not regret what we’ve done 2 years from now
    5. Hopefully keep the credit agencies off our back for a while

    And that’s to pass something that will increase the debt limit enough to get us through about the middle of 2013. Whether we do that as one bill or several, I think that should be the goal.

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