Saturday, July 23, 2011

Thoughts on the Debt Ceiling Impasse

We usually refrain from writing about national and international affairs because, frankly, California politics are depressing enough. But with the negotiations on the U.S. debt ceiling absorbing the political scene these days, we thought we'd break from our regularly scheduled programming and offer a few thoughts on it.

First, we were most certainly not fans of the presidency of George W. Bush, but this ongoing circus is threatening to make us nostalgic for the Ol' Cowboy. Say what you will about Bush, but he never lacked the courage of his convictions; when he saw the need to act, he would decide on a clear course of action and fight hard for that plan. Granted, that course of action was usually a terrible idea, but at least he was willing to stand on something. Barack Obama, in contrast, is more challenged by this situation: on one hand, he's clearly preoccupied with ensuring that its resolution improves his chances of re-election next year, but on the other hand, he's either afraid to contribute to the process or he lacks a clear idea of what to do. We're not fans of their work, but we're sympathetic to Congressional Republicans in this instance; they've at least had the courage to propose a concrete plan, even if "cut, cap, and balance" was far from adequate. Obama and the Congressional Democrats, in contrast, have bashed their colleagues on the other side of the aisle without offering any clear plans of their own. We're guessing that Obama is hoping to run down enough of the clock that his opponents will feel forced to sign on to tax increases without meaningful spending reform, a disaster for them politically. If this is the strategy, it's risky. At this late date, Republicans have nothing to gain and everything to lose by caving on taxes. If a stalemate leads to economic calamity, history won't remember the name John Boehner; it will remember that America died on Obama's watch.

Second, the longer this goes on, we're less certain that those severe economic consequences can be avoided. We're guessing that a deal to raise the debt ceiling will get done. It's looking more likely that it'll be a short-term deal without meaningful spending cuts or sizable tax increases, and we'll be going through the same song and dance in a few months. But would this lead to downgrade by the major rating agencies? Given that these agencies have historically done the bidding of big banks and Western governments, it seems very unlikely. As this column in the Orange County Register points out, austerity and spending reform in Ireland haven't prevented the agencies from dropping the government's debt to junk while rating America's at AAA, even though America's finances are arguably weaker than Ireland's. If Moody's, S&P;, or Fitch had any intention of downgrading U.S. debt, they probably would've done it by now. But we're not as certain of this as we were a couple weeks ago. If nothing else, this crisis has shone a light on the weakness of America's finances and the inability of its politicians to take the problem seriously. If the debt ceiling is raised without any reforms attached, it's possible the markets could beat the rating agencies to the punch.

Third, the consequences are tough to forecast. While we expect the debt ceiling to be raised, and think a default very unlikely, what will happen? If American debt isn't downgraded, we'd still expect a surge out of government debt; commodities and stocks would rise as investors decided it wasn't worth gambling on a positive resolution to the next debt ceiling crisis. Though not immediately catastrophic, the costs of government borrowing would go up, and cash-strapped governments like California's could see drops in their credit ratings. But this just means putting off the catastrophe for later, and piling on more debt. If the rating agencies pulled the trigger on a downgrade of U.S. debt, the pain would be more immediate: thousands more downgrades would cascade down to state, county, and city governments, who would be unable to borrow on the muni market. As a result, every broke government in the country would sink like a stone. Of course, the sooner we can get this over with, the better. But still, we think this is very unlikely.

Fourth, while we have mixed feelings about the Tea Party movement, we have to give them their due for forcing an adult discussion of America's debt in Washington. As much as they're being vilified by partisans on both sides for resisting a debt ceiling increase, the simple fact is that they're right about DC's spending addiction: regardless of how you feel about entitlements and military adventurism (and we concede that many Americans love these things), we simply don't have the money to pay for even a fraction of the promises we've made. And a government in debt has only three options for getting out of it without cutting spending. It can raise taxes, which hurts everyone by sucking job-creating capital out of the private economy, and because of this can only generate so much new revenue. It can inflate the currency, which introduces the regressive tax of higher prices and destroys one's ability to save for the future. Or it can borrow the money, leading to all of the above and enriching less-than-humanitarian foreign governments at our expense. When people like Ron Paul recommend getting default out of the way now, dramatically rolling back America's welfare and warfare states, and abolishing the Federal Reserve in favor of free-market money, they're not necessarily doing so out of a narrow commitment to ideology. In many cases, they recommend it because it's the best way of not prolonging the agony.

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