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Either Way, Washington Prepares to Bring the Pain on the Debt

July 17, 2011

Whatever the resolution to the Republican hostage-taking of the U.S. debt ceiling, it's becoming increasingly clear it will a painful one. Failure to boost the $14.3 trillion limit by August 2nd, as even some of the GOP extortionists are only now beginning to understand, would produce what Speaker John Boehner admitted would be "a financial disaster, not only for our country but for the worldwide economy." But even if that disaster is averted, the prospect of steep spending cuts threatens the stop the sluggish recovery dead in its tracks.
Testifying this week before the Senate Banking Committee, Federal Reserve Chairman Ben Bernanke warned of "calamity" should Congress fail to raise the debt ceiling on time. But overzealous budget cutting now, Bernanke also cautioned, would nevertheless be very dangerous:

"I only ask ... as Congress looks at the timing and composition of its changes to the budget, that it does take into account that in the very near term the recovery is still rather fragile, and that sharp and excessive cuts in the very short term would be potentially damaging to that recovery."

In an analysis released this week, the nonpartisan Congressional Budget Office (CBO) agreed.
Looking at a scenario in which the federal government trimmed $2 trillion in spending over the next 10 years, CBO Director Douglas Elmendorf forecast interest rate declines and GDP gains by the end of the decade. But in the near term, as Steve Benen highlighted, the struggling U.S. economy would struggle even more:

In the short term, while the economy is relatively weak and economic growth is restrained primarily by a shortfall in demand for goods and services, the policy would decrease the demand for goods and services even further and thus reduce economic output and income...
Lower demand resulting from the illustrative policy would decrease real (inflation-adjusted) gross national product (GNP) in 2012, 2013, and 2014 by amounts ranging from roughly 0.1 percent to 0.6 percent depending on the year and the assumptions used. In addition, long-term interest rates would be reduced by about 0.1 to 0.4 percentage points during those years.

Mark Zandi of Moody's Economics and former advisor to presidential candidate John McCain offered a similar assessment. Zandi, who in a previous study concluded that federal recovery programs had prevented "Depression 2.0," warned last month that failure to raise the debt ceiling meant "we go into recession and my forecast would be blown out of the water." But even avoiding that fate would provide little solace if draconian spending cuts along the lines of the Ryan budget supported by 235 House Republicans and 40 GOP Senators became law. That, Zandi explained in April, would lead the U.S. to a staggering loss of 1.7 million jobs over the next two years:

In the Ryan plan, lower future deficits and debt result immediately in lower interest rates than under the president's plan. Ten-year Treasury yields are more than 60 basis points lower in 2012 and more than a percentage point lower by 2014. Yet this is not enough to offset the negative near-term economic consequences of the Ryan plan's more aggressive spending cuts. Real GDP in 2012 under the Ryan plan is $123 billion lower than in the president's plan and there are 900,000 fewer payroll jobs in the U.S. By 2014, real GDP is almost $200 billion lower and there are 1.7 million fewer jobs under the Ryan approach than is the case under the president's.

Concerns over what debt ceiling deal along the lines of the evolving McConnell-Reid "Plan B" would mean for America's short-term economic health extends to the nation's governors as well. As the New York Times explained this weekend, state and local governments which have already slashed budgets and cut over 500,000 workers since 2008 will suffer regardless of the debt ceiling outcome. It's only a question of how much:

But even if the debt ceiling is raised, as many governors expect it ultimately will be, states could still pay a high price. Both Democrats and Republicans in Washington want to pair any increase in the debt limit with deep new spending cuts -- cuts that many governors fear will hurt their states as they are still recovering slowly from the Great Recession.
"If I can use a whitewater analogy here, the two rocks we need to shoot between is, on the one side, being needlessly driven into default, which will kill the jobs recovery," said Gov. Martin O'Malley of Maryland, the chairman of the Democratic Governors Commission. "The other rock is massive public sector cuts, by whatever name, that would also kill the jobs recovery."
Gov. Haley Barbour of Mississippi, a Republican, said that a default stemming from a failure to increase the borrowing limit would be "terrible" for states. But he said that states must also brace themselves for managing a new set of cuts even if the limit is raised. "No matter what happens, states are going to get less money from the federal government," he said.

To get a feel for the American future after the budget cuts a debt ceiling compromise (or worse yet, the Republicans' reckless "Cut, Cap and Balance Act"), just look at the British present. In the wake of Prime Minister David Cameron's austerity plan, the UK economy contracted 0.5% in the fourth quarter of 2010 and barely eked out a half-point of GDP growth in the first three months of this year. And as Bloomberg recently reported, things don't look to be getting better any time soon:

U.K. economic growth slowed to a virtual standstill in the second quarter, supporting the case for the Bank of England to maintain record-low interest rates, the National Institute of Economic and Social Research said.
Gross domestic product expanded 0.1 percent, the group, whose clients include the Bank of England and the U.K. Treasury, said in an e-mailed statement in London today. Government data show the economy effectively stagnated over the fourth and first quarters.

That the U.S. must ultimately address is growing national debt is not controversial. The only real questions are how and when. "When" is later, that is, after the recovery has gained more traction. And with the federal tax burden at a 60-year low and income inequality at an 80-year high, tax increases (especially for wealthier Americans) must be a centerpiece of any debt reduction solution. (It's worth noting that the "Do Nothing" plan under which the Bush tax cuts simply expire in 2013 alone would reduce the debt by $4 trillion over the ensuing decade.)
But even if the default deniers and debt kamikazes of the Republicans don't succeed in torpedoing the U.S. economy by blocking a debt ceiling increase, the spending cuts they will likely extract from President Obama and Democrats in Congress will still wreak havoc. As Paul Krugman lamented America's looming bout with an unnecessary austerity experiment:

So there is no plausible argument on behalf of the claim that fiscal contraction expands output; there is, on the other hand, a very plausible argument to the effect that fiscal contraction doesn't even help the fiscal situation.
So guess which perversity is considered a suitable position for Serious People, and which isn't?

Debt ceiling increase or no, either way Washington is preparing to bring the pain.

2 comments on “Either Way, Washington Prepares to Bring the Pain on the Debt”

  1. achmed mad achmed kick butt
    how dare you post 54 pages such as this information?? how dare you?
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    I have 60,000 pages yet to collate and file and a stack about 2 feet high of charts to be collated and filed.
    yet! you kill me. achmed mad.
    You post 54 pages that I have been working on for six months plus.
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    Keep it simplestupidswinney
    ok! seriously, it is fabulous fantastic superb wonderful good stuff.
    [email protected] lifeaholics of america (work for a life not just a living)
    achmed madmadmad at inequality in america
    achmed wants to march in the streets

  2. how can you get this superb information to 70 million workers who have been shafted since 1980???
    it needs distribution.
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    no safety nets america is like egypt and others. march in streets.


Jon Perr
Jon Perr is a technology marketing consultant and product strategist who writes about American politics and public policy.

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