Adam Creighton’s article yesterday in Crikey (No reason or evidence will cure US of its debt fetish) begins by suggesting that a US debt default would be “a salutary expedient”, then proceeds through a series of non sequiturs and Adam Smith quotes (who else?) to conclude that a debt default would only be a problem for that handy straw man, “a political and economic class beholden to stupid ideas”.
What is he talking about?
Oh that’s right: debt is evil. Like a lot of libertarians, Creighton is morally opposed to government spending, whether it be financed by taxation or borrowing, and he therefore feels no compunction describing government borrowing in pejorative tones. Debt is a “fetish”, a “stupid idea”, a “binge”, an “o-gy”. When the consequences of a US debt default are so large, it’s probably time to call rubbish on this nonsense and explain to Crikey readers what’s really going on.
Would a US debt default — or even the failure to raise the debt ceiling on August 2 — be such a bad thing?
Yes, it would actually. Let’s run through the possibilities of a failure to extend the debt ceiling.
Leaving aside constitutionally creative solutions, such as “coin seigniorage” (in which the US Treasury mints platinum coin with a fiat value of, say, $1 billion each) the most likely outcome of the US hitting its debt ceiling would be that the government begins to slowly shut down.
This means that bond repayments will continue, but that some forms of social security payments and eventually even government salaries will be halted.
For a US economy still in the doldrums of a devastating recession it has yet to recover from, this will be devastating — not just to aggregate demand, but also to confidence. With unemployment still very high, the US consumer is struggling to spend, and the US economic situation remains subdued, to say the very least. A partial government shut-down can only make matters worse.
The impact on global credit markets will not be minor, either. It’s hard to argue with Reuters blogger Felix Salmon’s assessment that “already an enormous amount of damage has been done: the US Congress has demonstrated clearly that it can’t be trusted to govern the country in a responsible manner”.
As former top IMF banker Simon Johnson observed in Slate last week, US Treasury bills represent the foundation of global credit markets. Even if the US continues to pay back its debts, the decision to start shutting down the government, and stop issuing more Treasury bond debt, will cause significant international disruptions. Once a high enough degree of risk around Treasury bonds is created, there will be a massive run into cash and other safe havens such as gold, and even illiquid assets such as property. The result is likely to be a second GFC-like credit squeeze. In other words, the US doesn’t even have to default to cause a significant credit crunch on global markets.
This Congressional Budget Office briefing paper explains why the US is in such a deficit pickle. Yes, spending has been rising. But tax revenues have fallen off a cliff. According to the CBO, “relative to the size of the economy, federal revenues are currently at their lowest level in 60 years”. One key reason is the tax cuts of George W. Bush’s administration, a huge decade-long program of personal tax cuts. US income tax rates at the top end of the scale were once as high as 91%. Now they’re a far more modest 35%. The Bush tax cuts wiped trillions from US revenue. But Bush didn’t bother to curtail spending — instead he embarked on two costly foreign wars. As a result, US debt was ballooning long before the collapse of Lehman Brothers.
Creighton cites a statistic that “between 1947 and 1991 every dollar of additional taxation led to an extra $1.59 of [US] spending”, but the 1991 date is particularly misleading. Between 1992 and 2000 Bill Clinton pursued a vigorous effort to cut the deficit, raising revenues and cutting spending.
Any sensible discussion on dealing with the current US deficit would start from the same premise. After all, it worked in the 1990s. But Creighton, like the US House Republicans, appears so in thrall to the ideology of spending cuts that he claims that “Republican senators and congressmen are right to oppose … any increase in the tax burden”.
In the real world, the US tax burden is already one of the lowest in the entire OECD, as this graph from the Centre for Budget and Policy Priorities shows. In short, two of the three main reasons the US is in deficit are its crippling recession, combined with its low tax base. The US could easily lower its deficit and eventually pay back its debt simply by taxing its companies and wealthier citizens more, reforming its tax base to remove its many loopholes, and cutting discretionary spending on big-ticket items such as defence.
The other big deficit issue for the US are its mandatory spending programs: Medicare, Medicaid and Social Security. The costs of these are rising slowly but inexorably, largely due to America’s ageing population. Because they make up about 55% of the US budget, any deficit plan that addresses only spending will have to slice into them in a big way. A key consequence of cutting into the programs that Creighton confidently asserts are “wasteful” would mean taking a razor to America’s already threadbare social safety net.
What would solve America’s debt crisis? It’s tempting to say: “a rational Republican party”. But no, the real answer is more boring: a sensible program of tax increases and spending cuts, combined with modest, long-term social security reform. That sort of proposal used to be considered a prudent conservative position.
Thanx for this. Not only did you dispose of the Centre For Independent Studies rubbish but added many useful points. I note that Australia is also a low tax country, with South Korea, US, Turkey, Chile and Mexico.
What would solve America’s debt crisis? Raise taxes on the rich, close loopholes for corporations for sure but you missed the Elephantine Gorilla of aggressive wars and incessant external malfeasance. As the original Repug Reptile, PJ O’Rourke, put it, “it would have been cheaper to buy the oil than try to steal it!”.
‘But no, the real answer is more boring…’? Actually, a ‘reasonable Republican Party’ would be one which adopted these more boring policies. They refuse to entertain the idea of raising revenues via taxes while demanding the government cut benefits which are largely spent on consumables. The US government has only ever faced these crises when there’s a Democrat in the White House and the Republicans control the House, because the Republicans are far more interested in power and pursuing their own ideological agenda than in good governance, and will do whatever it takes to f#$% a Democrat party. Clinton has famously said about the current crisis that even Gingrich wouldn’t go this far, but Gingrich wen much closer to shutting down the government under Clinton (by refusing to pass the budget) than had ever occurred previously. The current Republicans are merely taking the next step.
So, certainly, in purely technical terms, the answer is to raise tax revenues and reduce spending; but in realpolitik terms, that’s not going to happen until the Right let’s go of its ideological agenda and its servitude to Big Capital and begins to govern in the interests of the nation. How perpetually frustrating that the fate of the world is in their hands.