The great Jim Capretta has a fantastic piece on the homepage today about how Republicans may be about to accept yet another deal that looks good on paper but is terrible in the real world. It wouldn’t be the first time. Remember the last CR bill? And remember the ’90s?
In 1990, Richard Darman, who was director of the Office of Management and Budget, wanted to strike a budget deal to bring projected budget deficits down by $500 billion over five years. As a precondition for entering the talks, however, Democratic Senate majority leader George Mitchell demanded that Pres. George H. W. Bush renege, in writing, on his “no new taxes” pledge. The president did so at Darman’s urging, and from that moment on, the president’s standing and leverage plummeted. At crucial moments in the ensuing process, the tax increases kept getting larger and more onerous, and the spending cuts and entitlement reforms kept getting more ephemeral. In the end, it was just a question of how bad the political fallout would be for the president, which of course turned out to be very bad indeed.
Maybe more important, Capretta explains that what the country needs right now is not what Republicans lawmakers seem tempted to adopt as illusory reductions in Medicare and Medicaid spending:
. . . further reductions in what providers of services and products are paid, trims in Medicare’s support of hospital-based physician-training programs, and importation of Medicaid’s pharmaceutical-rebate scheme into the Medicare prescription-drug benefit for the so-called “dually eligible” (that is, the elderly who are enrolled in both programs).
These cuts may look as if they will save some money, but they won’t. First, it is likely that they will never be implemented; second, the unintended consequences of these cuts are so bad that we will end up with more spending than we had before; finally, they won’t address the fundamental problem behind the upcoming explosion in Medicare and Medicaid spending, which is demand.
I would add one thing to Capretta’s piece. Some in Washington argue that Republicans should take a deal already and raise the debt ceiling now, or else investors may get worried and raise interest rates. I disagree. Raising the debt ceiling without making serious changes that would put the U.S. on a different path is what will send a signal to investors that we aren’t serious about addressing our looming entitlement-spending crisis.
In their new paper, “A Decade of Debt,” economists Carmen Reinhart and Kenneth Rogoff write:
The combination of high and climbing public debts (a rising share of which is held by major central banks) and the protracted process of private deleveraging makes it likely that the ten years from 2008 to 2017 will be aptly described as a decade of debt. As such, the issues we raise in this paper will weigh heavily on the public policy agenda of numerous advanced economies and global financial markets for some time to come.
One key aspect of Reinhart and Rogoff’s work is to show the impact of debt on interest rates. Among other things, they stress that interest rates will rise with levels of debt, and “interest rates can turn far faster than debt levels, so if deleveraging does not occur, debt will be a continuing vulnerability.” They go on to explain that interest rates can stay low for a while even in a time of high debt, for a variety of reasons, but at some point they turn, and when they do, it generally happens fast.
Note how Reinhart and Rogoff talk about interest rates rising with debt climbing, not interest rates rising with countries trying to get their debt under control. They are not talking about rates rising because of a lack of borrowing.