The Corner

Debt-Ceiling Dance

 

It was always too much too hope that President Obama and congressional Republicans could agree on tax reform, Social Security reform, Medicare reform, and Medicaid reform on the accelerated timetable that the debt ceiling vote requires. So it is hardly surprising that talk of a “big deal” was just that — talk. Now the negotiators are back to the nuts and bolts of a real deal, and let us hope that they get to an agreement quickly.

On the merits, the outline of the real deal is straightforward. The research indicates that economies that have a dual growth and debt problem should focus on keeping taxes low, and reforming them. Keeping them low is the best possible outcome at present; tax reform remains a 2013 issues. In addition, troubled economies should cut spending, particularly transfer programs and government employment. So spending cuts have to be the focus of the talks.

Vice President Biden has said numerous times that the negotiators had arrived at $2 trillion in acceptable spending cuts. That is a good number — largely for political reasons I return to below — but the real test of an agreement is not the size of the cuts, but rather their quality. A good deal will have actual cuts in fiscal 2012 discretionary spending, strong enforcement of medium-term caps on discretionary spending, and real changes to the entitlement programs that lie at the heart of the debt explosion.

There are two typical dissents to this kind of deal. The first is that it is not “fair” in that it does not raise taxes. I find this mystifying. Suppose that one reforms Medicare so that it is able to continue to pay benefits as opposed to the current situation where it will implode. Somehow this is supposed to be deficit reduction on the backs of poor seniors. If anything it is neutral — future seniors do not receive dollars that they currently will never receive because Medicare is broken. If the cuts are focused on higher-earning seniors, this is actually a progressive change. I listen with only bemusement to the cries for a “fair” and “balanced” deal from the progressive left.

The second dissent is usually over the growth implications of spending cuts. Keynesian effects are real. But the size of the actual near-term reduction in purchases of goods and services is likely to be small (remember, they were only $8 billion in the House-passed continuing resolution that totaled $100 billion). I remain skeptical that even a strong agreement will have big near-term impacts. And, the impact of eliminating the financial disruption that would accompany unalloyed debt increases will likely be the dominant — and beneficial — impact.

Which brings us to the possibility that the deal will contain “stimulus” elements. One would hope that the slow-acting and tired infrastructure bank will be quickly set aside. It is also easy to imagine that they payroll tax holiday will be extended and perhaps even broadened. That would be helpful, but probably not a strong impact.  

If anything is done on this front, it should be a reduced tax on repatriation. The ideal tax is a permanent and zero tax — a territorial tax system — so a temporary tax is a step toward tax reform. And the possibility of up to $1 trillion in private sector funds flowing into the U.S. dominates anything that the government could accomplish.

But will politics permit any of this? I think the answer is yes. President Obama needs a debt ceiling increase soon — to avoid a market disruption — and large enough to get past the election — to avoid constant reminders of his dismal budgetary record. That suggests a $2 trillion (or more) increase that Republicans would be willing to accommodate with associated spending cuts. That’s the nexus of the likely deal. But why should Congressional Democrats go along? Without a strong Obama at the top of their ticket they are in serious trouble, so they need such a deal as much as anyone. So, grudgingly, count them in.

So, the dance continues. But soon it must end with a focus on spending cuts.  Now that the distraction of the “big deal” is past, the time has come to nail down the final deal.

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