Amid disturbing signs that the US recovery has stalled, President Barack Obama took a huge gamble in his approach to the debt-ceiling talks last week. Believing he had an understanding with John Boehner, leader of the Republicans in the House of Representatives, he declared he wanted a $4,000bn “grand bargain” on the budget. Barely a day later, Mr Boehner said the deal was off. By Sunday evening, with talks about to resume at the White House, the president’s gambit appeared to have failed.
With Obama raising the stakes in the game of debt-ceiling brinkmanship–going so far, according to some reports, as to threaten to veto a small-scale stop-gap deal–Bruce Bartlett clarifies some important points in a piece about five debt-ceiling myths. I find it hard to believe that the president really would veto a small bargain, by the way. If he did actually say that, he was bluffing.
Bartlett’s link to Garrett Epps on the 14th Amendment is worth following. I wonder what Treasury lawyers are telling the president about the constitutionality of the debt ceiling.
Update: Here’s what Lawrence Tribe is telling him: the debt ceiling can’t be ignored.
The Bipartisan Policy Centre, a Washington think-tank that strives to bring Democrats and Republicans together, just published a report on what might happen if talks to raise the debt ceiling fail. The scenario it describes is grim. Put it this way: the US is contemplating the greatest unforced error in the history of economic policy.
The Bipartisan Policy Centre crunches the debt-ceiling numbers. It finds that the the date on which the Treasury will no longer be able to pay all its bills–the X Date–will be “no earlier than August 2nd and probably no later than August 9th.”
What would happen next? There is no precedent, says the BPC. After looking carefully at the Treasury’s projected daily outflows and inflows, the presentation concludes that federal spending would have to be cut immediately by 44%. With decisions then having to be made on a day-by-day basis, prioritizing spending would be very difficult and “the reality would be chaotic”. The government has nearly $500 billion in debt to roll over during August, at a time when a spike in uncertainty plus threatened or actual debt downgrades would be pushing up interest rates.
“The risks are real,” says the BPC. No kidding.
Update: The Committee for a Responsible Federal Budget has updated its “Realistic Baseline”:
Under its Extended Baseline Scenario, CBO bases its projections on current law, which assumes many things that are unlikely to occur, including the expiration of all the 2001/2003/2010 tax cuts and the discontinuation of the regular policy of enacting “AMT patches” and “doc fixes.”
Under its Alternative Fiscal Scenario, CBO lays out a more fiscally pessimistic path, where policymakers increase discretionary spending this decade at the rate of GDP growth, revenues stop growing as a share of GDP altogether after 2021, and the cost controls enacted under Health Carereform (PPACA) are ineffective or overridden after 2021.
CRFB’s Realistic Baseline uses a set of realistic assumptions that fall between these two scenarios and is consistent with a “current policy” path. Under this baseline, debt would rise from 69 percent of GDP today to 88 percent in 2020, 140 percent in 2035, and 437 percent by 2080.
The US corporate tax code encourages US firms to retain profits abroad. Their taxes are deferred, and only payable when the money comes home. This is a tax-avoidance opportunity and an artificial inducement to firms to invest abroad rather than in the United States. Robert Pozen has a proposal: move to a modified territorial system.
To reform the current system, Congress should exempt from U.S. taxes corporate income earned in foreign countries with an effective corporate tax rate of 20 percent or higher. Such earnings could be repatriated to the U.S., subject to payment of a 5 percent administrative charge. Such a fee, applied in France and other countries, would be a simple way to account for prior deductions from U.S. taxes by American corporations to generate foreign source income — for example, on salaries of U.S. executives who helped start European operations.
At the same time, Congress should end the current deferral system for foreign source income earned by U.S. corporations in countries with effective tax rates under 20 percent. Instead, that income would be taxed every year in the U.S. at a rate equal to the difference between 20 percent and the actual rate paid by the corporation in the tax haven. For example, if an American company generated $100 million of income in Bermuda, which collected $2 million in taxes on that income, the corporation would pay $18 million in U.S. taxes. And if the company repatriated that income to the U.S., it would pay the 5 percent administrative charge.
The plan is not without its difficulties–but Pozen answers the main objections. It is a good idea.
The debt-ceiling talks in Washington have stumbled again. The sticking point, as before, is taxes. Republicans refuse to raise them and Democrats are insisting on it. The drama and the walkouts are part of the show: in all likelihood a deal of some sort will still be struck before the August 2 deadline. Whether it is a good deal for the country is another question.
The Committee for a Responsible Federal Budget has created a useful tool for comparing the various budget-reform plans.
A recent CRFB blog post on the long-term budget outlook also has helpful explanations of the differences between the CBO’s “extended” and “alternative” baselines. I agree with CRFB that the most plausible starting-point probably lies between the two. (The extended baseline isn’t going to happen. The more pessimistic alternative fiscal scenario is probably too pessimistic.) The CRFB’s own “realistic” baseline essentially splits the difference. They intend to update it shortly.
The CBO’s new report on the long-term budget outlook is gloomy reading. Something has to give, is the message. CBO director Douglas Elmendorf summed it up this way in a recent presentation at the NY Fed:
Given the aging of the population and the rising cost of healthcare, the United States cannot achieve all of the following objectives in the future:
- Keep federal revenues at their average share of GDP during the past 40 years.
- Provide the same sorts of benefits for older Americans that we have provided in the past 40 years.
- Operate the rest of the federal government in line with its role in the economy and society during the past 40 years.
The stalling of the US recovery raises big, scary questions. After a recession, this economy usually gets people back to work quickly. Not this time. Progress is so slow, the issue is not so much when America will return to full employment but what “full employment” will mean by the time it does.
In this space I have often criticised the Obama administration for failing to lead on US fiscal policy. Its recent budget, and the revised outline that instantly replaced it, were entirely unserious. Even now, the White House lacks a detailed proposal either for dealing with the immediate political challenge of raising the statutory debt ceiling and thus avoiding default – time for this runs out in a few more weeks – or for addressing the longer-term fiscal problem.