The Congressional Suicide Bombers

Okay. Republicans are against higher taxes. We get that. And really, I’m much more on their side than the other. But you can’t threaten to wreck the country if you don’t get your way.

At least the Democrats are willing to compromise on spending to make a deal. For the Republicans, again, it’s good to fight for the lowest taxes they can get, I’m with them; but they can’t expect a deal where the Dems do all the giving while the GOP gives nothing.

 To try to get their way without compromise, the Republicans are holding hostage the vote to raise the national debt ceiling. That is, to allow the government to borrow more money to pay its bills – which it obviously must do so long as spending exceeds tax revenue – which of course it does, by a whopping amount. That the Treasury must continually ask Congress for permission to borrow (to pay for Congress’s spending) might seem a crazy system, especially when it allows legislators (like Barack Obama when he was a Senator) to register irresponsible grandstanding votes against it. And to perpetrate the sort of blackmail in which Republicans are now engaging.

They are indeed threatening to wreck the country if they don’t get their way. This isn’t hyperbole. We’re talking about government forced to default on its financial obligations. And the irony, for those who claim to be motivated by concern over future government deficits, is that a default would make that whole problem much much worse.

Here’s why. The U.S. government already owes $14+ trillion. That’s what we’ve borrowed to pay for past spending in excess of tax revenues. Government borrows by selling bonds, which are IOUs, paying interest. Those interest payments are a sizeable chunk of the federal budget, at around $200 billion annually, or 5%.

When a bond matures, the lender gets repaid, and normally the government re-borrows (“rolls over” the debt) by selling new bonds. For some decades past, all this borrowing has actually been a pretty cheap ride, because interest rates have been quite low by historical standards. (In fact, they fell close to zero in the financial crisis, actually reducing the government’s interest expense.) Interest rates are determined by market forces, and U.S. bond rates have been very low because the market has considered such bonds essentially riskless, with repayment virtually certain.

But that could change if, on August 2 or thereabouts, a default occurs. The immediate effects might seem minor, and presumably Washington would scramble fast to fix it. But American politics being shown up as so extremely dysfunctional that this could be allowed to happen at all would shatter financial market confidence. America’s literal credit rating would plummet. And the next time the Treasury needs to roll over some bonds, the interest rate will be higher. And the next, and the next, and the next. Again, today’s $200 billion interest cost reflects interest rates practically at zero. That $200 billion amount could explode. Thus, the government, already in a deep financial hole, will suddenly have dug itself much deeper. And as that realization sinks in, in the financial markets . . .

Of course there would be huge knock-on effects. Interest rates throughout the economy would go up. The dollar’s value would fall, and prices would rise. The dire housing/mortgage situation would worsen. Not good for an economy that was already struggling.

You might suppose the Republicans are merely adopting a very tough negotiating posture. But for many of them, it seems they really mean it when they say they’ll never accept any tax increases whatsoever. For them, it’s more like religion than politics. Thus, as columnist David Brooks says, they are bent on refusing a deal that’s really a huge no-brainer – giving an inch on taxes for a foot on spending. Democrats indeed seem ready to swallow gigantic spending cuts if the Republicans will give them a fig leaf concession on taxes. In fact, it wouldn’t even require an actual tax increase – merely removing some tax breaks for special interests that are really spending in disguise. But even this the Republican absolutists bizarrely refuse. If they’re playing chicken, it seems they’re determined to crash rather than swerve.

Of course, it’s not only Republicans who are at fault. Some Democrats seem to have a “bring it on” mentality too, thinking they can benefit politically by pinning the blame for catastrophe on the Republicans. That too is grossly irresponsible. Both sides have their political equivalent of suicide bombers.

This morning’s news intimates that Speaker Boehner, at least, may be willing to be rational about revenues. A hopeful sign?

4 Responses to “The Congressional Suicide Bombers”

  1. Steve Says:

    The market, interest rates,stocks et al, trade on future consensus expectations, not what has happened. So if it takes defaulting to finally get the polticians to look beyond the next election cycle I believe that is viewed as a good thing. If the markets were worried that a USA default would cause rising rates, the yield on the 10 and 30 year would be more than 3.03% and 4.3%.

    [FSR: Wrong. Up to now, the market has essentially ignored the possibility of default, deeming it an almost inconceivable event. That’s why interest rates remain low. If a default actually happened, it would be a big shock and market perceptions would change materially. A default would most assuredly NOT be seen in financial markets “as a good thing”!]

    The argument that our credit rating would be hurt I think is myopic. There is nowhere else for the credit markets to go. Do they really trust the BRIC countries for a 30 year bond?

    [FSR: irrelevant. The credit rating for US Govt securities is in no way linked to the creditworthiness of other countries, or what investment alternatives there may or may not be. In fact, to the extent that other countries (primarily China) own US govt bonds, THEIR creditworthiness would be adversely affected by a decline in confidence in US bonds.]

    The one thing I admire about the Democrats is they historically have stuck to their positions in negotiating. They just say no to the GOP, so it is either their way or a negotiated way. The GOP has always seemed to negotiate like two rational people. Thus during GOP controlled governemnts you have mildly expanding governemnt and during Democratic controls you have rapidly expanding government.

    If the GOP can stick to their positions, we might have a chance for a radical change in this ever expanding government. History has shown the GOP will give in to concessions and it will be business as usual until the next election cycle.

    [I hope BOTH sides will “give in to concessions” to avoid an avoidable blow-up. But in the longer term, I think the problem is that while the public is very much in favor of reducing spending, deficits, and the size of government, they are very much AGAINST cutting any PROGRAM — except perhaps for foreign aid (which they vastly over-estimate).]

  2. Steve Says:

    Wrong? Interesting that a market that trades nearly a trillion dollars a day “essentially ignored the possibility of default” These must be some pretty sanguine traders just playing financial video games?

    Irrelevant… Very relevant.. Correct, the absolute ratings are not linked, but the markets need to put those $14 trillion (U.S Bond market) somewhere. The money will be put where “the markets” believe they have the best opportunity to be repaid… in real terms (inflation adjusted.) Reducing the monetization of our dollar with fiscal responsibility will make the 4.27% yield more attractive.

    My expectations, if the U.S. does default, rates spike up and then end up lower than before the default if real changes are the result.

    I believe you are correct that the public does not want to give up “their programs.” Law maker’s contempt and willful ignorance of the Constitution has turned the U.S. into a democracy from a republic. Democracies are mob rules, 51% if the people can make laws to take the stuff of 49% of the people. This current admistration is a master of governing in a democracy.

  3. Lee Says:

    To the Republicans, it isn’t spending if it benefits a net payer of taxes; instead it is called a tax cut. To the Democrats, it isn’t spending if it builds infrastructure; instead it is called an investment. Despite the apparently good intentions of each party, these are almost completely incompatible.

    Strangely, huge military outlays, which would fall into the category of (evil) spending by the above Republican definition and would fall into the category of (evil) non-investment by the above Democratic definition, are nonetheless declared essential by the controlling powers of both parties. Despite the otherwise fairly self-consistent approaches of each party, this is almost completely incomprehensible.

    Except … despite the declared motives of each party, as above or according another’s thinking, it’s really all about raising contributions for the next election cycle. The surest way out of this brinkmanship, and the surest way to keep taxes low while properly investing for the future, is some modification to our election system. Whether it is campaign finance reform or something more bold, like proportional representation, I don’t know, but the current system gets us a bigger government with every administration, and too much of our outlays are not a sound investment.

    I guess I am feeling particular pessimistic today, but it really irks me to cut investment (that saves in the long term, or even the medium term) for the sake of cutting spending and it really irks me to raise taxes for the sake of imprudent spending. We could have both low taxes and a decent level of investment if we make a real cut to military spending.

    [FSR: Military spending is way too high, for sure. But by no means is it the whole problem. Medicare, Medicaid, and Social Security are the biggies.]

  4. Lee Says:

    And allowing the G.W. Bush “time-bomb” tax hike to take effect is another big way to bring about balance. But we wouldn’t have to accept the time bomb nor gut the safety net if we were able to exit these wars and reduce our military budget to a typical peace-time level.

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