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Reducing the ransom
Like many observers, I have characterized the threat of defaulting on federal government obligations as a form of hostage-taking. The hostage is the US economy, and the ransom is the demands contained in the debt-ceiling bill passed by House Republicans.
The first thing to say about the agreement negotiated by President Biden and House Speaker Kevin McCarthy is that it would save the hostage by allowing the government to pay its bills. Saving the hostage is the main objective of a hostage negotiation. The agreement raises the debt ceiling for two years, avoiding another crisis of this kind until after the 2024 election.
A second objective of a hostage negotiation is to negotiate the ransom down to a more reasonable level. As I described in the previous post, the original ransom the House bill demanded was severe cuts to nondefense discretionary spending. That is the part of the budget that funds most government departments except the Defense Department and supports many programs that lower-income households rely on, such as nutrition programs, Medicaid, grants and loans for higher education, and housing assistance. These cuts are now to be far more modest, a $1 billion-dollar reduction in the first year and a limit of 1% on spending increases in the second year. (Both are cuts in real terms since 1% is less than the rate of inflation). Even these cuts will be mitigated by allowing some funds previously allocated to the IRS to be used for other programs.
The agreement tries to reduce spending on the Supplemental Nutrition Assistance Program (food stamps) by extending work requirements through age 54, instead of the previous limit of 50, but this will not apply to families with dependents. On the other hand, the agreement makes food stamps more readily available to veterans and the homeless. The agreement did not add work requirements to Medicaid, as House Republicans had demanded.
Republicans also tried, but failed to defund President Biden’s clean energy initiative and his proposal for student debt relief. The Supreme Court may rule that the president lacks the authority to forgive student debt anyway.
Who won the negotiation? In a way, all of us did, if winning means preserving the full faith and credit of the United States. In another way, no one did, if winning means implementing anyone’s preferred budget plan. Biden succeeded in blocking most of the House Republicans’ austerity plan, which is a good thing. (Maybe good even for Republicans, since the public might really hate the plan if they actually had to experience its consequences—sort of like banning abortion?) On the other hand, Republicans succeeded in blocking Biden’s tax-and-spend plan, which would have reduced the deficit by raising taxes on the wealthy more than it increased spending. None of this is a surprise, since such a stalemate was predictable once Biden won the presidency and the Republicans retook the House.
With the government on the brink of defaulting on its obligations, Congress will probably have to pass the compromise bill promptly. Resistance is coming mainly from MAGA Republicans who wanted the more severe spending cuts and Progressive Democrats who wanted to preserve or expand spending on domestic programs. At this time, that resistance looks surmountable.
Was it worth it?
Are the deficit reductions expected from this compromise great enough to justify putting the country at risk of default? I don’t think so. But to evaluate the deficit-reduction potential of the compromise, one must ask, “Compared to what?”
Compared to the current budget, the proposal achieves a small reduction in the deficit by cutting nondefense discretionary spending while leaving the present tax structure in place. We should remember, however, that Biden’s proposed budget called for raising tax revenue and reducing the deficit by increasing tax rates on the wealthy. Since the compromise proposal scales back the House Republican spending cuts and includes no tax increases at all, its deficit reductions will almost certainly be less than what the Biden plan would have accomplished. Republican negotiators even rejected any effort to close tax loopholes, and also demanded reductions in the IRS budget for auditing returns and catching tax cheaters.
Even if Republicans had succeeded in extorting the huge cuts in nondefense discretionary spending they originally demanded, their approach to deficit reduction would very likely have failed anyway. Steven Rattner explains why:
When the Tax Cuts and Jobs Act – former President Trump’s signature legislation – was passed in 2017, many of its provisions were slated to expire in order to conform to arcane Congressional budgetary rules. However, House Speaker Kevin McCarthy is on record as saying that he wants to extend those tax cuts. The CBO’s new report quantifies the revenues that would be lost if those tax cuts are made permanent. The revenue loss begins next year and quickly ramps up to as much as $500 billion a year. All told, over the coming decade, extending the expiring provisions of the TCJA would cost the Treasury $3.5 trillion.
If the Republicans were to succeed in making the Trump tax cuts permanent, which they would almost certainly do if they won the 2024 election, those would largely offset the spending cuts they demanded this year. Compared to that scenario, the Biden plan would achieve much greater deficit reduction, even if Biden offset some of his tax increases with more spending.
Two fiscal policy perspectives
To see the current situation in a larger context, consider the fiscal policy perspectives of the two major parties.
For over forty years, when the Republicans have been in power, they have prioritized tax cuts over deficit reduction. Republican administrations have generally run up larger deficits than Democratic administrations, mainly through tax cuts that favor corporations and the wealthy and increases in the defense budget, notably the huge expenditures for the war in Iraq. But when a Democratic president comes in, Republicans voice their alarm about the national debt and call for cuts mainly in nondefense discretionary spending. Sometimes they also propose cuts to Social Security benefits, but they beat a hasty retreat when the public reacts badly.
When Democrats are in power, they tend to prioritize domestic social programs over deficit reduction. When they do address budget deficits, they prefer to combat them by raising taxes on the wealthy than by cutting programs for the needy.
One might think that the two approaches are fiscally equivalent, that cutting spending has the same potential to reduce deficits as raising taxes. However, if the spending in dispute is nondefense discretionary spending, we must face the fact that it is less than one-sixth of the entire budget. To expect nondefense discretionary spending to bear the full burden of reducing spending is not realistic. Cutting the taxes that support the entire budget, and then trying to compensate by making cuts to less than one-sixth of the budget, is a strategy that is doomed to fail.
Any serious deficit reduction plan must consider both tax revenue and the full range of federal spending. It must take a hard look at the defense budget, where big corporate contractors often overcharge the government outrageously on weapons systems and replacement parts. It must look at Social Security and Medicare, where benefit payouts have been rising faster than revenue because of the aging of the population. But an honest public debate is impossible when the entire discussion focuses on one area of spending, with one party playing the role of fiscal disciplinarian and the other the role of protector of the vulnerable.
To make matters worse, the entire discussion of the public debt is somewhat overblown anyway, since chronic deficits at the federal level are more manageable and economically useful than deficits of a household, or of a state or local government that lacks “sovereign monetary authority.” There is a limit to how much debt is responsible, but exactly what that limit is is not as obvious as people think.
Who needs a debt ceiling?
Most Americans probably do not realize that hardly any wealthy democracy besides the United States has a debt ceiling statute. (Denmark is one that does, but the ceiling is set high enough that it poses no real problem.) We put ourselves in an absurd situation when we allow the party that controls one house of Congress to threaten to withhold payment for expenditures the entire Congress and the President have already authorized. That’s like threatening not to pay the heating bill because you think the thermostat has been set too high. First pay the bill, and then debate the temperature!
The fact that the Republican Party is the one more likely to resort to hostage-taking to have its way is not a sign of strength, let alone fiscal responsibility. To me, it seems more a sign of weakness—weak economic arguments and weak support for the democratic process.
Defenders of the debt ceiling may argue that the country needs the threat of default to accept fiscal restraint. If so, it certainly isn’t working, since the United States does not stand out among nations for its exceptional restraint. The debt ceiling is not helping to bring about deficit reduction, encourage honest debate over the budget, or address our most pressing national needs. It serves mainly to allow a minority with a distorted view of the national interest to throw wrenches into the machinery of government.