By this time next month, the long-running battle over raising our nation’s debt ceiling will have come to a resolution, one way or another. Either the U.S. will be forced to default (or not? see below) or an agreement will have been reached to raise the ceiling in return for a cut in the projected size of the deficit. Possible outcomes range from a catastrophic global financial melt-down at one end of the scale to a mere collapse into the 2nd dip of the recession at the other end of the scale. There are no possible good outcomes here. This is going to end badly.
Those who have bought into the notion that cutting our deficit, especially by cutting government spending, will somehow stimulate the economy couldn’t be more wrong. Cutting the deficit, regardless of whether it’s done by cutting spending, increasing revenue or some combination of the two, will take money out of the economy. Collecting revenue takes money out of the economy as Republicans correctly point out. Government spending puts money back in, as Democrats correctly claim. Taking more out in the form of revenues or putting less back by cutting spending leaves the economy with less than it started. While that helps the nation’s balance sheet in the long run, leaving the next generations better off, it’s bad for the economy in the short run.
So the only possible outcomes here are either a U.S. default on its interest obligations on its bonds, which could conceivably render all U.S. bonds instantly worthless, wiping out banks and investors across the globe, or a recession-triggering pulling of the rug from under the feet of the U.S. economy, an economy barely kept above water by trillions in deficit spending by the federal government and quantitative easing by the Federal Reserve – all of which has come to an end. No wonder the two sides are battling so bitterly. Both know the outcome will be bad. Each wants the other to take the blame.
And that’s not the half of it. Even if a deal is reached, the deficit is cut and the debt ceiling is raised, the only thing that will have been accomplished is that the “can” will have been kicked a bit further down the road. It’s not as though we’ll be cutting the deficit; we’ll only be cutting the projected growth in the deficit. The deficit, projected to grow by another $15 trillion or so in the next ten years, will instead grow by only $10 or 11 trillion, a situation that will leave us in far worse shape than now. What are the odds that it’ll be dealt with then?
I’m not arguing that the problem shouldn’t be addressed or that no good outcome is possible regardless of what our lawmakers do. The problem is that nowhere in these talks is the real problem that drives the deficit spending being addressed, and that is the trade deficit. As I said earlier, anything that takes money out of the economy, which includes taxes, cuts in deficit spending – even personal savings, is a drag on the economy. And our trade deficit currently drains over $500 billion per year from the economy. If that draw-down from the economy isn’t made up by deficit spending, then economic recession is absolutely unavoidable. Furthermore, without any deficit spending, then the U.S. will not be issuing any more bonds, leaving foreign countries with trade surpluses with the U.S. no way to plow those dollars back into the American economy, throwing a big monkey wrench into the gears of the global economy. Ultimately, that might be a good thing, forcing a rebalancing of the global economy and global trade.
So, without a comprehensive approach to fixing our economy that includes restoring a balance of trade (and perhaps even addressing our goofy immigration policy, but that’s a different topic), merely cutting the deficit and raising the debt ceiling is just another round in a game of economic whack-a-mole, a futile effort to deal with economic side-effects that pop up faster than Congress can swing its little economic mallet.
Greece is a good example of what we’re facing. Like the U.S., Greece has a large trade deficit – about the same as the U.S. in per capita terms. Like the U.S., Greece is heavily dependent on imported oil. And like the U.S., its debt exceeds its GDP and has been growing rapidly. The austerity measures imposed upon Greece by its creditors have resulted in violent civil unrest in that nation in recent weeks. And the Euro zone has warned Greece that it faces loss of its sovereignty and the prospect of much higher unemployment as these austerity measures take hold. (See http://www.reuters.com/article/2011/07/03/us-eurogroup-greece-idUSTRE76219J20110703.) The U.S. will face the exact same things if we implement drastic deficit reduction programs without addressing our trade deficit.
Things are coming to a head soon and, regardless of how it turns out, it won’t be good.
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Regarding the whole issue of default, there is a little-known sentence in the 14th amendment that seems to forbid the U.S. from failing to pay its obligations. That sentence reads, “The validity of the public debt of the United States … shall not be questioned.” The Obama administration is considering whether, in the event that the debt ceiling isn’t raised, it can invoke this statement and ignore the debt ceiling and continue paying the government’s bills. Imagine the ramifications. Without the limitation of the debt ceiling, there will be no rein on government spending. It would be interesting to see just how fast an amendment to balance the budget, already being suggested by Republicans, would be introduced. But, again, bear in mind that balancing the budget without balancing trade is a virtual (if not physical) impossibility. At least such an amendment would pretty quickly force a re-evaluation of trade policy.