- The Washington Times - Wednesday, December 29, 2010

When President Clinton and House Speaker Newt Gingrich were running the country back in the 1990s, “divided government” came to be equated with fiscal discipline and balanced budgets. Some pundits fantasized that a government similarly split between President Obama and a resurgent GOP might bring more of the same. Our limited experience with divided government in 2010, however, has not been encouraging. The latest tax deal emerging from Washington will extend the George W. Bush-era tax cuts, spend more on unemployment benefits and ensure higher-than-forecast budget deficits.

Moody’s took a dim view of the compromise, warning earlier this month that its cost would run between $700 billion and $900 billion over the next two years. The credit-rating agency also said that the plan, if enacted, would increase the likelihood that “a negative outlook” would be conferred upon the United States’ AAA bond rating. A negative outlook signals a heightened risk of a rating cut in the following 12 to 18 months. Investors apparently shared the Moody’s appraisal: Treasury prices fell sharply, and yields hit a six-month high.

Most elected officials seem oblivious to the impact of their political pandering upon the financial community, as if bond buyers belonged to some alternate universe. But in the real world, a debt-addled government cannot function if investors are unwilling to buy U.S. Treasury securities. And because their investment horizons extend to the full 10-to-20-year life of the bonds, not just the next election, investors arguably pay closer attention to the soundness of government finances than lawmakers do.

Fortunately for the American people, the Congressional Budget Office (CBO) pays attention to the long-term implications of fiscal policy. In a briefing paper published just before the vote on the tax-and-unemployment bill, CBO calculated the cost of continued budgetary inaction. Projecting the trend lines for Medicare, Medicaid, Social Security, the Children’s Health Insurance Program and Obamacare subsidies to health insurance exchanges, the CBO warned that the debt-to-gross-domestic-product (GDP) ratio (the national debt expressed as a percentage of the GDP) could exceed its previous World War II peak by 2025 … and continue climbing thereafter. If only Congress would listen to its own experts.

While acknowledging the short-term benefits of fiscal stimulus, the CBO warned of baleful effects in future years. Higher debt will suck up U.S. savings better devoted to productive capital, thus resulting in lower wages, less economic output and lower tax revenues than otherwise would be the case. Higher debt also will limit the ability of policymakers to respond to future wars, recessions and crises. Finally, the CBO cautioned, higher debt will increase the likelihood of a fiscal calamity in which investors lose confidence in the government’s ability to pay them back. “The government,” understates the report, “would thereby lose its ability to borrow at affordable interest rates.” (That’s putting it mildly. Government could lose its ability to borrow from public financial markets at any interest rate.)



The longer the U.S. delays making the necessary budgetary adjustments, the worse the crunch will be when it comes. Specifically, CBO analyzed the cost of stabilizing the debt-to-GDP ratio in 2025 as opposed to 2015, a wait of 10 years. (Stabilizing the ratio doesn’t mean balancing the budget; it just means slowing the growth in debt to a point where it’s expanding no faster than the economy.)

Budget stabilization in 2015 would require first-year cuts in spending equivalent to a bit more than 12 percent of the budget (excluding payments on interest) or a tax increase equivalent to 2 percent of the GDP, plus future limits on spending.

To stabilize the debt 10 years later would require cuts of roughly 25 percent of all non-interest spending or tax increases equal to 5 1/2 percent of the economy. As a point of comparison, federal taxes as a percentage of the economy have fluctuated in a narrow band between 15 percent and 20 percent since 1950. Ten years’ wait will double the trouble.

As discouraging as those numbers are, the CBO scenarios do not include the extra $858 billion that the latest tax-and-unemployment-benefits boondoggle will heap onto the national debt.

Under the guise of boosting the economy and salving peoples’ pain today, Mr. Obama and Congress are ensuring greater agonies 10 years down the road. One day, the American people will look back upon the political leaders of our age as criminally negligent for their unrelenting pursuit of shortsighted political gain and, despite warnings from every quarter, their embrace of policies leading ineluctably to fiscal and economic tragedy.

James A. Bacon is author of the forthcoming book “Boomergeddon” (Oaklea Press, 2010) and publisher of the blog by the same name.

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