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Adam Posen: America’s folly

Disruptions are likely to recur until the composition of Congress changes

by Adam Posen / November 14, 2013 / Leave a comment
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Follies with Consequences: The US Debt Default Dance

Self-inflicted wounds get you coming and going, especially when suffered in public.  The fiscal follies last month of the US Congress over the federal government debt ceiling and budget sequester are more than simply embarrassing.  They have damaged the US economic recovery, and they have done lasting damage to US financial stability and negotiating power.  And the whole breakdown was completely avoidable in economic terms, which if anything increases the reputational damage.

There is no known other example of a solvent democracy flirting with default through sheer political stubbornness.  While many democracies with fragmented party systems spend themselves into crashes – think of Italy in the 1970s or Argentina repeatedly – the crashes only came when they had run out of credit.  On the fundamentals, the US government is perfectly capable of rolling over its debt at historically low interest rates, and the dollar remains strong.  As many of us forecast, the federal deficit is shrinking rapidly on the basis of even the anemic economic recovery.  So the debt to GDP ratio of the US is on a downwards trajectory.

Yet, a group of radical right-wing Republican members of the House of Representatives threatened to have the US technically default on its debt, and the Republican Congressional Leadership lost all party discipline.  Worse, this totally voluntary disruption of the US economy and world markets is likely to recur at intervals until the composition of the House changes – unlikely in the midterm elections of 2014, more probably in the Presidential election year of 2016, but possibly likely to persist until the next census and redistricting is completed in 2022.  The dysfunctionality of US fiscal policy has become on ongoing reality.

The direct costs of these follies are already substantial.  The sequester of Federal spending due to inability to agree from earlier this summer took 0.75% off of a forecast 2.75% real GDP growth in 2013.  The government shutdown of October cost another 0.3%.  And the arbitrary manner of the cuts hit government functions in as backwards a fashion as possible, cutting public investment and high-impact services for the poor, maximizing their immediate damage.

The ongoing uncertainty about US fiscal decision-making, and the recurrent risk of a repeat, is now dragging down American corporate investment.  Companies were already sitting on unprecedented amounts of cash,…

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About this author

Adam Posen
Adam Posen is President of the Peterson Institute for International Economics and is a former member of the Bank of England’s Monetary Policy Committee
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