A Raw Political Deal

Compromise on the increasing national debt ceiling will be of no benefit to the U.S.

Many commentators talk of the deal as being a superficial, inconclusive and, in the long run, harmful resolution. It’s not only due to the fact that it was a last minute salvation, but the circumstances under which the compromise between Democrats and Republicans was reached.

Yesterday, the day before the nation’s financial default, the House of Representatives voted to increase the national debt ceiling. Two-hundred and sixty-nine people voted for the agreement. Now there is a final step: today’s vote in the Senate.

Under the proposed plan, reduction of the budget deficit will come in two stages, amounting to $2.1 trillion over a decade. The first stage enacts $917 billion in cuts. The second stage calls for up to $1.5 trillion in additional deficit reduction. The first items of expenses to be reduced are those approved by Congress, primarily cuts on defense and security spending. Cuts could also come from social and health care programs. A debt limit increase of as much as $2.1-2.4 billion will come in three stages.

Meanwhile, critics are very cautious about these decisions and the compromise itself. For example, Paul Krugman of The New York Times writes that the deal will have a lasting negative impact on the U.S. economy. This “is a disaster, and not just for Obama and his party. It will damage an already depressed economy; it will probably make America’s long run deficit problem worse, not better,” said Krugman, Most importantly, he says, it’s basically a raw political deal, concluded somehow at the last moment, and “it will take America a long way down the road to banana-republic status.”

Jonathan Cohn of CBS News said that negotiations on the issue of national debt might have diverted attention from the most important issues Americans face. He said, “This agreement would not address our most pressing economic problem: lack of jobs. On the contrary, by reducing deficits starting next year, this deal would do the very opposite.”

Ezra Klein from the Washington Post said Americans might as well see a tax increase. “Boehner is misleading his members to make them think taxes are impossible under this deal. But make no mistake: the Joint Committee could raise taxes in any number of ways,” he said.

As can be seen, there are a huge number of problems. And experts admit the compromise is not a reason for celebration, but rather a prelude to further problems. As noted by Maxim Lobada, a BCS Express analyst, increasing the national debt ceiling only temporarily pushes aside the main problem: the build-up of sovereign debt. Now the main problem is to cut the budget so that there is no imbalance in an economy that is already hardly breathing. Recent statistics clearly showed that the number one world economy is slowing down and, with a substantial reduction of government spending, could slip down into a recession (government spending was one of the prior methods of stimulating the economy). “I don’t rule out that in order to avoid such a situation, the FRS could go for another round of emission with all the consequences that follow: the fall of the dollar, increase of speculative volatility in the markets, increase in commodity prices, etc. The country is a major consumer of goods and, the U.S. recession will cause a slowdown in the global economy, which will entail a decline in European markets and markets in developing countries,” said the expert.

Anton Safonov, an Investkafe analyst, agreed with this opinion. He believes that the problem will rise again by the end of 2012. In his view, increasing national debt is a routine procedure that has taken place many times before, including during Barack Obama’s presidency. Now, this procedure was just too politicized and it’s not surprising, considering that it’s an election year. The need to increase debt limit doesn’t indicate a crisis; the problem lies much deeper. In fact, the country’s economy is facing a new recession. The need to reduce government spending has long been overdue. While costs are rising from year to year, the U.S. economy can no longer exist without constantly borrowing resources.

It seems that the world will see many more episodes of the American economic Santa Barbara. According to Michael Korolyuk, the head of investment management and analytical support to IFC Solid, the U.S. is in a structural crisis. For the past 30 years the country has consumed more than it has earned, gradually slipping deeper and deeper into debt. Since 1980, the total debt, including household debt and businesses and government debt, has more than doubled. That is $20-30 trillion of “extra” debt, which is about $60-80 thousand per American. Opportunities to move further in this paradigm of development for the country have been exhausted. Therefore, the analyst says, the U.S. has a long and painful restructuring, which will be accompanied by political battles and the ability of elites to achieve balanced trade-offs will be tested again and again.

As for specific details of the compromise, says Michael Korolyuk, both Republican proposals and Democratic suggestions, along with uncertain prospects (details should be clarified further in the course of inter-party negotiations), all have their weaknesses. For example, tax benefits, introduced to last for a decade by G.W. Bush back in 2002, should be discontinued. For the past ten years tax cuts cost the U.S. $3 trillion and, being part of the problem, they should become a part of the solution. On the other hand, welfare programs in the U.S. supported by Democrats are extremely ineffective. The U.S. spending is significantly higher than spending for equivalent programs in Europe, but the quality of services is about the same.