US Politics: Compromising on the Federal Government's Debt

Last Thursday, Vice-President Joe Biden hosted bipartisan talks with Congressional leaders. The discussion sought a way to meet the immediate priority of raising the debt limit, while also addressing the long-term problem of reducing both the annual Federal Government deficit and the overall national debt.

Democrats would prefer a clean --- "stand alone" --- vote on raising the debt limit, but Thursday's talks were the recognition by the Obama Administration that they could not get the clean vote they want, in the current political climate dominated by the Republican call for significant cuts.

A few weeks ago it appeared that Republicans were prepared to use the need for increasing the debt limit to push through some of the controversial measures included in their 2012 Budget Resolution, notably the plan proposed by Rep. Paul Ryan (R-Wisc) to change the Medicare programme for future beneficiaries and/or a Balanced Budget Amendment that would require sharp and immediate reductions in government spending.

These options are not totally off the table, especially with the pressures being exerted within Republican ranks by new members of Congress keen to assuage their Tea Party constituencies, but the overwhelming message that emerged from participants after the Biden talks is the urgent need for compromise before the debt limit vote. It appears that the warnings from Treasury Secretary Geithner that the US faces a potential financial catastrophe if the debt limit is not raised and that this no is time for political posturing --- repeated again by him at the opening of the meeting --- have finally been accepted by the GOP leadership.

Emerging from this initial exploratory meeting, Rep. Eric Cantor (R-Va), the Majority Leader in the House of Representatives, stressed that Republicans will use the ongoing talks over the next few weeks to find "commonality" with Democratic negotiators. He insisted that tax increases are off the table, but acknowledged that now is not the time to push the issue of Medicare reform, a proposal that Democrats have vowed will not pass during this Congress.

Cantor's comments echoed remarks made earlier in the week by Rep. Dave Camp (R-Mich), Chairman of the Ways and Means Committee, who stated that his committee would not even bother to draft legislation authorising consideration of Medicare reform in the face of staunch Democratic opposition. He argued that his committee would only spend time considering proposals that stood a chance of being passed into law: a consideration that has also led Rep. Camp from examining ways to repeal President Obama's health care reforms.

Even Rep. Ryan accepted that his ideas for Medicare changes will not now be part of the Republican price for raising the debt limit. He explained at a budget forum on Thursday that he believes reform of Medicare will now become a central part of the 2012 election campaign --- the first hint of a hint that Ryan may be at least wavering in his commitment not to stand for national office next year.

So, if tax increases and Medicare reforms are the respective red lines where the two parties will not brook any compromise, the question remains where can they find common ground to conclude an agreement on deficit reduction in time to raise the debt limit without spooking the financial markets. Secretary Geithner has extended the absolute deadline for the United States reaching the default point on its debt until 2 August, but the reality remains that the sooner a deal can be signed, the better for America's standing with international lending institutions.

This consideration means that ,along with Medicare reform, other detailed solutions for reducing the deficit will be discarded. The much-awaited Gang of Six legislative suggestions for controlling the debt, if they ever actually appear, are now too late for inclusion in discussions. Senator Kent Conrad's forthcoming budget proposal is also likely to be sidelined.

There are, however, two broad areas where some kind of agreement, based on existing debt reduction plans, could be reached --- when and where existing spending should be cut and mechanisms that could be introduced to limit government spending in the future. Democrats will try and include some proposals that allow for tax increases alongside the GOP's emphasis on cutting spending, but it will be a surprise if they manage to pass these in the light of Republicans temporarily discarding their plans for Medicare reform. Tax rates, like Medicare changes, will become part of the debates in the Presidential race next year, especially as the Bush tax cut extensions are due to expire at the end of 2012.

With entitlements excluded from the discussion, and Republicans insisting that the only reductions in defence spending will come in the form of eliminating inefficient spending suggested by Secretary of Defense Robert Gates, the talks will concentrate on government outlays in the remaining 20% of federal spending.

Rep. Ryan's Path to Prosperity, which outlines the line-by-line items included in the Republican budget, emphasises the areas where their plan to pare back wasteful spending on non-security government agencies builds upon the suggestions of the President's Fiscal Commission. After acknowledging the work of the Commission in this area (which he served on), Rep. Ryan introduces the section on 'Eliminating Wasteful Spending' by noting it:

Builds on the successes of independent watchdogs and draws on good ideas from both sides of the aisle. With this budget, Congress finally incorporates many common-sense proposals for reducing waste that went unheralded for too long.

Two specific examples where the Republican budget adopts proposals in the Fiscal Commission report are the recommendation to reduce the federal auto fleet by 20 percent. With a worldwide inventory of more than 662,000 vehicles, costing $4.6 billion annually, this would save hundreds of millions of dollars a year. Another area highlighted is the government's mismanagement of its real estate holdings. In 2009, federal agencies received only $50 million in sales, with many properties being sold at well below market values, while spending $150 million on the upkeep of assets that were waiting to be sold. Both the Path to Prosperity and The Moment of Truth support "streamlining the process and loosening regulations for the disposal and sale of federal property to eliminate red tape and waste", thereby generating billions of dollars for deficit reduction.

These two plans are based on this year's inaugural Government Accounting Office report, "Opportunities to Reduce Potential Duplication in Government Programs, Save Tax Dollars, and Enhance Revenues". Rep. Ryan claims that "GAO identified dozens of examples of waste and over $100 billion in savings".

This makes for good reading, but the report is actually much more circumspect on the ability to make significant savings by reforming the provision of government services. Might, may, and could are the words that dominate the GAO's report.

The Biden talks will undoubtedly look to this report as the basis for cutting discretionary spending programs, but with the uncertainty that surrounds the chances of streamlining government bureaucracies, the long-term consequences of the negotiations for deficit reduction may well come from the second area where participants could find room for compromise.

In his April speech outlining the deficit reduction problem, and which set up the current discussions as part of the solution, President Obama proposed a Debt Failsafe Trigger. Under this suggestion, automatic tax increases or spending cuts would be "triggered" when government did not hit predetermined levels for reducing the debt as part of GDP. Republicans are almost halfway to meeting the President. They would also look to enforce reducing the debt by a budget mechanism, but through a hard spending cap with no room for increasing taxes.

Last Wednesday, the Senate Finance Committee held a hearing on the various ways to trigger budget enforcement mechanisms. Sen. Max Baucus (D-Mont) chairs this committee --- he is also on the Democratic team at the Biden talk --- and, in a statement released after the Finance Committee meeting, he argued, Tthese trigger proposals have the potential to bring Members from both sides of the aisle together and ensure action to reduce our debt."

Sen. Baucus made it clear that he supports the flexibility of the President's recommendation because "it provides more tools to meet our significant fiscal challenges. It would allow us to use both revenues and spending to decrease the deficit." And in a shot across the bows of Republicans insisting on no tax increases under any circumstances, he reminds them how the conservative icon Ronald Reagan set the precedent for this type of trigger. His 1984 budget included a "contingency tax" of 1% surcharges on the taxes of both individuals and corporations if economic conditions reached certain levels.

The hearings also considered other variants of the trigger mechanism, including one from Senators Corker and McCaskill that would cap spending at 20.6% of GDP within ten years. This level of spending is well beyond the 19% of GDP that Rep. Ryan has marked as the Republican target for a spending cap, but it gives both sides the opportunity to reach a compromise and get the debt level raised.

If there is one story emerging from last week's media reports and statements by politicians, it is that Republicans, or the party leadership at least, are coming to accept the Administration's arguments that playing with raising the debt limit could have disastrous consequences. Their desire to seek a quick compromise may have been prompted by the Standard and Poor Rating Agency's decision to put the United States' bond rating at a one in three chance of being downgraded within the next two years.

This new mainstream Republican emphasis on finding common ground might even be the result of reading some history. In "Path to Prosperity", Rep. Ryan quotes financial historian Niall Ferguson's warning in an essay for Foreign Affairs, "Most imperial falls are associated with fiscal crises. All the...cases were marked by sharp imbalances between revenues and expenditures, as well as difficulties with financing public debt. Alarm bells should be ringing loudly...(for)the United States."

One of the arguments that Ferguson makes in his piece, published last year, is that the decline of empires is not the result of a series of events over time but is instead usually a crisis triggered by a seemingly inconsequential setback. In a concluding section on the relevance of this thesis for the immediate future of the US, he contends:

These numbers are bad, but in the realm of political entities, the role of perception is just as crucial, if not more so. In imperial crises, it is not the material underpinnings of power that really matter but expectations about future power. The fiscal numbers cited above cannot erode U.S. strength on their own, but they can work to weaken a long-assumed faith in the United States' ability to weather any crisis. For now, the world still expects the United States to muddle through, eventually confronting its problems when, as Churchill famously said, all the alternatives have been exhausted. Through this lens, past alarms about the deficit seem overblown, and 2080 --- when the U.S. debt may reach staggering proportions –-- seems a long way off, leaving plenty of time to plug the fiscal hole. But one day, a seemingly random piece of bad news –-- perhaps a negative report by a rating agency --- will make the headlines during an otherwise quiet news cycle. Suddenly, it will be not just a few policy wonks who worry about the sustainability of U.S. fiscal policy but also the public at large, not to mention investors abroad. It is this shift that is crucial: a complex adaptive system is in big trouble when its component parts lose faith in its viability.

Well, the negative report by a rating agency has now happened. It remains to be seen whether the Biden talks are enough to reassure stakeholders about the sustainability of US fiscal policy, but it appears that Republicans, accepting the seriousness of the coming debt limit vote, have accepted the need for compromise.