2011 July 31 Sunday
David Friedman On Debt Ceiling Political Economics

What are Obama and the Republicans really fighting about over the debt crisis? David Friedman suggests that Obama wants a higher debt limit thru the 2012 election in order to buy votes and Republicans want to cut his debt-based spending to undermine his ability to do the same.

The other and more interesting game, now that the administration has dropped its demand for tax increases, is about whether or not to raise the limit by enough to get past the next election. From Obama's standpoint, the answer is, I think, obvious. Having the option of deficit spending is almost always a benefit for those currently in power, since it lets them buy votes without obvious cost. Concern with the size of the national debt may have changed that, at least for a while, but I think more likely not. Hence Obama would like to be able to spend as much money as he wants through the election while satisfying demands for fiscal responsibility via cuts, possibly imaginary, in future expenditures.

My take on the debt limit brinkmanship in Washington DC: It is serving a constructive purpose. While each side is playing for partisan advantage we are lucky that a crisis is being created around the debt limit rise because otherwise the total US debt would keep going up to a point where the financial markets would create a very real crisis. Better the political theater in Washington DC than to have the fate that has befallen Greece, Italy, Spain, Ireland, and other Euro countries whose sovereign debt has reached levels which have caused the markets to lose faith in their ability to repay their debt. As the markets turn on each country it gets hit with interest rates so high that some form of default on sovereign debt becomes unavoidable.

Voters do not have sufficient incentive to understand government finance, taxes, the economy, and entitlements costs. We can't expect much from politicians elected by the general populace. What is going on in Washington DC in the battle between Barack Obama's Administration, John Boehner, the Tea Party, Harry Reid, and other players about the best we should expect given who votes and the interests that fund election campaigns.

Rather than take a dim view of dysfunctional and irresponsible national politicians e I look at the current manufactured debt limit crisis and am pleasantly surprised. That the politicians are wrestling with US government deficits even to the extent that they are is more than I hoped for. Are various figures lying? Hypocritical? Irrational? Manipulative? Even if true, so what. My expectation bar is so low I feel fortunate that the Repubs are even willing to try to take on entitlements spending or to risk government shutdown. Last time they did that under Clinton they got the blame. Whether their latest moves represent courage or calculation that conditions are more favorable to them at least they are trying to cut spending.

Friedman suggests best to raise the debt limit by an amount that will get thru the election only if Obama tries to cut back on spending.

Raise the limit by an amount that will require further action before the election unless Obama manages to substantially reduce federal expenditure, but which can be pushed past the election if he does. It will then be in Obama's self-interest to find ways of cutting federal spending, which is a better guarantee than any legislative promises that Congress can pass today and break tomorrow.

Of course, it is also an incentive to find ways of increasing tax revenue—but until the election, the Republican House is in a position to deal with that problem.

The voters don't want to choose between lower services and higher taxes. Voter preferences run toward more entitlements, higher services, and lower taxes. In an era with low economic growth, an aging population, and rising health care costs they are going to have to settle for fewer entitlements and eventually higher taxes as well. Political crises over debt limits will force these trade-offs sooner than would be the case if we waited for markets to drive up interest rates or force the Federal Reserve to inflate away the debt.

Share |      By Randall Parker at 2011 July 31 01:06 PM  Economics Political

bbartlog said at July 31, 2011 4:26 PM:

Were the Republicans actually trying to cut spending? I couldn't tell whether their final proposal ($3 trillion in cuts... from a baseline of ten years of annual increases in spending!) represented actual total reductions or just less spending than the Dems wanted. Given that Ron Paul wanted to freeze spending at 2010 levels and that his idea was obviously not under consideration, I'm thinking that this may *still* represent increases in spending in the years to come. Anyway, given the size of the deficit, even real spending reduction of about $300 billion per year would be insufficient. I'm wondering why they (the Dems at least) don't try to tax corporations harder (closing loopholes regarding the offshoring of profits, for example). The share of the tax burden borne by corporations has fallen dramatically over forty years while that of individual taxpayers has increased.

Randall Parker said at July 31, 2011 6:20 PM:

bbartlog, Any cuts passed this year will just be the beginning. Bigger cuts will come as poor (or non-existent) economic growth means the tax revenue increases the politicians expect fail to materialize. Rapid economic growth, if it were possible, would go far to cut the deficits. But rapid economic growth is not in the cards. So we will see cuts and cuts and more cuts.

bbartlog said at August 1, 2011 1:51 PM:

Uh, the lack of revenue hasn't forced them to cut anything so far? Why should tomorrow be different? I mean, OK, they put some teeny cuts in this deal, and agreed in principle to more cuts at some point in the future, but they seem blissfully unbound by revenue constraints so far. They're going to kill the dollar good and hard.

Check it Out said at August 1, 2011 4:54 PM:

In the end the "cure" (increasing the debt ceiling) is in reality, just more of the same disease: UNPAYABLE DEBT.

It's just like having to dive into a small circus pool from a very high diving board; and what do we choose? To ontinue climbing the ladder to a higher diving board still!

This is madness, pure madness.

Randall Parker said at August 2, 2011 7:28 PM:


The forces for spending are incredibly powerful. But they've begun to hit up against some resistance. I expect the US military to take bigger hits in portion to its budget than the social welfare programs. But while I expect the Democrats to achieve some success in raising taxes I do not expect the Dems will manage to close even half the deficit via taxes. They'll have to raise taxes on too large a fraction of the population to do that.

As living standards fall due to poor performance of the economy the resistance to tax increases will intensify.

The latest budget deal does have some spending cuts, especially on the military and assorted non-entitlements programs. But so far the entitlements have escaped cuts. The entitlements can't escape cuts forever. Though it might take a few years before they get cut.

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