Once again our nation is caught up in a to-do about the “debt ceiling” and what might happen in the event of a “government shutdown.”
The first is a gimmick, originally enacted as a symbolic gesture in 1917 congressional maneuvers to facilitate borrowing to fund U.S. participation in World War I. Since then it episodically serves as a prop for political street theater, as we’re seeing this month. I don’t know of a single respected economist who thinks it serves a useful purpose, but it never gets abolished
The idea that a failure of our federal legislative process would result in a “shutdown” of government, including an inability to make contractual or statutorily-guaranteed payments, similarly is bizarre to economists. We operate in a mental world of rational human decision-making — that rational elected representatives, faithful to their oaths, would ever be so irresponsible as to end up in this situation boggles all their minds.
Yet here we are.
Most of us economists, I suppose, operate in the same mind-set of denial as the general population: “Oh well, they’ll find gimmicky ways to pull back before real damage is done. After all, that’s what’s always happened before.” That probably is true, as, again, has happened this past week. But this also is the mindset of people who stand on the edges of cliffs to take a dramatic selfie. Only a few ever fall to their mangled deaths. We’re safe — until tragically we’re not.
Politically, both the debt ceiling and government-shutdown threats are bargaining tools, so game-theoretical economists probably can model optimal strategies. These would vary by whichever side occupied the White House and had majorities in each house of Congress. To the extent that there are factions within major parties multiplies the number of players and the number of possible strategies. It also multiplies the ways in which we might slip backwards into the abyss just as we click the shutter.
A shutdown does have potential grave consequences and the ceiling is just a legislative quirk on the path to one.
The basis of the whole situation goes back to requirements in the U.S. Constitution that any outlays of public funds must first be for a use that is “authorized” by enacted legislation. Then specific amounts must be “appropriated” in separate bills.
The first does not always result in the second. North Dakota’s Garrison Diversion irrigation project is a regional example of something that was authorized but for which few funds were ever appropriated. There are many cases where construction of large numbers of ships or airplanes was authorized, but appropriations to build them never happened because circumstances of war changed.
For more than a century, the two legislative functions remained distinct for all spending purposes. However, when Franklin Roosevelt’s New Deal proposed Social Security, the legislation that authorized it also included on-going appropriations for whatever amount of money is needed to fulfill statutory benefits due to recipients. The same eventually was true for Medicare, the federal portion of unemployment compensation, SNAP or food stamp foods and Supplemental Security Income. These programs and others thus became “mandatory” spending and are categorized as “entitlements” since law says they must be provided.
Note that this is not true for all aid to the poor. The narrower Women, Infants and Children food program is not an entitlement. Spending on it depends on amounts appropriated and benefits eligibility can be reduced. Ditto for Section 8 rent subsidies.
Also understand that there are contractual commitments to defense contractors or companies building floodways or levees. General Dynamics may sign a multi-year contract to build an aircraft carrier or submarine, but appropriations are made year by year. Yet the Treasury owes the company money for work done and an indemnity if the program is canceled. As a smaller scale, farmers sign up in advance to participate in sundry crop subsidy programs or in multi-year Conservation Reserve contracts that depend on annual appropriations to fulfill the government’s side of the deal.
Finally, and most importantly, there is an ongoing need to pay interest and principal when due on U.S. Treasury “bonds, notes and bills.” These are backed by “the full faith and credit of the United States,” and serve as a worldwide standard for risk-free investments. Even the British defaulted for a time on their WWI borrowings in the interwar years. Nothing is thought as safe as a U.S. Treasury. That is reflected in the very low interest rates at which we borrow.
It is this “full faith and credit of the United States” that is what Treasury Secretary Janet Yellen says is at risk if a daring selfie by Congress becomes a disastrous fall.
So what happens when a politically stalemated Congress actually does fail to raise the debt ceiling or appropriate enough money to pay all the existing bills that the country owes?
Initially, government workers can be sent home but given back-pay later. Contractors can wait weeks for payment as can farmers. Social Security and SSI recipients would howl at late deposits as would military and civilian government retirees, but eventually all could get their money. It is not clear whom any political flak would hit.
But it’s financial markets that are the wild card, and here lies the real-world impact. The rest of the world is witnessing an ongoing political train wreck, something unprecedented in our history. Global confidence in the stability of American democracy is at a historic low. The adage that economic dysfunction always is rooted in political dysfunction is widely understood in markets even if seldom articulated.
Moreover, after two decades of artificially low interest rates, first in the aftermath of 9/11 and then in the aftermath of the collateralized debt debacle, many sense that markets already are in the last days of an extended and extensive bubble. Stock and real estate prices are high because of low interest rates that cannot continue forever.
A flame that is part of a rock-concert set may be an entirely-safe, carefully operated prop, but if someone in the back of the arena screams “fire” in a panicked-enough voice, a deadly stampede may occur. There never has been a financial market panic in a major, modern industrialized economy that did not result in an economic/recession, often harsh. There is no reason why anything might be different here and now.
St. Paul economist and writer Edward Lotterman can be reached at stpaul@edlotterman.com.
Real World Economics: Dancing on the edge of a cliff - TwinCities.com-Pioneer Press
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