Stirring Congress to act as one

Business Times - 20 Apr 2011

Stirring Congress to act as one

S&P admonishes Washington but Moody's cautious optimism makes more sense


THE decision by the credit rating agency Standard & Poor's to lower the outlook on the US credit to 'negative' has been sending shockwaves across Wall Street and Washington. While the US has kept its AAA rating, the downgrade by S&P was a sign that the agency believes that there was a 33 per cent chance that it would have to lower its debt rating on US debt in the next two years.

Currently, US government debt is regarded as one of the safest investments. But if S&P decides to change its rating, that could have huge repercussions for the status of the US and its currency in the global economy.

'More than two years after the beginning of the recent crisis, US policymakers have still not agreed on how to reverse recent fiscal deterioration or address longer-term fiscal pressures,' S&P said in a statement.

And admonishing lawmakers and officials in Washington, the agency stressed that the path to addressing the debt and the deficit 'is not clear to us'.

Reflecting current anxiety

On one level, the warning by the credit rating agency may reflect the current anxiety among investors over the legislative game of chicken being played by Republicans and Democrats as the US debt approaches the legally set debt ceiling of US$14.3 trillion.

Some Republican lawmakers have been pressing their Congressional leaders to use the coming vote on the debt ceiling as a leverage to demand large spending cuts. But US Treasury Secretary Timothy Geithner told Congress and the media that the Republicans were expected to vote in favour of raising the national debt limit to avoid a default before the government runs out to money in early June.

The vote over raising the debt limit is the second major battle between Democrats and Republican over how to deal with the mounting US federal deficit. A government shutdown was averted earlier when the two sides agreed on a deal that would result in major spending cuts for the rest of the 2011 fiscal year.

Notwithstanding the willingness by Republicans and the Democrats to reach legislative ceasefires on the 2011 budget and the debt ceiling, investors and analysts in S&P and elsewhere are worried about the outcome of the debate over the long-term deficits that are driven largely by the rising cost of government healthcare and social programmes.

More specifically, the big question is whether the White House and the two major parties will possess the political will to fix these long-term budget deficits by taking steps that run contrary to their ideological beliefs and the interests of their political constituencies. Or to put it in simple terms, will the Democrats support deep cuts in spending on social programmes and will the Republicans agree to raise taxes on the wealthy?

Intense political debate

Not unlike Moody's analysts, many pundits in Washington are not very optimistic about the chances that any grand compromise over the deficits will be achieved any time soon. They note that the ideologues in both parties - conservative Tea-Party types and liberal Big Government spenders - have been dominating the political debate that is bound to get more intense as the US enters a crucial election year, with Republicans accusing President Barack Obama and the Democrats of promoting 'socialism', while the White House and its allies paint the Republicans as the political puppets of the 'fat cats'.

The political rhetoric over the deficit could probably be harsh next year as the Democrats and the Republicans promote their conflicting visions over the nation's fiscal priorities. In fact, Republican leaders and Mr Obama introduced last week rival plans for reducing the government deficit that reflect their respective priorities.

The plan from Republican Representative Paul Ryan suggests that only a major restructuring of the government-financed healthcare programme and other social programmes could bring about a serious reduction in the deficit. Mr Obama's plan is based on the assumption that slashing the deficit could take place while maintaining the foundations of the US welfare state and by raising the tax burden on the wealthy elite.

The two programmes propose between US$4 trillion and US$6 trillion cuts in government spending over the next 10-12 years. As critics point out, both plans are incomplete in the sense that they refrain from what needs to be central to tackling the long-term deficits - a reform of the huge government-backed insurance system aka Social Security. The Democrats will eventually have to move closer to the Republicans on the need to reduce government support for the healthcare programmes and Republicans will have to accept more cuts in defence and recognise that cutting deficits would require raising revenues, that is, increasing taxes.

But the gap between the two sides could start narrowing in the coming months, as pragmatism overrides ideology. In particular, expect leaders of the US business community to exert pressure on the White House and the Republican leadership to move in the direction of a grand compromise that would probably be reached in the first year of the next administration.

A bipartisan agreement on next year's budget is likely to include some of the major components of such a compromise that is now being considered by the members of the so-called 'gang of six', a group of three Republican and three Democratic lawmakers.

Indeed, the take on the budget situation issued by main S&P rival Moody's this week, that the proposals by Mr Obama and Mr Ryan 'together represent a significant shift in the US fiscal debate as both would result in lower deficits and debt levels than projected in the February budget', makes sense.

The US political and legislative process with its so many levels of negotiations and decision making may tend to slow things down and create the impression that nothing can get done. But at the end of the day, when it looks as if everything is falling apart, don't be surprised to discover that actually a lot of things did get done.

Copyright © 2010 Singapore Press Holdings Ltd. All rights reserved.


Well, lets hope the Congress will do the right thing!
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