Congress needs to face up to the fiscal future
Bipartisanship has broken out in Washington. Congressional Democrats and Republicans agreed a two-year budget deal with president Donald Trump last week, which would raise spending and lift the debt ceiling, a law that limits the ability of the federal government to borrow. Yet those hoping for cross-party co-operation to address American’s long-term problems will be disappointed: the deal pushes the difficult choices over tax and spending on to the next generation of Americans.
Both sides believe that fiscal responsibility is outdated. Thanks to Mr Trump’s tax cuts the US federal budget deficit is already running at around 4 per cent of national income. The Committee for a Responsible Federal Budget, a think-tank, estimates the latest deal will add a further $1.7tn to the national debt over the next 10 years, roughly the same as the 2017 tax cuts.
Last week’s deal will overturn Obama-era spending caps that led to sharp cuts in funding for domestic programmes, which stymied the recovery from the 2008 financial crisis. The new agreement, however, risks the opposite mistake — failing to repair the public finances when the current, relatively healthy, state of the economy would allow for a retrenchment. At this point in the economic cycle, given a low rate of unemployment, the federal budget deficit would usually be much smaller.
Yet the deal should be partially welcomed. The debt ceiling is a self-destructive tool. Instead of promoting fiscal responsibility it leads to pointless brinkmanship. Not only does this risk creating a disaster if the US government accidentally defaults on its vast stock of debt, financial markets do not need the uncertainty a stand-off could bring. Removing this threat, at least until 2021, is welcome but a more long-term solution needs to be found for America’s fiscal health.
The US benefits from both its status as a global reserve currency and the current appetite from investors for Treasuries, regarded as an extraordinarily safe investment and attractive compared to the negative interest rates on offer from government bonds elsewhere. But the national debt is ratcheting higher. Fitch, the rating agency, estimates that the latest budget deal could mean that US government debt would reach 120 per cent of national income by 2028.
Republicans may be fiscal conservatives in opposition, but in government they now firmly agree with former vice-president Dick Cheney, who once said “Reagan proved that deficits don’t matter”. This is wrong-headed and complacent. High debt levels restrict the ability of the federal government to respond to future downturns and leave it exposed to a shift in investor sentiment away from government bonds.
Nor does the spending — a mix of increases in the military budget and domestic discretional congressional programmes — look likely to address America’s long-term needs. President Donald Trump came into office promising a programme of infrastructure investment that is yet to materialise.
His stimulative fiscal policy runs counter to another of his stated goals: closing the trade deficit. Juicing the economy, whether through tax cuts for the wealthy or the new spending deal, has helped fuel demand for imports, leading to a wider trade deficit. Mr Trump complains about other countries manipulating their currencies to weaken them, but the fiscal boost helps keep the dollar strong.
Mr Trump may be unlikely to experience the long-term consequences of running this unsustainable deficit — it may even help his chances of re-election. As a country, however, the US should not expect to get off as lightly.