Sunday Times (London)
November 11, 2012
by Irwin Stelzer
The television ads have gone from attacks on candidates to the usual pitches for medications that will enable us to live for ever.
Political post-mortems are under way. And the 2016 presidential wannabes are lining up the financing and staff for their runs at the Democratic and Republican nominations.
The election has come and gone and little has changed. The Obamas do not have to move back to Chicago, the Democrats still control the Senate, the Republicans still control the House of Representatives, and two fiscal "events" still loom.
Before the year-end, America will hit the debt ceiling, which prevents it from borrowing money to meet its obligations — the ugly word for that is "default". Then, as we ring out the old and ring in the new, we will fall over the "fiscal cliff".
Avoiding both events will require compromises, which are not politicians' forte. Don't be fooled by President Obama's victory speech, in which he called for a bipartisan coming-together. It was almost verbatim the speech he made in 2008, before passing Obamacare without a single Republican vote and pushing through a stimulus package on almost the same partisan basis.
The country finds itself with a presidential believer in big government confronting an opposition that just as passionately believes in reducing the role of government.
The last battle over the debt ceiling resulted in the loss of our AAA bond rating. As that had no effect on the interest rate paid by the Treasury on bonds, both parties are emboldened to dig in their heels even at the risk of another downgrade.
The Republicans say they will agree to raise the ceiling only if the Democrats agree to equal cuts in spending. My guess is that this will be solved by accounting fudges of the sort that would result in long prison sentences if indulged in by businesses and their auditors.
The fiscal cliff poses a less easily solved problem. Unless some compromise is reached, tax increases and spending cuts will combine to slice 4.3% from GDP — a cut of Grecian magnitude. The Congressional Budget Office reckons that will cause the economy to shrink by 1.3% in the first half of 2013, before recovering sufficiently in the second half to produce full-year growth of 0.5%.
The most reliable Washington sources tell me that there will be a deal: Republicans will give in to a few Democratic demands to raise taxes, perhaps for those earning more than $1m (£620,000) a year, and then both parties will "kick the can down the road", giving them time to agree to some "grand bargain" to reduce the deficit.
John Boehner, the Republican Speaker of the House, has said he will agree to "revenue enhancements" if Democrats agree to spending cuts, particularly on entitlement programmes that, in their present form, would bankrupt Medicare.
"Revenue enhancements" differ importantly from rises in marginal tax rates, since the new revenues result from ending various tax breaks, such as lower levies on dividends and capital gains, and deduction of interest on mortgages. This broadening of the tax base, which would hit mostly high earners, has bipartisan support, although Obama continues to believe that "fairness" dictates higher marginal rates on all earning more than $200,000 ($250,000 for families).
When all is said and done, any compromise will almost certainly raise effective income tax rates on higher earners, perhaps from about 35% to 39%, and impose an additional Obamacare tax of 3.8% on investment income. Whether tax reform that eliminates special treatment of the income from dividends, capital gains and hedge fund operations can be negotiated is difficult to predict, since the parties that would be affected have already lined up lobbying teams to protect their benefits, and congressmen are already scrounging for campaign funds for their 2014 election campaigns.
The battle between Democrats and Republicans over how to cut the deficit, and at what pace — with some opposed to any cuts just yet — is not the only one that has been joined. There are other battles, which the president is almost certain to win. Having "transformed" the healthcare sector — the descriptive Obama prefers "reformed" when he lays hands on some sector of the American economy — he is aiming to complete his transformation of the energy sector as part of his promise to tackle the perceived problem of global warming during his final term.
Permits to drill for oil and gas on federal lands will be harder to come by; wind and solar subsidies will be easier to obtain, despite the record of bankruptcies of firms that have benefited from taxpayer funds; the Yucca Mountain nuclear waste repository will remain closed, adding to the difficulty of building new nukes; taxes on oil companies will go up; approval of the Keystone pipeline to bring crude oil from Canada, although still possible, is less likely; and new regulations to slow the development of shale gas and oil are likely.
Also, the election of Elizabeth Warren, the consumer advocate, to represent Massachusetts in the Senate will help Obama speed up the Dodd-Frank banking reform. We may see, sooner rather than later, just how the Volcker rule, separating investment banking and trading from consumer lending, will be implemented. And be able to compare that with Sir John Vickers's plan for "ring-fencing" of UK retail banking.
Finally, having sorted out fiscal policy and put in place a regulatory regime, the president will have to begin to consider important appointments. With four Supreme Court justices well into their 70s, and one nearing 80, Obama will have at least one vacancy to fill. Though appointees do not always vote as the president who picks them hopes, his choices are more likely to tip the court in a liberal (in the US sense) direction, supporting government actions that a more conservative court might find had transgressed constitutional limits.
Then there is the Federal Reserve Board. Ben Bernanke has let it be known that he will not seek reappointment when his term as chairman expires at the end of January 2014. Obama will want a replacement who is at least as inclined as Bernanke has been to print money to shore up the economy so that if fiscal policy is tightened in order to cut the deficit, monetary policy will stay loose. After all, Obama would like to leave office with unemployment lower than it was when he was sworn in.
The leading candidate is the economist Janet Yellen, vice-chairman of the Fed board and formerly president of the San Francisco Fed and chair of President Clinton's Council of Economic Advisers. Yellen favours an even more aggressive monetary policy than Bernanke, risking higher inflation if necessary to reduce unemployment. Also in the running is Roger Ferguson Jr, former vice-chairman, who heads the huge teachers' retirement fund. He would be the first black Fed chairman.
Obama certainly has a full in-tray. But given the alternative, he is not complaining.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.
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