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Economix Blog: Simon Johnson: The Supreme Court and the Next Fiscal Cliff

January 3, 2013 by Leave a Comment

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Simon Johnson is the Ronald A. Kurtz Professor of Entrepreneurship at the M.I.T. Sloan School of Management and co-author of “White House Burning: The Founding Fathers, Our National Debt, and Why It Matters to You.”

The end of the 2012 fiscal cliff drama was largely predictable. Faced with the prospect of large and immediate tax increases, Congress acted to raise income tax rates only on relatively well-off people — and also to allow payroll taxes to increase for all working Americans. The messy compromise raises revenue, although it does not bring our medium-term deficits under control, and it is unlikely to push the economy back into recession.

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Perspectives from expert contributors.

Unfortunately, the legislation that passed the Senate late on New Year’s Eve and the House on Jan. 1 sets up another fiscal-cliff-type experience – with a fight over extending the debt ceiling looming in about two months. And the outcome then could well be a significant slowdown in the economy and a struggle that might end up in front of the United States Supreme Court.

About the end of February, the Treasury Department will have exhausted its legal authority to borrow. Congressional authorization will be needed to allow additional federal government debt to be issued; this is the debt ceiling.

The last time the United States came close to hitting the debt ceiling, in summer 2011, a game of chicken was played on Capitol Hill and with the White House – with many Congressional Republicans insisting that the debt ceiling would not be extended unless there were matching spending cuts.

This led to the Budget Control Act of 2011, which created the now-infamous sequester mechanism: if politicians could not agree on ways to limit spending (and raise taxes), automatic spending cuts would kick in for both domestic and military programs of the government.

Under the New Year’s Day legislation, this sequester was postponed until the end of February.

So the next fiscal cliff includes both hitting the debt ceiling and carrying out the sequester. By itself, the sequester will cause government spending to fall in an arbitrary and inefficient manner. This will slow the economy to some extent.

But the greater danger is that world markets will be plunged into chaos when the debt ceiling is not extended, because this creates the prospect that the United States government will be unable to make payments on its existing obligations unless it breaks the law or makes vast spending cuts.

Using the debt ceiling in budget negotiations is a dangerous and irresponsible tactic. In summer 2011, financial markets were severely strained by the prospect that the United States would not pay its debts. This pushed up yields on risky debt around the world (including in Europe) and caused the stock market to fall almost everywhere.

Yet House Republicans seem willing to play the same card again unless they get large cuts to domestic discretionary spending by the federal government (or perhaps big cuts to Medicare, which is part of what they were asking for in 2012). The Obama administration and most Democrats will refuse to agree. Another showdown will loom.

In think about likely scenarios, you need to assess what the Supreme Court might do if it were to take center stage on the debt ceiling.

While the Tea Party movement is greatly weakened, it may still be strong enough to block any extension of the debt ceiling. If that were the case, an impasse with a great deal of impassioned rhetoric would result.

At the end of the day, the administration would probably break the debt ceiling and take its case to the Supreme Court. While the court’s ruling on the constitutionality of the Affordable Care Act was a significant moment in summer 2012, any decision on the debt ceiling would be much more important. We haven’t seen a court decision with that kind of potential macroeconomic impact since the 1930s (when the legality of suspending the gold standard was reviewed).

Many legal arguments will be heard, and in the end the Court is likely to be swayed by an assessment of the potential implications. If the government has already broken the debt ceiling, determining that this is unconstitutional would cause chaos for the United States and the global economy. As in the 1930s, the court would not want to second-guess the macroeconomic decisions of the administration, I hope.

Whatever the Supreme Court outcome, going down that route would create a great deal of uncertainty – and is likely to affect some investment and consumption decisions and to slow the economy enough to create a new recession.

For a specific quantitative measure and a great deal of helpful thinking on this issue, I recommend the work of Nicholas Bloom of Stanford University (with Scott R. Baker of Stanford and Steven J. Davis of the University of Chicago) on their general Web site and in their most recent paper, updated this week.

Their Economic Policy Uncertainty Index shows a big spike on the debt ceiling dispute in August 2011. We will face a comparable or even larger effect in early 2013. So the question for our politicians will be: whom do they think will be blamed for creating such an uncertainty-induced recession?

Based on its experience in 2012, the Obama administration will feel that it does well by standing up to the Republicans on fiscal issues (although some Democrats, of course, wanted to take an even stronger line). I do not see the two sides coming together on spending issues, so I expect a version of the sequester.

The Republicans are obviously divided on fiscal policy and many other issues; one is how extreme they want to be perceived to be relative to mainstream opinion.

Most likely the Tea Party faction will dig in deeply, as it did on Jan. 1, when the fiscal legislation passed the House with support from most Democrats and enough Republicans who were willing to vote with the administration (and the Senate). This is, of course, a sharp contrast to what happened at the start of President Obama’s first term, when all the House Republicans, without exception, voted against the fiscal stimulus package.

The Republicans will split, but more of them are likely to side with the Tea Party movement than was the case this week. We are headed directly for another fiscal-cliff confrontation – and this one could be much more damaging.

Article source: http://economix.blogs.nytimes.com/2013/01/03/the-supreme-court-and-the-next-fiscal-cliff/?partner=rss&emc=rss

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The Next War: In Federal Budget Cutting, F-35 Fighter Jet Is at Risk

November 29, 2012 by Leave a Comment

On an October day last year, with Lt. Col. Fred Schenk at the controls, the plane glided toward a ship off the Atlantic coast and then, its engine rotating straight down, descended gently to the deck at seven feet a second.

There were cheers from the ship’s crew members, who “were all shaking my hands and smiling,” Colonel Schenk recalled.

The smooth landing helped save that model and breathed new life into the huge F-35 program, the most expensive weapons system in military history. But while Pentagon officials now say that the program is making progress, it begins its 12th year in development years behind schedule, troubled with technological flaws and facing concerns about its relatively short flight range as possible threats grow from Asia.

With a record price tag — potentially in the hundreds of billions of dollars — the jet is likely to become a target for budget cutters. Reining in military spending is on the table as President Obama and Republican leaders in Congress look for ways to avert a fiscal crisis. But no matter what kind of deal is reached in the next few weeks, military analysts expect the Pentagon budget to decline in the next decade as the war in Afghanistan ends and the military is required to do its part to reduce the federal debt.

Behind the scenes, the Pentagon and the F-35’s main contractor, Lockheed Martin, are engaged in a conflict of their own over the costs. The relationship “is the worst I’ve ever seen, and I’ve been in some bad ones,” Maj. Gen. Christopher Bogdan of the Air Force, a top program official, said in September. “I guarantee you: we will not succeed on this if we do not get past that.”

In a battle that is being fought on other military programs as well, the Pentagon has been pushing Lockheed to cut costs much faster while the company is fighting to hold onto a profit. “Lockheed has seemed to be focused on short-term business goals,” Frank Kendall, the Pentagon’s top weapons buyer, said this month. “And we’d like to see them focus more on execution of the program and successful delivery of the product.”

The F-35 was conceived as the Pentagon’s silver bullet in the sky — a state-of-the art aircraft that could be adapted to three branches of the military, with advances that would easily overcome the defenses of most foes. The radar-evading jets would not only dodge sophisticated antiaircraft missiles, but they would also give pilots a better picture of enemy threats while enabling allies, who want the planes, too, to fight more closely with American forces.

But the ambitious aircraft instead illustrates how the Pentagon can let huge and complex programs veer out of control and then have a hard time reining them in. The program nearly doubled in cost as Lockheed and the military’s own bureaucracy failed to deliver on the most basic promise of a three-in-one jet that would save taxpayers money and be served up speedily.

Lockheed has delivered 41 planes so far for testing and initial training, and Pentagon leaders are slowing purchases of the F-35 to fix the latest technical problems and reduce the immediate costs. A helmet for pilots that projects targeting data onto its visor is too jittery to count on. The tail-hook on the Navy jet has had trouble catching the arresting cable, meaning that version cannot yet land on carriers. And writing and testing the millions of lines of software needed by the jets is so daunting that General Bogdan said, “It scares the heck out of me.”

With all the delays — full production is not expected until 2019 — the military has spent billions to extend the lives of older fighters and buy more of them to fill the gap. At the same time, the cost to build each F-35 has risen to an average of $137 million from $69 million in 2001.

The jets would cost taxpayers $396 billion, including research and development, if the Pentagon sticks to its plan to build 2,443 by the late 2030s. That would be nearly four times as much as any other weapons system and two-thirds of the $589 billion the United States has spent on the war in Afghanistan. The military is also desperately trying to figure out how to reduce the long-term costs of operating the planes, now projected at $1.1 trillion.

“The plane is unaffordable,” said Winslow T. Wheeler, an analyst at the Project on Government Oversight, a nonprofit group in Washington.

Todd Harrison, an analyst at the Center for Strategic and Budgetary Assessments, a research group in Washington, said Pentagon officials had little choice but to push ahead, especially after already spending $65 billion on the fighter. “It is simultaneously too big to fail and too big to succeed,” he said. “The bottom line here is that they’ve crammed too much into the program. They were asking one fighter to do three different jobs, and they basically ended up with three different fighters.”

Article source: http://www.nytimes.com/2012/11/29/us/in-federal-budget-cutting-f-35-fighter-jet-is-at-risk.html?partner=rss&emc=rss

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Deficit Panel Gets New Message: ‘Go Big’

September 12, 2011 by Leave a Comment

A group of at least 57 prominent business executives and former government officials have signed a petition in support of a greater deficit reduction, which they are to release at a news conference on Monday. Among them are former treasury secretaries, budget directors and economic advisers to eight presidents from Richard M. Nixon to Mr. Obama; former Congressional leaders; and executives of top companies.

Their letter reflects a broad sense of urgency in both parties, and among economists and businesses, that the nation must put in place long-range measures to shrink future deficits. At current spending levels, those deficits are expected to balloon over the next decade as the population ages and as health care costs rise.

The letter does not call for short-term job-creation measures like the tax cuts and infrastructure spending Mr. Obama proposed last week, which would add to deficits initially. Even so, many of the signers, liberals and conservatives, have called for such steps.

The petition does include what has fast become a catchphrase for those who believe Congress is thinking too small. “We urge you to ‘go big,’ ” they wrote, “and develop a large-scale debt-reduction package sufficient to stabilize the debt as a share of the economy.”

Generally that level is estimated at $4 trillion in deficit reductions over the decade, savings that would build in later years. Because Congress and Mr. Obama already agreed last month to nearly $1 trillion in reductions in so-called discretionary spending for social and military programs, the special committee would have to find more than $3 trillion more to meet that goal — double its mandate for $1.2 trillion to $1.5 trillion, written into the August deficit-reduction deal.

Mr. Obama has called for a goal of at least $2 trillion, though the extra savings would mostly offset the up-front costs of his new $447 billion stimulus plan.

A higher deficit-reduction goal would increase pressure on both parties to address the two main drivers of projected high debt: the rapid growth of spending for the Medicare and Medicaid programs and an inefficient tax system unable to keep pace. That would test Republicans’ opposition to raising any tax revenues from high-income individuals and corporations, and would challenge Congressional Democrats to agree to more savings from entitlement programs than they would like.

Yet it is the parties’ differences on taxes and government health care benefits that have many in the White House, Congress and outside groups skeptical that the 12-member panel, which is split evenly between Republicans and Democrats and House and Senate members, can reach agreement even on the lesser goal.

Several signers of the letter said they had no illusions that their appeal alone would persuade many lawmakers, especially Republicans, to compromise. And while Congressional Democratic leaders have indicated that they would follow Mr. Obama in backing a compromise, many Democrats fear that doing so would undercut their ability to attack Republicans in 2012 for their proposals to remake and shrink Medicare and Medicaid.

The threshold of $4 trillion was first suggested in December by a majority of the fiscal panel that Mr. Obama established in 2010, led by Alan K. Simpson, a former Senate Republican leader, and Erskine B. Bowles, a former chief of staff to President Bill Clinton. Both men signed the letter.

“That is not a number that people just made up because the No. 4 bus just drove by,” Mr. Bowles said in an interview. “It’s the minimum amount we need to do in order to stabilize the debt and put it on a downward path as a percent of G.D.P.”

The public debt amounted to 62 percent of the nation’s gross domestic product last year and is projected to reach 77 percent of economic output by 2021.

Other signers include George P. Schultz, a former secretary of labor, treasury and state; Martin Feldstein and Murray L. Weidenbaum, top economic advisers to President Ronald Reagan; and the first chairman of Mr. Obama’s Council of Economic Advisers, Christina D. Romer.

The businesspeople include David M. Cote, the chairman of Honeywell International and a Republican on the Bowles-Simpson commission, and Marne Obernauer Jr., chairman of the Beverage Distributors Company and an owner of the Colorado Rockies baseball team.

The letter writers did not recommend how to reduce deficits, acknowledging that they had “differences of opinion.” But their letter, which was organized by the Committee for a Responsible Federal Budget at the New America Foundation, a centrist research group, makes clear that the solution should include spending and tax changes.

“We believe that a go-big approach that goes well beyond the $1.5 trillion deficit reduction goal” should include “major reforms of entitlement programs and the tax code,” they wrote.

Republican leaders have not joined Mr. Obama in seeking a higher goal. After a Rose Garden event on Monday, Mr. Obama will send Congress his jobs bill and long-term deficit cuts to offset its cost; next week he will propose another $1.5 trillion in deficit reductions to the committee.

“We’re certainly open to hearing the president’s ideas,” said Michael Steel, a spokesman for Speaker John A. Boehner.

The Senate Republican leader, Mitch McConnell of Kentucky, said last week: “I’m not going to prejudge what the joint committee might do. It has a broad array of options. But its goal, obviously, is to do something significant about deficit reduction with a floor of between $1.2 trillion and $1.5 trillion over 10 years.”

He added, “We’ll see whether they can even go beyond that.”

The committee is to report by Nov. 23, and Congress must hold an up-or-down vote by Dec. 23.

“Is it 50-50 that they’ll do something big and bold? No,” Mr. Bowles said. “But I think there’s a real chance. There are a lot of people on that committee, Republicans and Democrats, that I’ve talked to personally that want to do something big.”

Article source: http://feeds.nytimes.com/click.phdo?i=c3321c0f178d4ae2c49fdf1b691c857f

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