Last week FT Alphaville listed some of the items that would affect how much fiscal drag the US economy would confront in the next couple of years.
In light of the US budget Supercommittee’s imminent collapse, we’ll reprint those that apply in 2012:
Discretionary spending caps resulting from the debt ceiling agreement, troop drawdowns, and small expiring tax provisions at the end of 2011:$69bn, or 0.5 per cent of GDP.
Expiration of payroll tax holiday at the end of 2011: $112bn, or 0.73 per cent of GDP.
Expiration of extended unemployment benefits: $56bn, or 0.37 per cent of GDP.
The reason for highlighting these again is it was hoped that the Supercommittee, in the process of finding the desired $1,200bn in budget reduction for the next ten years, would also be a useful vehicle for preventing the expiration of the second and third items above.
Together, the expiration of the payroll tax holiday and unemployment benefits would combine to be a 1.1 per cent drag on GDP next year. As it’s now unlikely the Supercommittee will agree to a deal, these issues will have to be addressed through conventional legislative dealmaking before the end of the year, with all the usual haggling and unpredictability that will bring.
In hindsight, we suppose that the odds were always stacked against a successful Supercommittee deal, however one might define it. As the automatic “sequestration” cuts wouldn’t take effect until the start of 2013, they could always be revisited and, probably, partially legislated away in the time between Election Day 2012 and the end of next year. And the committee members knew it.
Regardless, we can’t imagine either that this outcome will take markets by surprise or that the ratings agencies will act on this alone. Obviously it doesn’t help, but given that the result of the impasse leads to no permanent changes, it doesn’t seem likely, though we admit that’s just speculation on our part.
But for what it’s worth, we’ll close with two different takes on the matter, the first from analysts at Nomura:
Markets, thoroughly distracted in recent weeks by events in the eurozone, are, in our view, likely to devote at least some attention to Washington over the next critical 72 hours or so. Although we believe expectations of the JSCDR reaching an extensive agreement are already low, faced with the reality of failure and its possible economic consequences, markets may well react adversely.
Furthermore, we cannot rule out the possibility that failure would spur Moody’s into following Standard & Poor’s decision in August to downgrade the US’s credit rating.As for the wider political context, with less than a year to go before the 2012 generalelection, the impact of the JSCDR failing to reach agreement is uncertain in that it is far from clear whether Democrats or Republicans (or neither) would shoulder more of the blame in the eyes of the electorate.
However, one thing which is clear is that fiscal policy is set to be front and centre from here on through to the elections when voters will befaced with what is likely to be a superficial, simplistic and sound-bite-based but very clearchoice between Mr Obama’s pledge to “tax millionaires and billionaires” and protectentitlements on the one hand and a fiscally conservative, shrink government, balancedbudgetadvocating Republican (whoever wins the Republican nomination) on the other.
And the second from ING:
If the US were European, Treasury yields would be soaring, pushing to levels that would suggest an unimaginable bailout. But it isn’t. Thankfully. And as a result, yields on 10Y Treasuries remain below 2.0%.
The cause of this potential concern is the likely failure of the super-committee to come up with a saleable plan to reduce the deficit by $1.2tr by 2021. The deadline for this is November 23, but as a vote by Congress is viewed as taking 2 days to set up, the real deadline, it appears, will be tonight.
Failure is not as calamitous as it sounds. There is a $1.2tr automatic sequestration built into the Budget Control Act to deal with just such political impasse. This will not kick in until 2013, after the next Presidential Elections, but will make spending cuts across the board, including the military (some benefits and healthcare entitlements are shielded or exempt).
Neither is failure by the super-committee likely to precipitate any ratings downgrades according to most agencies (though it is hard to see why not), though any attempt to tinker with the automatic sequestration process, either in its timing or scope, would be viewed very dimly, and might do so.
What awaits you, Mr President(-elect?) – FT Alphaville