Opinion

Anatole Kaletsky

The budget deal and Washington’s new politics of compromise

Anatole Kaletsky
Dec 12, 2013 15:16 UTC

The muted market reaction to this week’s budget deal in Washington may initially seem like a disappointment. After all, uncertainty over government spending, debt and taxes has consistently emerged in business sentiment surveys as the biggest single factor holding back corporate investment and damaging financial confidence. Why then did Wall Street celebrate this breakthrough with its biggest daily fall in two months?

The standard explanation is that the budget deal will accelerate the tapering of monetary policy by the Federal Reserve Board, and that is probably a valid expectation. The main reason for the seemingly perverse response, however, is simply that this budget deal was predictable to the point of inevitability, even if most Washington pundits committed to the standard narrative of U.S. political dysfunction and gridlock did not see it coming until this week. Viewed from outside the Beltway, the inevitability of eventual bipartisan cooperation on the budget has been obvious since the 2012 election, which essentially settled all the important U.S. fiscal debates.

Having argued this position all year and having suggested back in October that a deal by this week was very likely, I could hardly be surprised that the markets greeted this event with a yawn. Short-term players on Wall Street have simply followed the time-honored formula of “buy on the rumor, sell on the news.” Business leaders and long-term investors, by contrast, are likely to be relieved and even enthused by this agreement, but their responses will have to be assessed over weeks, months and even years, not just a few days.

There are, however, several important lessons that can be drawn already from the U.S. budget agreement, several with implications for politics and economic policy in other countries. Here, briefly, are five:

1. Political analysts, lobbyists and media pundits whose professional reputations or business models depend on emphasizing or dramatizing political battles often present a misleading picture of economic policies. They naturally tend to exaggerate confrontations and underestimate the possibilities of compromise, even in situations where the interests of all the main political players point towards cooperation, rather than conflict. This principle is as true of monetary policy as of fiscal policy and it applies around the world. For example, European political analysts often exaggerate the confrontations between Germany and other countries or the risks to the euro posed by the German constitutional court or the Bundesbank.

The positive side of the budget debacle

Anatole Kaletsky
Oct 17, 2013 15:07 UTC

The U.S. budget battle was always likely to end in a Republican defeat and a rout for Tea Party firebrands; but the outcome has turned out to be even more dramatic: an unconditional surrender, instead of the negotiated ceasefire suggested here two weeks ago. Trying to spot historic turning points in real time is always risky, but the scale of this debacle suggests that U.S. politics and economic policy really will be transformed in at least four important ways.

Firstly, the shift in the balance of power between Obama and the Republicans since last November, described here, has been spectacularly confirmed. It is too early to guess whether the GOP’s slumping popularity will give the Democrats a chance to regain control of the House of Representatives next November. The Democrats would be very likely to achieve this if they could hold on to their present lead of 5.5 percentage points in the Real Clear Politics average of Congressional vote polling, since this would represent a swing in favor of the Democrats of 4 percent, which should suffice to win the extra 17 seats they would need to win control.

Conventional wisdom in Washington contends that a Democratic win next year is almost impossible because of a historic tendency of presidential parties to lose votes in midterm elections, but this history has little statistical significance, and is counterbalanced by the voting figures from the three occasions since 1945 when parties that lost the popular vote kept control of the House. In all these cases the majority party in the House only lost the popular vote by tiny margins — in 1952, by 0.5 percent, in 1996 by 0.7 percent and in 2012 by 1.2 percent. So an election in which the Republicans lost the popular vote by 5.5 percent, as indicated by recent polling, but kept control would create a totally unprecedented situation. In any case, speculation about next year’s election is pointless since the polls are likely to shift abruptly — one way or the other and for reasons we cannot even imagine today. What is clear, however, is that the Republicans face deep unpopularity in the short-term and this will transform the outlook for economic policy in the next few months.

Game theory and America’s budget battle

Anatole Kaletsky
Oct 3, 2013 14:17 UTC

So far, the battle of the budget in Washington is playing out roughly as expected. While a government shutdown has theoretically been ordered, nothing much has really happened, all the functions of government deemed essential have continued and financial markets have simply yawned. The only real difference between the tragicomedy now unfolding on Capitol Hill and the scenario outlined here last week has been in timing. I had suggested that the House Republicans would give way almost immediately on the budget, if only to keep some of their powder dry for a second, though equally hopeless, battle over the Treasury debt limit. Instead, it now looks like President Obama may succeed in rolling the two issues into one and forcing the Republicans to capitulate on both simultaneously.

The ultimate outcome of these battles is now clearer than ever. As explained here last week, the Tea Party’s campaign either to defund Obamacare or to sabotage the U.S. economy was doomed by the transformation in political dynamics that resulted from November’s election — above all by the fact that the president never again has to face the voters, while nearly every member of Congress must. This shift in the balance of power made the Republicans’ decision to mount a last stand on Obamacare, instead of attacking the White House on genuine budgetary issues, politically suicidal as well as quixotic. But while the outcome now looks inevitable, the timing of the decisive battle is important. Financial markets and businesses have responded with a tolerance bordering on complacency to the shenanigans in Washington, but this attitude could change abruptly if the House Republicans’ capitulation is delayed too long. As they say in the theater, the only difference between comedy and tragedy is timing.

The risk, as everyone now realizes, is that the battle of the budget — which turns out really to be just a minor tussle over the funding of a limited range of worthy but nonessential government services — remains in a stalemate right up to October 17, when U.S. Treasury is expected to hit its debt limit. At that point, an immediate settlement will be needed or all hell could break loose. The key question for businesses and investors around the world, therefore, is whether the Republicans’ impossible demands to defund Obamacare are removed from the budgetary bills comfortably before the October 17 deadline, or whether this capitulation is triggered by a financial crisis once the deadline draws too close.

Cooperation isn’t coming to Washington – it’s already arrived

Anatole Kaletsky
Jan 23, 2013 23:50 UTC

The House of Representatives decision to suspend the U.S. Treasury debt limit is the most important political event in America since President Barack Obama was first elected in 2008.  As anticipated in this column immediately after the 2012 election, Washington seems to have broken its addiction to deadly games of economic chicken. That, in turn, should mean an orderly resolution of all U.S. fiscal problems and perhaps even an outbreak of bipartisan political cooperation, at least on economic issues, of a kind not seen in Washington since the early 1990s.

None of these favorable outcomes is yet acknowledged as true in Washington or Wall Street. Political analysts and market pundits have almost unanimously described the House decision as a diversionary tactic, simply designed to shift the high-noon confrontation with Obama to a new battleground more favorable to the Republican side: the March 1 date for automatic spending cuts under the sequestration procedure, or the March 27 expiration date of current government budgets.

This cynicism will almost certainly be proved wrong. The obvious reason is that an army in full retreat, as the Republicans have been since the election and fiscal cliff fiasco, finds it hard to regroup against an enemy enjoying strong momentum. And when such a battered force does attempt a last stand, this usually results in a rout. In this case, however, there are more specific reasons for the Republicans to seek peaceful coexistence instead of the fight-to-the-death over borrowing and spending that many pundits still predict. To see why House leaders decided to unilaterally disarm their nuclear weapons — first the fiscal cliff and now the debt ceiling — one has to understand the transformation in U.S. political dynamics that occurred the moment the votes were counted on Nov. 6.

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