James Pethokoukis

Politics and policy from inside Washington

Closing the budget gap

Oct 19, 2009 18:36 UTC

TaxVox tells us why the budget deficit is much worse that what the government is projecting:

Total federal revenue in 2009 amounted to just 14.9 percent of GDP, the smallest fraction since 1950 and far below the 26 percent of GDP spent by the federal government. That gap will narrow in coming years but CBO projects that it will average more than 4 percent of GDP over the next decade, and that’s only if the 2001-2006 tax cuts expire in 2011 as scheduled. Extending those cuts, even only for President Obama’s broad middle class, will mean deficits as far as the eye can see.

Me: Actually, you are looking at a gap more like 6 to 8 percentage points, long term. That is just unsustainable for any extended length of time.

Is Obama ignoring Wall Street?

Oct 1, 2009 13:10 UTC

This from Ed Yardeni, keying off a recent Charlie Gasparino’s column:

There is no one in the Obama administration like Robert Rubin, who had the ear of President Clinton. Rubin convinced Clinton that the Bond Vigilantes would riot if he pursued policies that would lead to a structural federal deficit, i.e., one that would widen despite a growing economy. So far, the Bond Vigilantes haven’t gone on a rampage despite projections of $10tn in deficits over the next 10 years. So it is no wonder that Obama’s political advisors are acting as though they’ve been handed a blank check by the bond market. However, the longer they ignore the economic advisors, the greater is the likelihood that the blank check will bounce.

Me: Indeed, at a think tank conference I attended yesterday, both Rubin and Roger Altman expressed great concern about the deficit. They definitely seemed to want budgetary action sooner rather than later. Actually, they implied financial markets will demand it.

The consequences of massive budget deficits

Sep 3, 2009 12:38 UTC

The Cleveland Fed gives the bad news:

First, without a correction on the spending side, more tax revenue will need to be raised, with the consequence of subjecting the economy to greater tax-associated inefficiencies.

The risk of default may also increase, leading to higher risk premiums, higher interest payments, and a greater cost to be sustained in the future to address the fiscal imbalance.

In addition, a sustained demand for funds by the government sector will likely put upward pressure on future real interest rates, with adverse consequences for private investment and growth.

The increase in domestic interest rates will likely attract further financial flows from countries with higher saving rates, which may lead to a dollar appreciation and a worsening of our current account deficit.

Higher rates and refinancing

Jun 13, 2009 12:52 UTC

Fear of massive deficits and inflation may or may not be driving up interest rates, but the impact of the rate rise is not up for dispute. This from Barclays:

Mortgage rates jumped to their highest since November, stifling refinancing

The Mortgage Bankers Association’s index of mortgage applications fell 7.2% w/w in the week ending June 5, marking the third consecutive weekly decline. The downturn owes to a sharp drop in refinancing activity as a result of higher mortgage rates.

The index of refinancing applications fell 11.8% in the latest week, pushing the index to the lowest level since November of last year (Figure 1). The index of purchase applications inched up 1.1%, leaving the four-week moving average up 0.5%.

The average rate on the 30y conforming mortgage (as measured by the MBA) jumped 32bp to 5.57%, also the highest since November. Mortgage rates have jumped more than 100bp from the trough of 4.62% at the end of April.

Does this explain rising bond yields?

Jun 8, 2009 19:30 UTC

This chart from Jim Glassman of JPMorgan makes an argument about seasonality:


Why Obama loves Bernanke’s big deficit warning

Jun 3, 2009 20:23 UTC

Ben Bernanke seemed to buy into the “bond vigilante” theory today in his House testimony as an explanation for the recent backup in long yields:

Maintaining the confidence of the financial markets requires that we, as a nation, begin planning now for the restoration of fiscal balance. … These increases appear to reflect concerns about large federal deficits but also other causes, including greater optimism about the economic outlook, a reversal of flight-to-quality flows, and technical factors related to the hedging of mortgage holdings.

Me: Some folks are interpreting this as bad news of Obamanomics, that deficit fears mean he’ll have to trim back his spending agenda. (I’ve seen plenty of posts about how Bernanke’s warning means he won’t get reappointed in 2010.) But recent history shows that deficit fears often lead to tax hikes (1982, 1990, 1993) and higher taxes are just what Obama needs to pay for “investments” in healthcare, energy and eduction. Here is a bit from a column that should go up later today:

Chatter about budget deficits and fiscal responsibility is exactly what Team Obama needs right now. Here’s why: If you buy the theory of bond vigilantism — that credit markets will force interest rates higher in reaction to unsustainable national budget deficits — then you also have believe the White House will need to raise taxes sharply to pay for all its spending programs or risk a revolt. Indeed, plenty of White House folks, particularly if they worked for Bill Clinton, likely do believe in the theory. Recall that it was Clinton who chucked his investment agenda in favor of a “bond market strategy” to boost growth by persuading credit markets that the administration would balance the books. As Clinton nicely boiled it down, “You mean to tell me that the success of the program and my reelection hinges on the Federal Reserve and a bunch of [expletive] bond traders?”

… And today, Bernanke’s sharp warning contributed to that effort. So not only has Bernanke’s unprecedented monetary stimulus allowed Obama to focus on pushing forward his policy agenda rather than a pure stimulus effort (such as a suspension of payroll taxes), but the weight of his authority is now being used to help persuade Americans that the budget deficit is the Next Scary Problem. In short, Bernanke is “preparing the battlespace” for Obama tax initiatives to pay for Obamacare and who knows what else. What more could one Fed chairman do for a Democratic president?


Pethokoukis, Yes I am sure Bernanke wants a massive tax increase in the middle of a massive recession. Afterall, what spells job increases like a massive tax on income. I do hope Obama takes Pethokoukis’s advice though. It takes a Carter to make a Reagan and 4 years from now we are going to be needing a Reagan big time.

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