Playing chicken with debt ceiling negotiations
U.S. Speaker of the House Rep. John Boehner (R-OH). (Getty Images)
July 1st, 2011
12:45 PM ET

Playing chicken with debt ceiling negotiations

Editor's Note: Sebastian Mallaby is the Director of the Maurice R. Greenberg Center for Geoeconomic Studies and Paul A. Volcker Senior Fellow for International Economics at the Council on Foreign Relations. This is his CFR.org Expert Brief.

By Sebastian Mallaby

The United States is now only one month away from the date on which the Obama administration says it will exhaust its legal authority to issue government debt. To avoid bumping up against that ceiling, Republicans and Democrats must overcome their differences and pass legislation to raise it. But compromise appears elusive. Far from narrowing the gap, the two sides are indulging in the sort of posturing that will make a deal harder to reach.

From the start of the negotiations, Republicans have taken the position that they will only permit a higher debt ceiling if Democrats concede deep spending cuts. The Democrats, for their part, have agreed that spending cuts are reasonable; but they want these to include cuts for the Pentagon, and they want to balance spending cuts with tax increases. Republicans have resisted.

In recent days, however, they have done more than just resist.

Senate Republicans have expressed support for a constitutional amendment that would require the federal budget to be balanced - an attempt to legislate away the possibility of future deficit spending, even in severe economic downturns that might warrant it.

Further, the balanced budget would cap federal spending at about 18 percent of the previous year's GDP, an impractically restrictive cap given that federal spending has averaged 21 percent of GDP over the past decade. Some Republicans are suggesting that the balanced budget amendment might be a condition for raising the debt ceiling. Since an amendment is a nonstarter for Democrats, this threatens a train wreck.

As the Republicans have hardened their position, President Barack Obama has hardened his rhetoric. At a news conference on Wednesday, he demanded that the Republicans stop getting in the way of ending tax breaks for "millionaires and billionaires." Referring to the Republican leadership, he complained that "everybody else has been willing to move off their maximalist position and they need to do the same."

Perhaps not surprisingly, Obama's salvo triggered a counter-blast from Republicans. The party's Senate leader, Mitch McConnell, declared that the issue was not rich versus poor, as the president had framed it, but rather whether Washington would be held accountable for its profligate spending.

"The president's remarks today ignore legislative and economic reality," chimed in Republican House Speaker John Boehner. "His administration has been burying our kids and grandkids in new debt."

Both sides are playing chicken. Both may swerve enough at the last minute to avert a collision. But games of chicken can be hard to exit. Leaders can get trapped by their own angry rhetoric: Having denounced your opponents as extremists, it's hard to explain to your partisan base why you decided to compromise with them. And recall what happened in the famous game of chicken in the James Dean movie, Rebel Without a Cause – Buzz Gunderson got his jacket tangled in the car door handle and drove off a cliff.

If no compromise is possible, the government will face some awful choices. Unable to borrow, it could cut spending until no borrowing is necessary. But with the budget deficit running at about 9.3 percent of GDP, the cuts would need to be enormous.

Not only would government workers be laid off and multiple programs interrupted, but the economy would go into a tailspin. The loss of government demand, coming on top of weak private demand because of the lingering effects of the financial crisis, would create a disastrous shortfall of spending in an economy already growing below its potential. The resulting recession would drive already acute unemployment to even higher levels.

To avoid enormous cuts in spending, the government might consider the other option: It could free up resources by not repaying some of its creditors. But this policy - a controlled default - would be even more calamitous.

Investors who hold U.S. government bonds would be panicked. As they dumped their holdings, bond prices would fall and bond yields would rise, meaning that the cost of servicing government debt would go up and the nation's already shaky public finances would deteriorate still further.

A vicious cycle would ensue, with a weak budget position boosting the cost of debt service and higher debt-service costs weakening the budget position. What began as a controlled and limited default could end up in a chaotic general one.

Meanwhile, the disruption to financial markets would be instantly disastrous. Investment portfolios around the world are constructed on the assumption that U.S. Treasuries are a risk-free asset. For example, other bonds are assessed according to their "spread" - meaning the gap between the interest they pay and the yield on supposedly riskless Treasuries.

But if the fight over the debt ceiling turned the world's risk-free benchmark into a risky asset, pandemonium would ensue. Investors would not know which way to turn. They might hide from all risk. Think of the market meltdown following the Lehman Brothers bust - and then double it.

The fact that gridlock in Washington renders such prognostications necessary is itself damaging. Since the financial crisis, authoritarians and state capitalists have lost their respect for the United States. Market capitalism is in disrepute; democracy is discredited. The budget fight is only deepening such feelings. Democrats and Republicans should remember that the world is watching.

The views expressed in this article are solely those of Sebastian Mallaby.

Post by:
Topics: Economy • Politics • United States

soundoff (27 Responses)
  1. Onesmallvoice

    If this doesn't end soon, this John Boehner along with Barack Obama might just end up doing more damage to the U.S. than Ussama bin Laden and Al Qaeda ever did. By not raising the debt limit ceiling and keeping us in these useless and unnecessary wars overseas, this country just may fall into the severest depression it ever had and drag the rest of the world into it, too!!!

    July 1, 2011 at 1:37 pm | Reply
    • j. von hettlingen

      I hope the two camps can realise that there is no time for a chicken game. The country is in a dire situation. Even if one camp swerves in order to avoid the collison, the other one doesn't necessary survive the game, it might crash involuntarily and inflict harm on itself

      July 1, 2011 at 5:12 pm | Reply
      • kar

        What concerns me is that the Democrats have already compromised a good deal; if they completely give in to Republican demands, the economy overall will (hopefully) not be harmed, but the poor and middle class will be the ultimate losers. A line in the sand has to be drawn somewhere. The saddest thing is that something unquestionable like raising the debt limit has become the bargaining chip that each side is fighting over.

        July 1, 2011 at 10:42 pm |
    • gnp in d island

      I wonder if it would be so bad. The whole world would follow us down with, perhaps, the exception of China. They hold a lot of our debt but could probably weather it. Many countries have defaulted and come out stronger over the years. We would lose our reserve status, so what? Our debt would be restructured and maybe partially forgiven and the dollar evaluated against the IMF vehicle. There maybe some losers but probably no worse than the slow death we're now experiencing.

      July 2, 2011 at 8:41 pm | Reply
  2. John Venza

    The 14 amendment to the US Constitution mandates that the US pay its debts. Case Closedf

    July 1, 2011 at 2:23 pm | Reply
    • Moose

      If, as you so pithily say, the 14th amendment will cover it, why is there even a debt ceiling?

      July 2, 2011 at 5:01 pm | Reply
  3. pmk1953

    Every member of congress took an oath of office, but the republicans have signed pledges to their corporate masters. These pledges seem to override the oath of office, therfore I believe they are guilty of treason. If you take an oath to the country and then ignore it because of a pledge to someone else, you should be convicted of treason.

    July 1, 2011 at 2:26 pm | Reply
    • gnp in d island

      I agree!

      July 2, 2011 at 8:42 pm | Reply
  4. Travis

    The Democrats conceded deep spending cuts last week - $2.4 trillion worth of them - and the Republicans said no. It's getting really old. A resolution needs to be reached or else this is going to have more than just a psychological impact. For a laugh, I blogged about this subject: http://simplemanssurvivalguide.blogspot.com/

    July 1, 2011 at 2:30 pm | Reply
    • Tom Posey

      It seems like everybody wants to just ignore the proverbial 800 lb. gorilla in the room, that is the unnecessary and grossly excessive military spending and foreign aid here. The idiots in Congress and the stupid President have $2.8B to spend on Afghanistan every week but yet are powerless to balance the national budget. What a bunch of incompetent fools we have on Capitol Hill!!!

      July 1, 2011 at 5:02 pm | Reply
      • pn

        Even if your anti-war & anto foreign aid argument has merit, it is irrelevant for the debate on the debt ceiling. Foreign aid is nickels and dimes and in the short run it would actually be costly to end the war in Afghanistan.

        July 2, 2011 at 2:46 pm |
  5. pmk1953

    Republican version of compromise = " This is the way it's gonna be. Or else!"

    July 1, 2011 at 2:57 pm | Reply
  6. kar

    Blame conservatives writ large.
    As for Republicans, democracy isn't about absolutist stands, especially when you only control the house. It's about compromise. The system requires a consensus, which implies meaningful debate and compromise. Call me crazy, but negotions don't start and end with one party holding a position, then abandoning it for a more conservative one as negotiations progress. The two alternatives to consensus are: dems give in (completely) and the poor and elderly get the shaft, or neither side blinks till after the fact and the U.S. Economy is screwed. Not sure which is worst in the long run, but the best one is for conservatives to realize that their views aren't the only ones.
    As for whom to blame, Obama is for discussions and compromise. Boehner's views don't matter, since he can't even control his own lawmakers, let alone his party. I'd personally add democrats, for their inability to call a bluff and avert these games in the first place.

    July 1, 2011 at 3:24 pm | Reply
  7. pmk1953

    Arrest all 435 of them for dereliction of duty.

    July 1, 2011 at 3:50 pm | Reply
  8. David Marr

    Let's Trade a balanced budget amendment for a flat tax of 5% see if the corporations and big business/ GOP like that !!
    And, while we are at it lets have a balanced trade agreement. All countries buy dollar for dollar as much from us as we buy from them. America fixed with these three changes. What are the odds?

    July 1, 2011 at 4:34 pm | Reply
  9. jaowd

    The Mayans said the world would end in 2012. Congress is trying to make it come true.

    July 1, 2011 at 4:49 pm | Reply
  10. fernace

    The GOP, as they call themselves, God's Own Party, lied when they said it wasnt about rich or poor! How can it be anything else when they refuse to tax the rich, but want to "balance the budget" on the backs of the average Americans?!?

    July 2, 2011 at 1:58 am | Reply
  11. Michelle G

    I don't understand why this is so complicated. Dems want tax increases, republicans want spending cuts. So compromise and do some cuts and some tax increases. Viola! Done. Congress needs to stop throwing a temper-tantrum about not getting things their way and actually do the job they were elected to do. Someone please put a sign on the capital building that says "Check your ego at the door!"

    July 2, 2011 at 9:00 am | Reply
    • Onesmallvoice

      It wouldn't hurt either Michele G, to get out of these useless and unnecesarry wars where our military has no business being and costing us money which we do not have. Also, curtailing foreign aid wouldn't hurt either!

      July 2, 2011 at 10:51 am | Reply
      • pn

        But it would have no effect on the immediate problem with the debt ceiling.

        July 2, 2011 at 2:56 pm |
  12. dom youngross

    A potential fed government default would be a blessing in disguise given what's gone on to this point, and would continue to go on without that default.

    Everyone should grow a pair as big as an illegal working in the US. Let the fed government default. Then we pick up the pieces and begin anew by reprioritizing things, starting immediately with an immediate end to more-Bush-than-Bush Obama's Libyan non-war war. And withdrawing all the troops more-Bush-than-Bush Obama 'surged' into Afghanistan by summer 2012, instead of only half that surged number. Whether we stay there another ten years or leave tomorrow, Afghans are gonna do what Afghans do.

    Oh yeah, don't forget however much you may want to: President Obama is running around banging the drum for more taxes after he lawyer-shopped to go more-Bush-than-Bush in Libya.

    But President Obama does have a point about the fair-share nature of taxes. Or what should be fair share.

    So after the default, increase income taxes 3% on every local, state, and federal government employee no matter their income level in addition to the $250K+ rich.

    That would double the revenue take. And recoup some of the $26 billion stimulus from Aug. 2010. Everybody then would have something to complain or cheer about in equal measure.

    Government employees are the most-immediate recipients of taxpayer money in a mutually-beneficial way. But the role of the private sector as the driver of all things has been obscured. I don't begrude a city hall or street department worker, policeman or fireman their wages, they earn it. But their fair share should be proportionally greater than a worker in the private sector. 3% greater.

    July 2, 2011 at 11:36 am | Reply
    • kar

      Taxing public employees simply because they're beneficiaries of tax revenue is in no way fair. That's akin to saying that seniors don't deserve medicare beyond their contributions, because they're tax recipients, the poor should suffer a cut because they're recipients, and schools should really pay their own way because they're recipients. Just because federal employees make money generated from income taxes doesn't mean that their jobs are less important than private sector jobs, and they shouldn't be charged with an unfair tax as a result. If there's one sector that's already disproportionately borne public ire, it's been public employees. In addition to losing their jobs, they faced pay cuts in numerous places due to this myth that they're more well-compensated than their private sector equivalents. So they shouldn't serve to bear the brunt of our financial woes.

      As for debt default, I'm not quite ready to see the U.S. speed its own economic demise. So, no, it really wouldn't be a blessing in disguise.

      And as for the wars in Libya, one word. Iraq. No solid reason, tons of money spent. Libya's not anywhere near that level, nor can it ever be with restrictions imposed by Congress. Then, there's Afghanistan. Don't forget, Bush got us into those messes in the first place, with no clear way out.

      July 2, 2011 at 2:31 pm | Reply
    • pn

      I hope you never run for public office.
      Let me point out that the more underpaid government workers are, the less qualified they will be. You want some moron at the IRS audit your tax return? You want some idiots run the Pentagon? Someone with a degree from Oral Roberts to inspect our nukes?
      Try to register a car in North Carolina and see how nicely you'll be treated by low paid state workers with a ridiculous benefits package.

      July 2, 2011 at 2:55 pm | Reply
      • William

        Kar is an idiot. Disregard all of his future posts. A more intelligent response is truly not warranted.

        July 7, 2011 at 1:57 am |
  13. jdg

    I don't know about all the other people who have replied to this but I am not a millionare or billionare. I make 45,000 a year And tired of paying for the rich. You want a budget here is a budget 1Eliminate Welfare from this country.
    2. Stop Paying Governors, and Senators they just ruin the states they are elected in (Democratic, and Republican)
    3. All those that are elected in office now pay them on a merrit scale, based on public favor.
    4. Stop sending aid to these 3rd World countries that do nothing for us but have their hands out for our tax money.
    5. Its not Obama's or Bush's fault that the country is like this ITS OUR FAULT FOR NOT STANDING UP FOR OURSELVES, We elected these persons to where they are. STOP CRYING STOP FINGER POINTING ITS ON US ALL OUR FAULT.

    July 3, 2011 at 10:04 am | Reply
  14. Roy

    I say let the US default. This whole system of debt and interest created out of nothing is so unsustainable that sooner or later the US WILL have to default. Either that or write off the debt. It was created out of nothing anyway. Who's profiting from this whole mess? The banks. Who suffers? The people. So just say, we ain't got no money to pay. Yes there will be disastrous consequences. But understand that even raising the debt ceiling, even cutting spending to nil, even taxing to death, this hole is too deep to crawl out of already. It's just buying time for the inevitable. Might as well let it happen now. And start all over again. There needs to be a depression, before things will be for the better. The people of 1930s had it for them. Lets not be selfish and have our share too for the sake of a better future.

    July 22, 2011 at 2:44 pm | Reply

Post a comment


 

CNN welcomes a lively and courteous discussion as long as you follow the Rules of Conduct set forth in our Terms of Service. Comments are not pre-screened before they post. You agree that anything you post may be used, along with your name and profile picture, in accordance with our Privacy Policy and the license you have granted pursuant to our Terms of Service.

Follow

Get every new post delivered to your Inbox.

Join 4,680 other followers