As of Wednesday there were 13 days until the United States begins to default on its debt, barring a deal in Congress. Such a deal, sadly, continues to be elusive, as it has been for many weeks and months. Our politicians can't seem to muster the courage of their convictions to compromise for the sake of the country.
To help us put all this in perspective and to talk about much more, I invited the former President of Harvard, the former Treasury Secretary, and the former Director of the National Economic Council, Larry Summers, onto the show. Below is an edited transcript of our discussion. To listen to our complete conversation, be sure to check out this week’s podcast.
The meaning of a default
Fareed Zakaria: You were Treasury Secretary. Walk us through what happens if there is an actual default.
Larry Summers: With an actual default, that the United States does not pay back money, principal and interest on its debt. At that point, the country is declared to be in default. Financial instruments that people hold that have been regarded as safe cease to be regarded as safe. A panic begins on money market funds and many other parts of the financial system, and a cascade that makes Lehman Brothers look like a very small event unfolds.
It seems to me that it is an unthinkable financial risk to take. And it seems to me also important to remember that once that threshold has been crossed, there is an uncertainty premium that will continue for a very long time to come.
Fareed Zakaria: In other words, it would take people a long time to get comfortable again.
Larry Summers: A long, long, long – a long, long, long time, and that means that the question cannot be how we will have a default, how we will manage a default, how we will prioritize payments. The question has to be what's the formula going to be for avoiding such a catastrophe.
Fareed Zakaria: If there were a default, some people have said, you can imagine the borrowing costs for the United States would go up by one percentage point, 100 basis points, which would add $150 billion to the deficit every year. Does that strike you as in the range?
Larry Summers: That's a number you could imagine. I am less worried about the borrowing costs and more worried about the disruption, as there were runs on banks, runs on money market funds, exchanges face the prospect of collapse. Institutions that have been built over decades were swept away, and, as they were swept away, the ability to carry on routine financial business, to clear checks, to pay bills, to meet obligations would be – would be lost. It would be a cataclysm, and it would be a totally self-inflicted cataclysm.
There are countries in the world where there's an issue of whether they can meet their obligations. There's no question the United States can meet its obligations. The question is whether we will.
You know, Fareed, the way I liked to say it is, my daughters are in college. We can argue about how much they should spend, we can argue about how much I should pay, we should argue about how much they can pay. The only thing that you can't really argue about is that we do have to pay the Visa bill. Our family does.
And this idea that somehow that we can not pay because we're having a political fight over how to handle the spending and taxing really is an example of democracy functioning in the worst possible way.
The politics behind the budget deal
Fareed Zakaria: So take me through what you think the calculation is, because you were there in the White House. Many of the same characters in the Republican Party you know, let's talk about what they think.
Eric Cantor, John Boehner, Mitch McConnell say, here's the problem. We always get these deals, and the spending cuts never materialize and the tax raises do, and so we don't want a deal that sort of promises cuts in the future. We want something that is rock solid now.
Larry Summers: Well, let's begin with the fact that when a Democrat left the White House, Bill Clinton in 2001, and the Treasury Secretary, me, left the White House, the country was in surplus and was paying back its debt. And then, a set of proposals put forward by a Republican president, enthusiastically supported by a Republican majority in both the Senate and the House were passed, and, as a result –
Fareed Zakaria: These are the tax cuts?
Larry Summers: The tax cuts, the Iraq War, the prescription drug benefits, huge increases in discretionary spending, much larger than anything that took place during the Clinton years. And, as a consequence, the economy was in substantial deficit. And then, the economy was, because of other problems, poised with a bubble for a crash, and it then crashed.
So they're in no position, I would argue, to lecture others about fiscal responsibility.
Where are we in this debate? The president's health care bill contained very substantial cuts in Medicare. The president has even raised the prospect of pushing upwards on the Medicare age, something that was unthinkable to many Democrats. The president has indicated a willingness to consider changes in social security.
A Republican like Alan Simpson, who is of the Budget Commission, has said that it is not the president who is to be faulted for an unwillingness to compromise. There is plenty of movement to entertain spending cuts. The question is whether it's going to be 100 percent spending cuts of one type or whether there's going to be any balance.
It's not that the president and his colleagues have talked about the prospect of raising taxes on middle class families. It's not that they've even talked about raising income tax rates. They've talked about eliminating a special tax break for the owners of corporate jets.
Fareed Zakaria: But those are trivial numbers. You'd have to do a lot more than that.
Larry Summers: Even though you would ultimately have to do more, but even corporate jets and hedge fund special treatment is too much revenue increase for the congressional majority.
So I don't think there should be any confusion here about who's willing to walk a mile to compromise so far. The president has shown that in any of a variety of ways, and the president has never said that it's my way or default. The president would be happy to see an agreement to move us past the prospect of default on almost any terms.
It is the House majority, the Republican House majority, that has indicated that they want to use the credit worthiness of the country as a hostage to pursue a particular agenda and to pursue it without compromise. I don't think that's the right way to advance the interests of the country.