By Geoffrey Garrett
PUNDITS have been quick to dub the US's debt ceiling crisis the third mortal wound to America and its standing during the past decade: first 9/11, then the global financial crisis, now the end of the "full faith and credit" guarantee of the US government. The stockmarket crash, shedding more than 6 per cent in two days, seems only to confirm the worst. No doubt the US economy is in dire shape. But its problems are different from Europe's. The financial markets are scared to lend European governments more money. The US government can borrow as much as it wants. Washington just cannibalised itself before agreeing to let this happen.
The debt ceiling crisis was a sideshow. America's real problem is its reinforcing economic and political crises. After two years of at best tepid recovery, the economy has flatlined. Gridlocked Washington is incapable of showing any leadership to revive it.
If the US had not raised the debt ceiling, "economic Armageddon" could have played out: no more AAA rating, higher interest rates, a plummeting dollar and global financial chaos. Even though no one was happy with the 11th-hour deal that was done, the always improbable sovereign default scenario didn't happen.
What did happen was that the stockmarket, already jittery from Europe's sovereign default risks, finally crashed because of yet more dire news about plummeting American consumer spending and consumer confidence.
Debating whether to cut the Pentagon or social security in 2020 was irrelevant.
Most mainstream experts agree on what the US needs. More stimulus today for an economy on life support, probably led by the US Federal Reserve Board. Reform aged health care and pensions during the next couple of decades to withstand the ageing of the baby boom. Target investment to help more Americans compete in the world of technology-driven globalisation it largely created.
The debt ceiling fight that embroiled Washington wasn't about any of this but it finally allowed the US government to borrow more money, which the US can do much more easily than many seem to think.
According to the International Monetary Fund, the net government debt to gross domestic product ratio for the US at the end of this year will be 72.4 per cent, much higher than before the US threw trillions of dollars at the war on terrorism and the GFC, but also much lower than the Mediterranean countries.
Italy is the latest target of sovereign risk fears. Its net public debt this year is estimated at 100.6 per cent of GDP. Greece's will be about 20 per cent higher still. No one talks about a fiscal crisis in France, but its public debt is higher than the US's.
The Italian government has to pay more than 6 per cent to borrow money long term from the global financial markets. Greece has to pay more than 15 per cent. The interest rate on 10-year US Treasury bonds is 2.5 per cent.
So let's be clear. The US is not Italy, let alone Greece. But it is caught in a very dangerous political-economic cycle, with three mutually reinforcing elements.
First, there is a partisan chasm in US politics. The Tea Party Republicans are channelling all Ronald Reagan, all the time: government is the problem, not the solution; less government spending is always better; cutting tax rates will increase revenues. Left Democrats are clinging to the legacy of Franklin Roosevelt and Lyndon Johnson, defending Medicare and social security, come what may. As Republican Speaker John Boehner and Barack Obama found out, there is just no middle ground here.
Second, American inequality is sky high and still rising. American multinational firms and their executives are making big profits and big salaries from their global operations. But the lost jobs and falling wages of less skilled workers toiling at home in manufacturing, construction and retail aren't coming back.
Finally, all the headline economic indicators for the domestic economy are pointing south. House prices fell 30 per cent in the GFC and have been flat since. Unemployment is still more than 9 per cent and heading up again. Consumer spending continues to fall as anxious Americans hide money under the bed. Businesses are sitting on mountains of cash but they won't invest in the US until the consumer comes back.
No surprise that the political heat on Washington is white-hot. Obama made a tactical decision for this year that now looks like a big mistake. He allowed the Tea Party to frame the economic debate because he thought his country would agree its adherents were crazy. Many of the Tea Party's ideas still seem crazy, particularly when all the economic indicators are blinking red. But in political terms the Tea Party has been crazy like a fox.
Obama didn't anticipate that it would use the normally routine extension of the debt limit to play a game of chicken in which it was willing to risk not only the US economy but also its own re-election prospects.
This got the Tea Party most of what it wanted in the debt ceiling endgame. Spending cuts will be bigger than the debt limit increases. The debt limit will increase in two stages, guaranteeing more attention to the issue again before next year's elections. Congress will vote this year on a balanced budget amendment to the constitution. A bipartisan commission will consider tax reform, not tax increases. Debating the merits of these initiatives is irrelevant because none of them will do anything in the short term to breathe life into an economy in intensive care. The debt ceiling fiasco probably only moved some deckchairs on the Titanic.
Geoffrey Garrett is chief executive of the US Studies Centre at the University of Sydney.