Council on Foreign Relations Global Economics Monthly
Issue 9 | February 2014

Global Economics Monthly

Pax Budgetus

Robert Kahn, Steven A. Tananbaum Senior Fellow for International Economics

Bottom Line: A truce has been declared in our long-lasting fiscal wars, reducing market uncertainty while deferring the long-term entitlement and revenue debate. But Congress still matters for economic policy, and its recent failure to pass International Monetary Fund (IMF) reform legislation undermines U.S. authority abroad while weakening the global capacity to respond to crises.

One of the most striking elements of last week's State of the Union address was the scant reference to the fiscal deficit. A bitter war has been waged over the last three years, with multiple fiscal cliffs, threats of shutdowns (and one real partial shutdown), and enough drama around the debt limit to badly unsettle money markets. Now, the deficit is old news, barely even drawing a Republican comment.

At the same time, the dysfunctional relationship between Congress and the Obama administration was on full display recently with the Hill's failure to approve an IMF-reform package that would strengthen the institution and U.S. influence on international economic issues. Fortunately, Congress will have other chances to get this right by attaching the legislation to must-pass bills, but success will require a stronger political effort from the administration, backed by a bipartisan coalition of lawmakers and business leaders.

A Changing Political Landscape

In a speech that he gave in December on income inequality, President Barack Obama declared: "When it comes to our budget, we should not be stuck in a stale debate from two years ago or three years ago… A relentlessly growing deficit of opportunity is a bigger threat to our future than our rapidly shrinking fiscal deficit."

This shift in priorities was reflected in the recent passage of the $1.1 trillion omnibus spending bill for fiscal year 2014. For the first time in several years, the government was funded without a last-minute cliffhanger or partial government shutdown, which hopefully heralds a period where fiscal policy risk is not a major driver of market volatility and drag on confidence.

December's bipartisan agreement on an omnibus spending deal marked the start of the truce, but fundamental changes took place as a result of the government shutdown in October 2013, the debt limit showdown, and its aftermath. Economists had argued for some time that confrontations over spending and the debt limit were damaging the economy, but it took a political disaster for politicians to buy into the need for a truce. The next big test will be the debt limit extension. Reflecting the lessened desire for confrontation, it now seems likely that Republicans will not ask for spending cuts equal to the debt limit increase, and will look for small, less consequential concessions. The Obama adminstration claims that a debt limit increase will be needed by late February, but, as I have argued in the past, if the deficit numbers are good, the Treasury may not even need a debt ceiling increase until June or July.

Figure 1. The fiscal deficit is not the near-term problem we thought it was

Source: CNN Money, St. Louis Federal Reserve

Read more »

Looking Ahead: Kahn's take on the news on the horizon

Emerging Markets Turmoil

Recent market turmoil looks overdone and Fed tapering isn't to blame, but emerging markets will continue to differentiate and liquidity likely will remain poor.

Debt Limit Extension?

The U.S. Treasury says it needs a debt limit extension by the end of the month, but may be able to continue until summer without an increase. Republicans don't want a fight.

Europe Quantitative Easing

The European Central Bank continues to resist pressures to ease monetary policy, as lending conditions remain tight ahead of asset-quality review of banks. The Bank should consider purchasing government bonds (quantitative easing) or private periphery assets.

From the Macro and Markets Blog

Obama's Modest Proposals for Growth

Robert Kahn

Focusing on creating economic opportunity, President Obama's State of the Union address is a realistic assessment of the hurdles he faces at this stage of his presidency. Here is my take on some of the macroeconomic policies highlighted by the president. Read more »

Fischer to the Fed

Robert Kahn

I applaud the nomination of Stan Fischer as vice chairman of the Federal Reserver, especially considering imbalance in Feb Board seats in the absense of Chairman Bernanke. Read more »

Five Policy Issues for 2014

Robert Kahn

Earlier this week I highlighted five issues that could prove particularly thorny for international economic policymakers this year. Of the five, I have received the most push back on the Japan question. Read more »

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