Home > Uncategorized > Simon Johnson: Fiscal Confrontation Undermines the U.S. – NYTimes.com

Simon Johnson: Fiscal Confrontation Undermines the U.S. – NYTimes.com

The “fiscal cliff” coming at the end of this year could be resolved in a reasonable manner (if you need a primer on what is coming, I recommend these graphics from NPR’s “Planet Money”). For example, let the Bush-era tax cuts expire and replace them with other temporary tax cuts (e.g., to payroll taxes), to provide short-term support to the economy. And American politicians could find other ways to restore federal government revenue to where it was in the late 1990s while also bringing health care spending under control.

The point is not to make precipitate adjustments but rather to increase revenue and limit spending in a reasonable manner over the next two decades.

But this is not going to happen. Congressional Republicans will refuse to consider anything they regard as a tax increase, and the fiscal cliff is likely to become a repeat of the debt-ceiling fight last summer, which ended up making everyone in Washington look bad. What would be the consequences?

First, this will definitely be destabilizing to world financial markets – making people more concerned about risk both in the United States and around the world. Anyone who pays a “risk premium” when they borrow – including American home buyers and euro-zone governments – is likely to be affected negatively. Uncertainty and fear will increase, slowing the economy in the United States and perhaps contributing to yet another round of crisis in Europe. The stock market will presumably fall.

Second, yields (market-determined interest rates) on United States Treasury debt are likely to decline. In most other countries, when politicians act irresponsibly, bond yields go up. But we are still the world’s No. 1 safe haven – so capital will come into the United States. Some politicians will see this as justification for their tactics – and continue with more of the same.

Third, Dr. Subramanian will be proved right, faster than would otherwise be the case. The world will more eagerly seek an alternative to the fickle American dollar. It will become increasingly hard for the United States to borrow at reasonable interest rates. Indeed, one striking point in “Eclipse” is the speed with which the British pound lost its predominance once the British position weakened as a result of World War I.

The dollar became strong because American politicians were responsible, careful and willing to compromise. Fiscal extremism, confrontation and a refusal to consider tax increases over any time horizon will undermine the international role of the dollar, destabilize the world and make it much harder for all of us to achieve any kind of widely shared prosperity.

via Simon Johnson: Fiscal Confrontation Undermines the U.S. – NYTimes.com.

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