Let's not make a deal

It's probably time to acknowledge that no deal - no deal favorable to Democratic political or economic interests at any rate - is going to arise from the current negotiations on the debt ceiling. It's clear that Republicans will not at this time agree to one penny's worth of tax increases. Part of the reason for this is because of the anti-tax religion that has swept over the party. But there's a pragmatic reason as well: Republicans at some point will be willing to close tax loopholes and special preferences like the tax break for corporate jets, but they plan to use that concession to finance reductions in marginal tax rates in a coming round of tax reform. At any rate there's really no sense in continuing to hope and bargain. The only agreement that seems plausible is one where Democrats agree to some modest spending cuts and Republicans structure the agreement so that we have to go through this same ordeal several more times before the 2012 election.

In that case, I think it's time for Barack Obama to say that negotiations have collapsed and he's going to take a nice long vacation in Hawaii. When he gets back he expects to see a no-strings-attached bill to lift the debt ceiling that carries us through the 2012 election on his desk. In the same breath he can say that he is committed to carrying out negotiations with Republicans int he context of the FY 2012 budget using the Bowles-Simpson / Gang of Six framework as a starting point. He can make the point that the debt ceiling debate was never the proper forum for these negotiations anyway: Congress passed a budget resolution, which the President signed, that committed the US to a certain amount of borrowing during FY 2011. If Republicans don't want the government to borrow more, they should pass a budget that doesn't require it to. Until then, I think everyone can agree that the government should pay for what it buys.

Will the Republicans balk? Yes they will. On August 2 Congress will fail to pass the resolution lifting the debt ceiling. The DJIA will then fall 700 points and the Federal Reserve will announce that it will essentially guarantee the US debt by purchasing any amount anyone wants to sell. Congress will then meet again and pass the resolution, resolving the crisis. I think this is probably what's going to happen anyway, but with a bill that cuts spending and worsens the recession. Under my plan, we get the same day of total panic but none of the harmful spending cuts.

That's not to say that spending doesn't have to be cut sometime. I don't think it will be the end of the world if the government decides to save a few hundred billion dollars on Social Security by using the chained CPI instead of the current CPI to index payments. But if we do that, it should be in the context of a serious budget deficit reduction program that includes meaningful tax increases. We don't cave on that issue in exchange for a closing of the tax break on corporate jets. With time, perhaps Congress and the Administration can actually come up with a sensible multi-year fiscal plan. The plan should absolutely include a carbon tax (Brad DeLong notes its strange disappearance from the debate, something I've been wondering about myself). President Obama has a strong hand to play in negotiations over a real deficit agreement. Without some legislation to the contrary, the biggest of the Bush tax cuts expire in 2012 and rates go back to what they were in 2000. The expiration of these tax cuts will do more than any proposal out there to restore long-term balance to the budget. If the Republicans want some of the current tax rates to stay in place, they will have to deal or make it a campaign issue in 2012.

One more strategic consideration. If the Democrats get a deal on the budget now, the budget declines as an issue in 2012. And then what will the campaign be about? It'll be about the fact that the unemployment rate is still 9%. If there's no deal, then the 2012 campaign is all about Medicare, taxes, and the budget - I think the Democrats will be pleased if that's the case. I'm willing to sacrifice the Democrats' electoral interests for a good budget deal, but not the lousy kind I think we're likely to get if we try to agree to something in time for a lifting of the debt ceiling.