European Fiscal Crisis Could Shape Debate Over U.S. Economy
European Fiscal Crisis Could Shape Debate Over U.S. EconomyBy RICHARD W. STEVENSON
Mitt Romney effectively wrapped up the Republican presidential nomination. Newt Gingrich said he would drop out. President Obama stumped through key swing states. But there’s a case to be made that the developments this week with the greatest long-term meaning for American politics took place across the Atlantic, not in Washington or New Hampshire or Iowa.
The Times’s political editor on 2012.
In Britain, the economy lapsed into a double-dip recession, a result in part of a strict fiscal austerity plan imposed by the conservative government. And political tremors swept across the Continent as the European Union engaged in a fierce battle over whether Germany is demanding excessively deep budget cuts in the effort to keep debtor countries from financial collapse.
At a minimum, Europe’s woes could create another headwind for the United States economy. More broadly, events there, as distant as they might appear to voters here, have a direct bearing on the central debate in the presidential campaign, over the size and role of government and the degree and timing of deficit reduction necessary to forestall a long-term fiscal crisis.
But whichever side of the ocean you are on, few topics are more ideologically divisive than fiscal policy, so it’s no surprise that left and right are drawing very different conclusions from what is happening.
From one perspective, the European experience provides yet more evidence that trying to slash budget deficits too aggressively can backfire in a big way when economies in most nations remain fragile.
Britain’s austerity experiment in particular has been judged by economists to have been ill-timed and poorly constructed at best. It is a reminder, in the consensus view, that the basic tenets of Keynesian economics – primarily, that government spending plays a key role in maintaining demand when the private sector is struggling in a severe financial crisis — remain as valid as ever.
In the United States, the British experience is being held up, by Democrats and mainstream economists, as an object lesson in the risks inherent in aggressive short-term budget-cutting amid signs that the recovery could be losing traction again.
However flawed the stimulus plan Mr. Obama pushed through Congress more than three years ago, fiscal policy has helped the United States generate stronger growth rates coming out of the recession than Britain or the euro zone countries.
“The U.K. made a stupid mistake,” said Ian Shepherdson, an economist at High Frequency Economics. “Theoretically, the U.S. is in a less-bad situation than the U.K. to deal with fiscal tightening – but less-bad does not mean good.”
From another perspective, the European upheaval is a warning that cleaning up the mess from chronic over-borrowing is a long and deeply painful process, both economically and politically, and that the best option is to clamp down on government profligacy before it gets out of hand.
To many Republicans, Europe today represents what will happen to the United States if it does not act now to rein in spending, cut taxes and free businesses from many of the costs of regulation.
“What we’re seeing here is what happens when politicians make so many empty promises to their citizens, and then they turn into broken promises when they can’t keep spending other people’s money,” said Representative Paul D. Ryan of Wisconsin, the Republican chairman of the House Budget Committee.
Mr. Ryan’s recent budget proposal embodies the conservative view that shrinking government in an immediate and substantial way will clear the way for more robust private sector growth and remove the threat of the United States being brought down by a mountain of debt.
“We’re trying to pre-empt austerity,” Mr. Ryan told Jonathan Weisman of The Times on Thursday. “We want to prevent that bitter kind of European austerity mode which is what we will have if we have a debt crisis: austerity round after austerity round after austerity round, cutting benefits to current seniors, cutting people in the safety net, raising taxes, slowing down your economy, making it harder for youth to get employed and get careers. That’s what you do after a debt crisis hits.”
The problems facing Greece and the other most deeply troubled European economies are different from what is facing the United States in many ways, including scale. The United States, unlike, Europe, faces little immediate pressure from financial markets and has the ability to operate its fiscal and monetary policy in tandem, while European governments gave up direct national control of monetary policy when they agreed to adopt a common currency.
But the comparisons to Britain, which stayed out of the currency union and now has a government very much in synch philosophically with the Republican Party in Washington, are far more direct in both political and economic terms.
Mr. Ryan’s plan proposes roughly the same scale of deficit reduction as is being sought by the British government. The British budget calls from reducing that nation’s deficit from a current level of 8.3 percent of gross domestic product to 1.1 percent in five years, while the Ryan plan would bring the deficit in the United States from 7.6 percent of G.D.P. to 0.9 percent over the same period purely through spending cuts.
Mr. Obama’s budget proposal, which cuts spending more gradually than the Ryan plan, has a goal of reducing the deficit to 2.5 percent of G.D.P. in five years.
To Democrats and economists outside the partisan wars, the results in Britain leave little room for argument. Austerity in the short run, they say, does not strengthen economies still recovering from severe credit crunches of the sort that sent the United States into its deepest downturn since the Great Depression.
Conservatives, in a familiar echo of a long-running domestic argument, say the problem with the austerity plan put in place by Prime Minister David Cameron’s coalition government in Britain is not that it was ill-timed or too aggressive, but that it relied too heavily on tax increases.
About a third of its deficit reduction comes from higher revenues. Mr. Ryan’s plan contains no tax increases, and Mr. Obama calls for tax increases to make up about a third of his deficit reduction plan.
“The problem with the British consolidation was too much tax increase,” said Kevin A. Hassett, an economist at the American Enterprise Institute who co-authored a study
concluding that successful fiscal tightening plans tend to be those that rely on spending cuts for at least 80 percent of deficit reduction.
If there is any shared lesson from Europe, it is that the United States cannot afford to let the clashes over budget cutting in the short term keep it from finding some consensus on how to begin addressing the mounting long-term costs of supporting an aging population. At some point, the two parties will have to reach some kind of compromise to fix the imbalances looming in the decades ahead – something Mr. Obama and House Speaker John A. Boehner came tantalizingly close to achieving last year.
“It’s not an issue of whether the U.S. has to go through a fiscal consolidation,” said Domenico Lombardi, a senior fellow at the Brookings Institution and president of the Oxford Institute for Economic Policy. “It’s a matter of devising an appropriate pace at which the U.S. can credibly and sustainably consolidate.”