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CRISIS/ Long-term picture for US economy remains gloomy

August Wed 03, 2011

House Majority Leader John Boehner, President Obama, and Senate Majority Leader Harry Reid partcipate in the debt negotiations  House Majority Leader John Boehner, President Obama, and Senate Majority Leader Harry Reid partcipate in the debt negotiations

On Monday morning the world awoke to the news of a US debt deal. After months of overblown rhetoric and weeks of brinkmanship, Democrats and Republican in the US Congress finally produced a common framework that raises the federal borrowing limit. The agreement - assuming it clears the last hurdle and actually becomes law - will avert a potentially catastrophic debt default, but it is a far cry from the grand bargain that the US really requires to save the faltering recovery at home and boost the world economy.


It will take some time before the details of the deal are known. What is already clear however is that the debt ceiling will rise by about US$2.1 trillion, in two stages until 2013, so beyond the 2012 presidential campaign - key Democrat demands. In exchange for these concessions, Republicans have successfully pressed for spending cuts amounting to at least US$2.5 trillion over 10 years, of which about US$1 trillion are agreed. The remaining US$1.5 trillion will be the subject of a new bipartisan Congressional committee.

Failure by that committee to agree later this year would trigger automatic cuts in programmes defended by Democrats and Republicans respectively - social security and military expenditure. Under the framework negotiated by Congress, approximately half of those cuts would be in defence spending and the other half in domestic programmes such as farm subsidies or discretionary spending (including Medicare).

On the face of it, the debt deal sounds like a sensible compromise after months of vitriolic discord. But in reality, the agreement is little more than a short-term fix that fails to cure the long-standing US addiction to debt-fuelled consumption or to address the chronic lack of strategic investment.

It is true that the deal seeks to reduce long-term borrowing, but not by nearly enough. None of the "sacred cows" so beloved by Democrats or Republicans will be significantly touched. For example, the US could save more than $100 billion in the next ten years by changing the cost-of-living adjustments for people on social security benefits. Non-partisan experts have shown that the existing formula overstates real inflation. But this change is anathema to Democrats.

Likewise, cuts to military spending will come predominantly from shrinking existing efforts in Iraq and Afghanistan. Prohibitively expensive procurement deals and other wasteful programmes remain firmly in place, to the delight of Republican hawks. Partisan politics and sectional interests have once again prevailed at the expense of the public good.

Short-term spending cuts that threaten the fledgling recovery will be limited, as planned savings are back-loaded. But any reductions to public expenditure this year are a huge gamble. Last week's revised figures for economic growth were disastrous, and job creation in the private sector has all but ground to a halt. Further temporary stimulus is desperately needed, not in the form of expensive federal programmes but rather in terms of strategic investment, for example via community banks and local investment trusts.



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