The Sequester Silliness
The budget battles between President Obama and the Republican Congress seem to be following a pattern where the stakes grow ever smaller, while the amount of vitriol gets ever larger. This is clearly the case with the threat of the sequester of roughly $85 billion in spending that is scheduled to begin March 1.
As background, the first major standoff occurred in the summer of 2011 over the increase in the debt ceiling. The Republicans in Congress were insisting that projected spending over the next decade be reduced by a dollar for each dollar the ceiling was raised. This dispute carried real consequences, because if the ceiling was not raised, the government would not be able to pay debt service or meet other obligations. That created a potential for a crisis that would shake financial markets across the world.
As it turned out, a deal was reached a few days before the ceiling was hit. This deal then laid the conditions for subsequent battles. It set a framework for negotiations on future budget cuts. If these negotiations failed, then a series of budget cuts was set to go into place beginning on January 1, 2013.
That gave us the second major crisis, which was dubbed the “fiscal cliff.” In addition to a set of approximately $110 billion in spending cuts, January 1, 2013 was also the date that two major tax cuts were set to expire, leading to an increase in taxes in 2013 of more than $500 billion. The combined impact of the tax increases and spending cuts would almost surely throw the economy back into recession.
Congress and the President reached a deal which was signed into law two days after the so-called cliff was reached. This deal extended most of the income tax cuts, subjecting only the richest households to higher income taxes, although it did allow a temporary $100 billion cut in payroll taxes to end. It also put off the effective date on the spending cuts until March 1, 2013.
This is what the country now faces, with across the board cuts of $85 billion to be split evenly between the military and broad areas of domestic spending, this accounts for roughly 6 percent of spending in the affected areas. While the drop-dead nature of the fiscal cliff was hugely exaggerated (as demonstrated by the fact that we crossed it and no one seemed to notice) the March 1 deadline is even less urgent.
In the event that no deal is reached by this date, cuts in a number of areas would start to take effect. Pulling $85 billion out of an already weak economy is undoubtedly a bad move. According to estimates from the Congressional Budget Office and other independent forecasters it will reduce the growth rate by 0.6 percentage points.
The economy is already slowing due to the ending of the payroll tax cut. As a result, the sequester cuts are likely to push the growth rate well below the 2.0-2.5 percent rate needed to keep pace with the growth of the labor force. This means that the unemployment rate would likely edge higher in 2013 if the cuts go into effect as scheduled.
However, the March 1 deadline has no special significance in this story. If the deadline is passed and cuts begin to take effect, but Congress subsequently opts to reverse the cuts, the impact on the economy would be minimal.
Of course this is a bad way to run a government. It doesn‘t make sense to lay off or furlough workers one week and then call them back two weeks or two months later. Nor does it make sense to cancel purchases and projects only to reschedule them when funding is subsequently restored.
This stop and go route to government will undermine worker morale. It will also raise costs since this process is guaranteed to make doing anything more expensive. But none of this constitutes the sort of crisis that the country would have faced if the debt ceiling had been reached or the full set of tax increases and spending cuts had been allowed to go into effect at the start of 2013.
Interestingly, President Obama seems to be taking a much harder line in the negotiations over the sequester than he had in prior negotiations. He has proposed keeping many of the cuts to the military budget, which the Republicans do not want to see go into effect. He has also proposed a series of modest tax increases that mostly involve removing industry specific tax breaks. These are also anathema to most Republicans.
In order to increase pressure on the Republicans to accept his proposal, he has decided to take advantage of his control over spending to target some vital areas where the impact would be quickly felt. Specifically, he plans to cut back the number of air traffic controllers and security inspectors at airports. This will cause travel delays as flights are cancelled and also to longer security lines at airports.
The ensuing public anger will likely force the Republicans to quickly make a deal. With any luck, this will be the end of the fiscal showdowns and we will be able to return to more serious discussions of the budget and the economy.
Dean Baker is a macroeconomist and co-director of the Center for Economic and Policy Research in Washington, DC. He previously worked as a senior economist at the Economic Policy Institute and an assistant professor at Bucknell University.