Q&A: What next after the super-committee?
- 22 November 2011
- From the section Business
With the failure of the Congress super-committee to agree any budget cuts, where does it leave the US government's finances?
What was the super-committee supposed to do?
The 12-member committee, made up equally of Republican and Democrat lawmakers, was supposed to to help rein in the federal government's budget deficit, or borrowing rate.
It was set up in August after an impasse in Congress between the two parties over raising the debt ceiling - a legal cap on the federal government's total borrowing - nearly forced the administration to start reneging on its spending commitments, risking a debt default.
It was hoped that the special committee could bridge the political divide and agree some $1.2tn (£0.7tn; 0.8tn euro) in budget cuts.
Why did it fail?
Republicans opposed any kind of tax rises and instead sought to protect the tax cuts for high earners that were passed under former President George W Bush.
Democrats did not want to concede any cuts in entitlement programmes - such as social security, and healthcare programmes for the poor and the old - unless the Republicans also agreed to tax rises.
A Quinnipiac University poll released on Monday found that American voters blame Republicans in Congress more than they do President Barack Obama and Congressional Democrats by 44% to 38%.
What happens next?
Unless there is any agreement, automatic across-the-board "sequestration" spending cuts, worth $1.2tn, will be triggered from 2013.
About half of these will affect the defence budget - alarming most Republicans. Education and healthcare will bear most of the rest.
In addition, the following important budgetary changes are also set to happen:
- Cuts to discretionary spending worth $70bn this year
- Expiry of President Obama's payroll tax cut at the end of the year
- Expiry of extended benefits for the long-term unemployed next year
- Expiry of ex-President Bush's tax cuts at the end of 2012
What does it mean for US government borrowing?
Because of the sequestration spending cuts, the effect of the super-committee's failure should be neutral.
However, there are two other important considerations.
Firstly, if a deal had been reached, it was expected to include some element of short-term spending stimulus for the economy, in return for longer-term spending cuts (particularly those related to entitlement programmes).
"Stimulus" basically means a one-off round of borrowing and spending by the federal government to give an extra short-term boost to the economy. That won't happen now.
Secondly, and conversely, to the extent that the economy suffers as a result of the failure to agree any stimulus, the government's borrowing may actually not fall anywhere near as much as a simple budget calculation would suggest.
That's because a sluggish economy means lower tax revenues than expected, and more people losing their jobs and claiming unemployment benefits.
What about its credit rating?
The US was already downgraded in August this year by Standard & Poor's, one of the big three rating agencies, which cited the political deadlock in Washington as its main reason.
A second - Moody's - has given its top AAA rating of the US a negative outlook, meaning a downgrade is possible if things do not improve.
However, both firms reaffirmed their ratings on Monday and said that the failure did not change their assessment of the US government's ability to repay its debts.
However, the third agency - Fitch - has indicated that it may now follow Moody's later this month, by putting its AAA rating on a negative outlook.
And what about the US economy?
Almost certainly the super-committee's failure is bad news in the short-term.
The payroll tax holiday and extended unemployment benefits are now due to expire.
That is not good for low-income families - who are disproportionately affected by payroll taxes - and those who have been without work for over a year.
Both these measures had been agreed by this same Congress and President Obama last December in the last such stimulus package.
When these measures expire, it could have a big impact on consumer spending, because those on low incomes tend to spend a bigger share of what they earn.
Moreover, President Obama had been pushing for a big new $450bn stimulus deal to promote jobs creation. The chances of that happening this side of next November's elections look pretty slim now.
The total drag on US economic growth from these and other spending cuts and tax rises that are in the pipeline is estimated by Goldman Sachs to be 1.5 percentage points by the beginning of next year.
That could be enough to bring the economy to a standstill.
And the picture from the end of 2012 - when Bush-era tax cuts expire and sequestration spending cuts come into effect - is even worse.
Are markets nervous about lending to the US?
On Monday, stock markets were clearly unimpressed by the spectacle of political sclerosis on Capitol Hill.
However, the US government continues to enjoy record low interest rates, even on its longer-term borrowing.
Indeed, after the US government's credit rating was downgraded by Standard & Poor's in August, its borrowing cost actually fell on financial markets even further - even as the stock markets dropped sharply - suggesting that lenders did not agree with the rating agency's analysis.
The reason is that - unlike eurozone governments, but in common with the UK and Japan - the US controls its own money supply.
That means it can always rely on its central bank, the US Federal Reserve, to print more money to help it repay its debts.
Normally, printing money risks inflation.
But in the current heavily indebted economy, in which neither consumers nor businesses, nor even the government, want to increase their spending, inflation is not a big risk.
Instead, the markets' big fear is that the US faces years of stagnation - low growth and low, or even negative, inflation - similar to that experienced in Japan.
And for this reason, markets are willing to lend at very low interest rates.
Might some kind of agreement still be reached?
Congress could in theory reach a deal any time it chooses.
Republicans such as John McCain and Buck McKeon are already working on how to shield the military from cuts.
However, it will be tricky to get anything agreed in the run-up to the next presidential election, which is due to take place on 6 November next year.
Indeed, the government's borrowing and Obama's jobs programme are likely to dominate the electoral campaign.
Historically, an incumbent president's re-election chances are closely tied to the performance of the US economy.
So cynics might assume that the Republicans have little incentive to help pass any deal that they think could help the economy this side of the election.
However, this still leaves a two-month window after election day up until the end of 2012 - when Bush-era tax cuts expire and sequestration spending cuts come into force - for an agreement to be hammered out.
Indeed, the issue may be forced by the debt ceiling - the legal cap on the government's total borrowing - which led to the country's budget crisis and the creation of the super-committee in August.
The cap was raised, but is on course to be hit once more shortly after the elections.
Even if President Obama loses the election, he would still be in office during this period, until the official handover on 20 January 2013.