Death by deadline

Are U.S. budget politics hurting growth?

 
(AP Photo/Pablo Martinez Monsivais)

(AP Photo/Pablo Martinez Monsivais)

In frantically swerving away from the edge of the so-called fiscal cliff at the start of the year, American lawmakers promptly steered federal government finances toward a new set of suicidal plunges. While a temporary compromise over the country’s debt ceiling pushed that deadline back to at least August, the sequester—sweeping automatic spending cuts mandated by cliff legislation—could kick in as soon as March 1. And after March 27, parts of the government might have to shut down unless Congress approves new funding for federal agencies.

The seemingly unending series of self-imposed deadlines is bad news for growth in 2013, a number of economists warn. Fiscal policies with an expiry date are part of the reason the economy has been expanding so slowly, says Stanford University economist Nicholas Bloom. “We haven’t had a proper recovery,” he says, “in part because policy has held us back.”

This year, the problem is only likely to get worse. Republicans, concerned about being perceived as irresponsible obstructionists, are done engaging in epic battles like the one over the debt limit that precipitated Standard & Poor’s credit downgrade in August 2011. Conservative chatter in Washington now is all about a guerrilla-style approach of negotiating smaller spending cuts in exchange for short-term deadline postponements.

That might be a cunning political strategy in a polarized legislature, but it will likely exacerbate uncertainty among businesses and consumers. When companies think rules that affect their bottom lines might change, they defer investment and hiring, goes the theory. When families are unsure about how big their next paycheque will be, they put off shopping.

2.3
The percentage-point drag on the U.S. GDP growth between 2006 and 2011 attributable to fiscal uncertainty, according to one study.

In a paper co-authored with colleagues at Stanford and the University of Chicago, Bloom estimates an increase in policy uncertainty between 2006 and 2011 might have shaved up to 2.3 percentage points off GDP growth.

Others concur. “Are we seeing the level of investment and hiring that you would equate with the current health of corporate balance sheets? No,” says Beata Caranci, vice-president and deputy chief economist at TD Bank Financial Group. Given how much cash they have on hand, current capital expenditures by U.S. firms are 16% below their historical trend, TD research found. Uncertainty might be part of the reason why, says Caranci.

Admittedly, the latest numbers on economic activity at the end of 2012 have some wondering whether uncertainty matters all that much after all. Growth in consumer and business spending, as well as private-sector hiring—the parts of the economy that are supposedly most susceptible to uncertainty—picked up in the fourth quarter, despite the prospect of the fiscal cliff.

The uncertainty hypothesis is “everywhere but in the actual data,” Credit Suisse analysts proclaimed earlier this month.

Still, it might be too soon to discount the impact of uncertainty. Companies might have simply ramped up spending in late 2012, thinking some incentives on capital expenditures might expire in the new year, says Caranci. January data, not yet out, should show a clearer picture of the true impact of the cliff.

Growth might have accelerated a bit in the fourth quarter, says Bloom, but it was still at 2% for the year, woefully below the 5% pace you’d expect in an economy bouncing back from a severe recession.

“Saying growth has picked up and so we have nothing to worry about is like saying the Titanic is going to hit the iceberg in 12 rather than 10 minutes,” he says. “Good news, but missing the bigger picture.”

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2 comments on “Death by deadline

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