Monday, January 14, 2013

Republicans Publicly Support Starting A Recession

From Politico:

House Republicans are seriously entertaining dramatic steps, including default or shutting down the government, to force President Barack Obama to finally cut spending by the end of March.

The idea of allowing the country to default by refusing to increase the debt limit is getting more widespread and serious traction among House Republicans than people realize, though GOP leaders think shutting down the government is the much more likely outcome of the spending fights this winter.

“I think it is possible that we would shut down the government to make sure President Obama understands that we’re serious,” House Republican Conference Chairwoman Cathy McMorris Rodgers of Washington state told us. “We always talk about whether or not we’re going to kick the can down the road. I think the mood is that we’ve come to the end of the road.”

Republican leadership officials, in a series of private meetings and conversations this past week, warned that the White House, much less the broader public, doesn’t understand how hard it will be to talk restive conservatives off the fiscal ledge. To the vast majority of House Republicans, it is far riskier long term to pile up new debt than it is to test the market and economic reaction of default or closing down the government.

  GOP officials said more than half of their members are prepared to allow default unless Obama agrees to dramatic cuts he has repeatedly said he opposes. Many more members, including some party leaders, are prepared to shut down the government to make their point. House Speaker John Boehner “may need a shutdown just to get it out of their system,” said a top GOP leadership adviser. “We might need to do that for member-management purposes — so they have an endgame and can show their constituents they’re fighting.”

Let's review a few basic economic concepts.

1.) The GDP equation is C+I+X+G, or consumption + investments + net exports + government spending = gross domestic product.  Using math, we can deduce that lowering the value of the elements of the equation would lead to an overall lowering of the final value.

2.) According to the IS/LM curve, lowering government spending would lower national income, thereby lowering output.  In the current slow growth environment, a recession is the most likely outcome.

3.) The entire world uses the US Treasury market for several vitally important functions such as liquidity (supplying bonds which are used for every transaction imaginable) and a riskless hypothetical yield curve for financial projections.  Playing with with that concept would at minimum provide a shock to the entire world economy.

4.) The last time this happened, S&P lowered the US' debt rating as a result of our inability to come to a political consensus.   Consider the effects an actual shutdown and second budget impasse would have.

5.) A recent paper from the IMF has provided a "mea culpa" regarding the calculation of the multipliers inherent in government spending.  In essence, the paper comes to the conclusion that government multipliers are in fact higher than  previously thought, thereby lowering or even eliminating the efficacy of austerity.  As the Financial Times noted:

Blanchard and Leigh’s latest working paper is a much more convincing document than the original WEO as Alan Beattie described in his blog last week. The new paper argues again that the fund’s 2010 growth forecasts were too optimistic in countries that planned to undertake more fiscal tightening and that the results of the WEO research stand up to scrutiny. In particular, they claim the results are not generated simply by the inclusion of Germany and Greece, which were certainly two outliers.

But it concedes that the results suggesting that fiscal austerity had a much bigger than expected effect do not apply to the 2011 forecasts. This is an important point as it suggests the result of bigger effects of austerity plans in 2010 are not general.

In conclusion, the paper says that multipliers appeared to be large at the beginning of the crisis and have either fallen since or that forecasters have learnt and become less optimistic about the effects of planned austerity since 2010. The authors argue two conclusions are warranted:
1) “it seems safe for the time being, when thinking about fiscal consolidation, to assume higher multipliers than before the crisis”
2) “it is worth emphasizing that deciding on the appropriate stance of fiscal policy requires much more than an assessment regarding the size of short-term fiscal multipliers. Thus, our results should not be construed as arguing for any specific fiscal policy stance in any specific country. In particular, the results do not imply that fiscal consolidation is undesirable.

To sum up the above points, government shutdown would be an unmitigated disaster, lowering GDP growth and providing a self-inflicted and unnecessary shock to an economy which may not have the inherent strength to withstand it.

Put another way, the Republicans have now demonstrated beyond a shadow of a doubt that they are bat shit insane.