Standoff is history repeated

POLITICAL dysfunction around fiscal policy is a regular occurrence in the United States, with bouts of uncertainty over government shutdowns, debt ceiling increases, etc. The annoying thing for me is that, often, they take place when I have gone on holiday, and the shutdown that commenced last week was no exception! Such conflicts invariably arise because different political parties to the President control part or all of Congress. At present it's the Republican-controlled House against the Democrat-controlled Senate and President Barack Obama. Such conflicts seem worse lately because the GFC and the response to it seems to have polarised many politicians to extreme positions.

The current dispute is around the failure to pass a new budget for the financial year beginning Oct 1 (hence the shutdown) and the need to raise the US government's debt ceiling (which is expected to be reached by Oct 17). It has its origins in the Republican dislike for President Obama's health care reforms (Obamacare) and the failure of the fiscal cliff resolution early this year to embrace a "grand bargain" reducing America's long-term budget deficit by closing tax loopholes and cutting back on the growth of entitlements. Obviously the consequences of the US not increasing its debt ceiling and defaulting on its debt would be bad - and many have said, catastrophic. Failure to make a debt servicing obligation will see the US sovereign rating lowered to "Selective Default" (according to Standard and Poor's) as Greece was recently. Such an event would most likely see a sell-off in US government bonds, a flow on to the borrowing costs of all US corporates and a stigma that may take the US years to recover from - as Argentina and Russia have found. And, of course, not increasing the debt ceiling would mean the budget deficit of 4 per cent of GDP would have to be eliminated immediately resulting in massive fiscal drag. All of which would affect confidence and hence, economic growth.

However, the odds strongly favour a solution being found and a debt default being avoided, but the next few weeks could be uncertain. US government shutdowns are far from new and arise when Congress fails to pass laws funding government spending. In fact, there were 17 shutdowns between 1976 and 1996, lasting an average 7.4 days, with the median shutdown lasting 4 days.