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The sky won't fall

October 17, 2012, at 7:22 AM
 

Regardless of your ideology, if you think that the election of [the candidate you oppose] will result in an unfathomable level of stalemate beyond the cobwebbed level of stalemate we already have in Washington, you're probably wrong.

It's not because neither party will suddenly see the pure, cleansing light of bipartisanship and it certainly isn't because the parties will become characterologically less partisan. The reason why the sky isn't going to fall, why there probably is going to be a big budget and tax reform deal within six months, is that the incentives for a deal will suddenly become much, much greater at the beginning of the year.

This theory is not new, but Jonathan Chait, writing in New York magazine, has given it its broadest and most persuasive airing.

It is a simple theory, but it is not an easy one.  The simple part is that the incentive curves bends dramatically as soon as the Bush era tax cuts expire. Republicans will find that it is in their benefit to (a) posture, and (b) then agree to a deal that cuts spending over the long-term, but restores cuts to defense spending and in the near-term, and does very little to domestic discretionary spending. Democrats will find that the have an incentive to compromise on tax reform of the type that will reduce income tax rates for everybody while preserving a good enough revenue base for their type of government to live off of.

Scenario one: Romney wins the election. The economy remains a challenge. The Bush tax cuts expire.

In 2013, Republicans will have enough votes in the House to pass the Romney-Ryan budget, and in the Senate, because of the nifty rules of budget reconciliation, they'll only need a bare majority. Romney will face a lot of pressure to pass that budget and restore all the cuts.  But that budget is not stimulative in the short run. As Chait says, "The skin-deep commitment to immediate austerity and the vagueness of the Ryan plan both point in the same direction. Conservatives will hold Romney to his commitment to the Ryan plan's long-term dismantling of government, but allow him to put off the vast bulk of deficit reduction."

So here, you might ask, what would Romney do? Given the vast pool of money that the expiring Bush tax cuts represent, Romney would almost certainly use some of it to stimulate the economy quickly. And he will need some Democratic votes in the Senate, unless Republicans completely run the table, which is unlikely. 

So, writes Chait:

The forces that will bear down on Romney — Republican demands for the Ryan plan, the beliefs of his own economic advisers, his political need to bring down unemployment quickly, and the benefits of at least the appearance of bipartisanship — all converge on the same strategy: quickly pass the Ryan plan, couple it with middle-class tax breaks, and put off many of the nastiest cuts to middle-class services for the future.

But even if Romney, who does not share his party's anti-Keynesian streak (really, he doesn't — listen to him carefully), is magnanimous, won't it be true that Republicans have no incentive to cooperate with a recently re-elected President Obama? Why would Republicans behave any differently over the next four years, as their coalition shrinks even more and the mean of the party shifts even further to the right? Won't they retrench?

Not in 2013. Obama knows that the expiring Bush tax cuts are his ace in the hole. He has not played this card yet. In fact, it would be fair to say that Obama has held on to this card to the point where Congress finds him frustratingly uninterested in another budget deal.   As soon as Obama agrees to a deal involving the Bush tax cuts, the fundamentals for a major deal are there. There is one constraint and it explains why Obama has waited. The tax cuts actually need to expire before Obama has the leverage he needs. He's promised to let them expire, and unless he caves to what surely will be a hyper GOP effort to bully him into a deal before the new year, he will let them expire.

And then, Republicans will live in a world where government will have a lot more revenue, but the sequester provisions, including those DEEP defense cuts, will kick in immediately. The party's economic base will fracture into two halves: those who want to restore the defense cuts immediately and not see their income taxes increase, and those who will want the party to keep their spending promises.

At this point, Obama lays down the card. "I will restore most of those defense cuts, and we will cut taxes, maybe even not as much for the middle class as Mitt Romney would (but I wouldn't admit to this counter-factual), and you will agree to some revenue increases, because at this point, any tax reductions are net tax reductions, and you will have no choice if you want to avoid the deep defense cuts."

The result, as Chait notes, is a budget that would reduce the deficit slowly, raises taxes for some, cuts taxes for most, preserves most domestic programs, keeps ObamaCare funded, and doesn't trim entitlements too much. It would be far better than anything else Obama could have gotten in the preceding four years. Democrats won't love it too much and it won't be directly stimulative — remember, it's a President Romney who has more incentive to agree to more stimulative tax cuts because he's on the hook for the economy and needs Democratic votes. But it will probably be enough to restore that magical "confidence" in the legislative system that business have used as an excuse not to invest. It will be a short-term, long-term deal.

The budget deals that President Romney and President Obama would sign wouldn't be the same. But they would be enough to break the economic stalemate in Washington. As Chait writes

Bill Clinton set out to restore the possibility of effective and activist government by bringing the deficit down through a mix of spending restraint and a tax hike on the richest Americans. George W. Bush destroyed the Clinton project, and left behind a government bleeding red ink and starved of revenue. Obama completed the welfare state by finally establishing access to health insurance as a basic right of citizenship. 

In essence, the main domestic work of the past three presidents — Clinton, Bush, and Obama — is all on the ballot this November. Whichever party wins will have within its grasp the power to break the back of the other's political-economic macro-strategy. Obama and Romney may like to say they can work their will through agreement and reconciliation with the other party. But the tools that will be at their disposal are too blunt even to ­acknowledge.

 

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