Lawmakers are at it again, waging yet another battle over the federal budget that threatens to shut down the government and disrupt financial markets.
We have seen this movie too many times in recent years. But while it has always ended with a last-minute agreement to avert calamity, significant economic damage occurs each time nonetheless. Political brinkmanship elevates uncertainty and makes consumers, businesses, and investors anxious, weighing on their willingness to spend, hire, and invest.
This week, Congress' most pressing task is appropriating funds to keep the government operating after the current fiscal year ends on Monday. If lawmakers miss the deadline by only a few days, the result will be a nuisance, particularly for some 800,000 federal employees who won't be able to go to work, but the economic fallout will be small. Federal workers will be called back and repaid eventually, and the government will resume its other normal functions.
But shutting the government for three or four weeks will do significant economic damage. Furloughed government workers will begin to act as if they were effectively unemployed. The housing recovery will be hurt as potential home buyers find they cannot obtain Federal Housing Administration loans, and small businesses will have trouble obtaining loans from the Small Business Administration. Tourism will suffer as national parks and museums remain closed.
And this doesn't even begin to account for the impact of a lengthy shutdown on consumer, business, and investor psychology. An interruption longer than a few weeks would cause GDP growth to stall by the end of year, and cause investors to take seriously the possibility that Congress could fail to raise the fast-approaching Treasury debt ceiling.
If lawmakers do not raise it beyond the current $16.7 trillion level before Oct. 17, they will leave the government with only the cash it has on hand to pay what it has promised to bondholders or others.
No one knows how the government might behave in such circumstances. As an operational matter, the Treasury could conceivably still pay its obligations to holders of U.S. Treasury bonds, but that could be practically difficult and politically disastrous. It would mean writing checks to giant global investors such as the central banks of China and Japan while telling Social Security recipients to wait, for example.
Putting other government payees in a priority line would be no picnic, either; the Treasury would have to sort through a blizzard of bills each month to decide which ones to pay. More likely, the Treasury would wait until it received enough revenue to pay a specific day's bills. The resulting delays would be short, at first, but would lengthen quickly over time.
For example, if the Treasury reaches its borrowing limit on Oct. 17, payments to Medicare and Medicaid providers due that day would be delayed one business day, to Oct. 21. But the checks due to be issued Nov. 1 to Social Security recipients, veterans, and active-duty military personnel would wait until Nov. 13.
Through November, as much as $130 billion in federal bills would go unpaid. This equals a whopping 9 percent of annual U.S. GDP, enough to send the economy into another severe recession. And don't expect the Federal Reserve to bail us out: The interest rates the central bank controls are already at zero and can't go lower.
It has become typical for Congress to run down the clock on the debt ceiling, but in the end it has never failed to come through. The motivation is clear: Any delay in raising the Treasury's borrowing limit would have dire consequences.
But even if lawmakers do what everyone expects, the increasingly vitriolic tone of Washington's politics weighs heavily on the national psyche. Businesses are more reluctant to invest and hire, and entrepreneurs are less likely to attempt start-ups. Financial institutions are more cautious about lending, and households are more reluctant to spend.
This was clearly evident in the near-debacle that occurred in the summer of 2011, when lawmakers raised the debt ceiling at the very last minute. Brinkmanship nevertheless undermined consumer confidence and sent stock prices reeling. The bitter showdown led Standard & Poor's to cut its AAA rating on Treasury debt. Although policymakers acted in time, the fallout nearly caused the economic recovery to stall.
Despite Washington's budget battles, the economic recovery is four years old and counting, and the private economy has made enormous strides in correcting the problems that triggered the Great Recession. Business balance sheets are as strong as they have ever been, the banking system is well capitalized, and households have significantly reduced their debt loads. The private economy is on the verge of stronger growth, more jobs, and lower unemployment.
The key missing ingredient is Congress' willingness to fund the government after the end of this fiscal year and to raise the Treasury debt ceiling. It is time for Congress and the Obama administration to call a cease-fire in the budget wars. If they do, then the still-fragile recovery will quickly evolve into a sturdy, self-sustaining economic expansion.