Can This Man Defuse the Debt Bomb?

Senate Republicans want to leverage the next US debt limit increase to force cuts in projected federal spending and changes to Social Security and other entitlement programs, the party’s No. 2 leader said.

“There’s a set of solutions there that we really need to take on if we’re going to get serious about making these programs sustainable and getting this debt bomb at a manageable level before it’s too late,” Senator

John Thune

of South Dakota told a panel of Bloomberg editors and reporters in Washington.

Thune said Senate Republicans have a “long list” of priorities, including budget reforms, as they negotiate the limit on government borrowing before it’s reached sometime in the middle of next year… That raises prospects for a debt limit crisis akin to 2011, which rattled financial markets and consumer confidence and led to the first-ever downgrade of the US sovereign debt rating by Standard & Poor’s.

For those who’ve forgotten the financial crisis, this column should note that pronouncements from credit rating agencies like S&P are merely opinions. As for the 2011 fight over the federal debt limit, this column should also note that it led to one very positive result. In April 2019 this column remembered:

Taxpayers may fondly recall the budget sequester as the magical legislative unicorn that somehow forced the federal government to reduce its overall spending for two beautiful consecutive years in 2012 and 2013. Under pressure from the Tea Party Congress elected in 2010, President

Barack Obama

had agreed to annual discretionary spending caps on domestic programs, perhaps because he didn’t believe Republicans would really accept Pentagon budget cuts in return. But they did, and the Budget Control Act began to bring federal outlays toward something approaching sanity. Naturally this was not the consensus Washington had in mind, so agreeing to break the budget caps became a bipartisan custom.

Spending crossed the $3.5 trillion mark in 2014 and has been rising ever since. Federal debt held by the public is now more than $16 trillion. Total debt stands at more than $22 trillion, and this last figure would be many times higher if it included all the entitlement obligations politicians have promised to fulfill in the future.

In just a little more than 3½ years since then, public debt has surged by $8 trillion while total official debt has risen by $9 trillion. Many have hardly noticed because until very recently the Federal Reserve was keeping interest rates near rock-bottom and making it cheap to service government debt. But now rates are rising and the cost of servicing federal debt is surging.

The Congressional Budget Office recently reported on the 2022 fiscal year, which ended Sept. 30:

Net outlays for interest on the public debt increased by $121 billion (or 29 percent), because higher inflation this year has resulted in large adjustments to the principal of inflation-protected securities and because interest rates rose, increasing the costs of securities issued during the fiscal year.

Such annual outlays will soon surpass the total amount the federal government spends on Medicaid. Ms. Litvan reports on the possibilities for reform:

On spending, lawmakers could seek bipartisan accord on a deal placing new spending caps on the programs under Congress’s discretion similar to the 2011 deal that ended the debt-ceiling showdown, Thune said… On entitlement program changes, Thune said Congress should weigh an increase in the Social Security retirement age. But he didn’t rule out a deal that might simply start the process of making key changes, pointing to a proposal… for a task force to examine what needs to be done.

“Even creating a process by which that gets dealt with would be progress and at least a baby step,” Thune said.

Let’s hope he doesn’t settle for baby steps. The senator should have the confidence to walk like a man after the events of recent weeks. Stephen Groves reported for the Associated Press this month from Sioux Falls:

Neither South Dakota’s “Curse of Karl” nor the invocations of former President

Donald Trump

weighed on Republican Sen. John Thune this week as he breezed to a historic fourth term…

The Republican senator, coming off a reelection victory in which he won 70% of the vote, told The Associated Press on Thursday that he wanted to stay “focused on solutions,” especially on inflation, rather than bombastic political styles that “make a point over making a difference.”

… Only one other South Dakota senator has won four terms: Sen. Karl Mundt, whose time in Congress from the 1930s to the 1970s inspired a joke in state political circles known as the “Curse of Karl.” Three other senators — Democrats George McGovern and Tom Daschle, as well as Republican Larry Pressler — tried to convince South Dakotans to grant them four Senate terms. They all failed, with Daschle losing to Thune in 2004.

Despite his mandate, Mr. Thune doesn’t seem to want to push this argument all the way to a temporary default, although there is an argument for accepting short-term market turbulence in exchange for long-term stability.

As the parties were arguing over the debt limit in 2011, your humble correspondent interviewed billionaire investor Stanley Druckenmiller. Mr. Druckenmiller explained the possibilities for bond investors if a drawn-out negotiation in Washington creates a short-term problem in servicing the debt but ultimately reduces spending:

“Here are your two options: piece of paper number one—let’s just call it a 10-year Treasury. So I own this piece of paper. I get an income stream obviously over 10 years . . . and one of my interest payments is going to be delayed, I don’t know, six days, eight days, 15 days, but I know I’m going to get it. There’s not a doubt in my mind that it’s not going to pay, but it’s going to be delayed. But in exchange for that, let’s suppose I know I’m going to get massive cuts in entitlements and the government is going to get their house in order so my payments seven, eight, nine, 10 years out are much more assured,” he says.

Then there’s “piece of paper number two,” he says, under a scenario in which the debt limit is quickly raised to avoid any possible disruption in payments. “I don’t have to wait six, eight, or 10 days for one of my many payments over 10 years. I get it on time. But we’re going to continue to pile up trillions of dollars of debt and I may have a Greek situation on my hands in six or seven years. Now as an owner, which piece of paper do I want to own? To me it’s a no-brainer. It’s piece of paper number one.”

Mr. Druckenmiller says that markets know the difference between a default in which a country will not repay its debts and a technical default, in which investors may have to wait a short period for a particular interest payment. Under the second scenario, he doubts that investors such as the Chinese government would sell their Treasury debt and take losses on the way out—”because I’ll guarantee you people like me will buy it immediately.”

… In the future, he says, “People aren’t going to wonder whether 20 years ago we delayed an interest payment for six days. They’re going to wonder whether we got our house in order.”

Thank goodness the United States has still managed to avoid a government debt crisis, even though its fiscal house has only grown more disordered in the years since.

Given all of the reckless spending since then, it seems unlikely that Mr. Druckenmiller would have faith in either party to pursue serious reform today.

But perhaps Mr. Thune can inspire confidence by leading his colleagues in walking the long and winding—and necessary—road away from fiscal ruin.

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Meanwhile in Afghanistan
Nabih Bulos recently reported in the Los Angeles Times:

James Freeman is the co-author of “The Cost: Trump, China and American Revival.”

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