Why the USPS could be overruled...  

One test of whether Congress is even capable of reducing spending will be the unilateral action by the USPS. It is unusual - think about the USDA cutting its own budget all by itself. (Of course - the USDA is not independent like USPS, but stay with me.) If Congress reacts as I expect, you can narrow the already slender portion of the budget that is "cuttable" even more.

The fight between the Post Office and Congress is a very peculiar one. Normally, when the government owns some incredibly profligate business, it’s Congress which tries to impose efficiency gains and fiscal discipline, while the business insists that all of its spending is absolutely necessary and that it has already cut to the bone. In this case, however, the roles are reversed: the Post Office wants to change, and it’s Congress which is stopping it from doing so.
The latest move from the Post Office is a bold one: to abolish Saturday delivery unilaterally, starting August 1. This is a bit like Citicorp announcing that it was merging with Travelers: it’s illegal, but that’s not going to stop them, and the clear expectation is that somehow Congress will make it legal, before or shortly after it happens in reality.
As Jesse Lichtenstein details in his amazing 10,000-word Esquire story about the Post Office, the organization does actually have a detailed plan for becoming fully self-reliant over the next few years. Abolishing Saturday delivery is just one small part of that plan; all of it, by law, requires Congressional buy-in. The plan may or may not be successful, but, as they say, plan beats no plan. The big problem is simple, but huge: Congress isn’t playing along, and instead is just making matters worse, unhelpfully micromanaging everything from postage rates to delivery schedules to health-care contributions.
That’s why I love the idea of the Post Office doing something that’s clearly illegal, putting the ball squarely in Congress’s court. The idea is both delicious and dangerous: go ahead an implement the plan whether Congress likes it or not. And then dare them to bring down the hammer, or simply capitulate to the inevitable. They might not like the latter option, but the former would surely be worse for all concerned. [More]

This action could also attract some unwelcome attention to the rural/urban divide, both cuturally and economically. With less access to broadband, I expect strong arguments for continued mail delivery in the country will emerge from rural state Senators.

But the monopoly has become less lucrative and that's not going to change in the future. That's squeezed the budget, squeezed postal workers' compensation packages, and is now squeezing the quality of nationwide mail service. As a country, we need to ask ourselves whether providing subsidized mail delivery to low-density areas is really a key national priority. Without the monopoly/universal service obligation, it's not as if rural dwellers wouldn't be able to get mail, it's just that they might need to pay more in recognition of the fact that it's inconvenient to provide delivery services to low-density areas. Nostalgia-drenched Paul Harvey Super Bowl ads aside, it's not the case that rural Americans are unusually hard-pressed economically or are disproportionate contributors to the economy. They are, rather, the beneficiaries of numerous explicit and implicit subsidies, of which the Postal Service's universal service obligation is one. [More]

While everyone in farm country is thrilled by the now-famous commercial, frankly it makes me uncomfortable. Not only was it cloyingly flattering to farmers, it was based on a way of life that is much less common, and mostly on smaller farms.  Didn't see many pictures of CAFO's or 120' boom sprayers. Or my neighbors in Naples, FL on the golf course. The commercial looks like a lead-in to Big Ag subsidy pitch to me.

I'd rather earn respect for who I really am and what I really do.

Cutting foreign aid...  

Not. Gonna. Happen. 

This budget item always tops the list for what to cut when deficit arguments start between ordinary citizens. It will never happen - at least to a significant degree, and this week just showed why.

First, how much are we talking here?

The 2010 United States federal budget spent $52.7 billion out of $3.55 trillion (1.5%) on foreign aid. $15.0 billion was military; $37.7 billion was economic aid (of which USAID received $14.1 billion).^[1]  [More]

So, still less than farm bill costs. Next, who gets the money?

Israel is currently the largest cumulative recipient of U.S. foreign aid since World War II. Although aid to Israel began in 1949 with a $100 million bank loan, large-scale U.S. assistance for Israel increased dramatically throughout the several Arab-Israeli wars in the 1960s and 1970s.
A 2012 report by the Congressional Research Service, “U.S. Foreign Aid to Israel,” characterizes the historical financial relationship, types of military spending and current trends.
Among the highlights of the report are:

• To date, the United States has provided Israel $115 billion in bilateral assistance. It is currently the second largest recipient of aid worldwide, with Afghanistan now first.
• The fiscal year 2013 budget request “includes $3.1 billion in Foreign Military Financing [FMF] for Israel and $15 million for refugee resettlement. Within the U.S. Department of Defense, the U.S. Missile Defense Agency’s FY2013 budget request includes $99.8 million in joint U.S.-Israeli co-development for missile defense.”

[More]

Now let's look at the Hagel confirmation hearing.

[Source]

In fairness, Democrats are only mildly less obsessed.  But it seems clear to me what and whom our Senate thinks of first. It's not ending the longest war in our national history in Afghanistan and saving troops.

Any effort to cut foreign aid will be overwhelmed by the Israel lobby. I'm not saying this is right or wrong, but injecting a note of realism for budget hawks.

The second item on most budget cutting lists is ag subsidies, and I don't the Israel gives a hoot about them.

Socialist agriculture...  

Isn't pretty. But its end is even uglier.

The collapse of his farm is part of an even larger puzzle – the catastrophic decline of agriculture in the breadbasket regions of the former Yugoslavia. Food imports and prices are rising in countries that once fed themselves comfortably.
In the lush plains of Serbia, farmers are getting poorer, while their children migrate to the cities for work. In Croatia, agriculture today accounts for three percent of the Gross Domestic Product (GDP), compared to almost 20 percent two decades ago.
Trade liberalization and the current economic crisis bear some of the blame, as do the conflicts that tore the former Yugoslavia apart. But across the region, experts say it is corruption and mismanagement that have brought agriculture to its knees.
No soldiers traded gunfire over Mr. Zivkovic’s farm in eastern Croatia. Instead, its workers spent the 1990s fighting businessmen and lawyers for their tractors and orchards – the spoils of a privatization deal gone wrong.
“It was like a small war zone,” says Marko Tominac, an insolvency manager who tried to settle the farm’s accounts among Zivkovic and his colleagues. “Everybody was screaming that everybody else was getting the bigger part – including the workers.”
The privatizations of the last two decades were largely – but not universally – disastrous. A handful of the region’s largest collective farms have changed ownership and remained productive.
But most of the small and medium-sized concerns did not survive the transition from socialism. They were treated as the low-hanging fruit of the privatization boom – bought cheap, stripped bare, and discarded – by men who had little interest in agriculture. [More]

We've seen this before in East Germany as unwinding collectivization descends into blatant corruption not unlike hyenas at a kill. Usually party apparatchiks get in first, aided by a dysfunctional judiciary and non-existent law enforcement. It seems to take a generation to arrive at something workable.

Agriculture in Germany continues to bear the hallmarks of the divided country, with small and mainly family-operated farms in the west and south and enormous collectives in the east.
Gabel's Torney collective, named after a babbling brook that runs through the village of Pripsleben, is a perfect example, with 1,300 hectares of corn, rapeseed, barley, potatoes and beetroot, plus 300 hectares of pasture.
In addition, Gabel farms hundreds of cows, calves and pigs for meat, sold locally throughout the state of Mecklenburg-Western Pomerania in the form of salamis, hams and cutlets.
After what promises to be long and painful negotiations on the budget in Brussels, Gabel's half-million-euro annual support is likely to be slashed, said Frank Offermann, an agricultural expert from Germany's Thuenen Institute.
While some EU countries want the budget slashed, others want the funds redistributed. "In either case, the transfers to German agriculture will diminish," said Offermann.
If a proposed cap on the handouts per farm is introduced, "it will cost us 200,000 euros," said Gabel.
But he is not without a more modern plan B.
Rather than scrapping with the red tape needed for CAP handouts, he is busy hiring out the roofs of his barns for solar panels and his fields for wind energy turbines. [More]

I don't have a good feel about the odds, but it interesting to ponder what the aftermath of drastically reducing our peculiar socialized crop insurance safety net. How would the lending industry respond? How many would be priced put of the system by paying 100% of the cost, or ending the government role as backup lender?

My guess is crop insurance would be an agonizing decision for most, if not all, producers. That is how accurately underwritten insurance tends to "feel" - just on the borderline of cost and perceived risk. Would producers respond immediately or pay whopping premiums for a couple of years before observing those who didn't had an initial, say $100 to spend for cash rent?

Now factor in the insurance industry's growing recognition of climate change, and the business model for crop insurance could be very different soon. Our fledgling private insurance industry could have a headstart on creating products to fit these new circumstances.

I can imagine individually tailored policies to cover specific risks for specific times, for example. More likely will be the typical insurance market that prompts more high equity/relatively low risk operations to self-insure, which results in higher costs for marginal ground/more leveraged farms. I'm not sure we can fully predict what would happen, but judging from the de-socialization agonies in other countries, it will be very hard on many of us. 

If nothing else, the fiscal cliff and spending anger makes the idea of previously unthinkable outcomes for farm policy worth imagining.

Much like my tax return...  

 The math for budget-cutting is tricky.  I have been studying the Romney/Ryan hybrid proposal and agree with most econobloggers who are not sure where he can find the loopholes/deductions to pay for his tax breaks.

The first thing to note is that there are clearly enough tax expenditures to finance the $900 billion cost that the Tax Policy Center reckons Mr Romney’s plan will cost (relative to current law). But as you dig into the list, problems arise. First, these expenditures would be worth a lot loss once Mr Romney has cut income tax rates (see my caveat below). Second, Mr Romney has put several off limits, most notably the preferential rate on dividends and capital gains (worth $91.3 billion) and the ability of corporations to defer tax on foreign income ($19.6 billion), since under his plan corporations would not owe taxes on such income. Third, several will presumably be off limits: is he really going to tax Medicare benefits ($79.3 billion) or eliminate the earned income credit ($58.5 billion)?

But the biggest problem is one not obvious from the table: the distribution of these breaks. Yes, they disproportionately benefit the upper 20% of households because their tax rates are higher. Nonetheless, as this Tax Policy Center paper notes, roughly a third went to the bottom 80% of households (especially tax credits and above-the-line deductions). Since Mr Romney has said he would spare the middle class, most of this money would be off the table. Where it gets really interesting is inside the top 20%. Many deductions are in effect capped. As a result, their biggest beneficiaries are not the top 1% but the next 19%, with one exception: the preferential rate on capital gains and dividends, more than half of whose benefits go to the 1%. By eliminating tax expenditures for upper income families except the preferential rate on capital gains and dividends, Mr Romney’s plan would be a gigantic transfer from the upper middle class to the rich. And keep in mind that the upper middle class is also the group likely to pay most under any reform to Social Security and Medicare. 

Mr Romney’s team defends the feasibility of his plan by noting its similarity to the Bowles-Simpson commission proposal, which like Mr Romney lowers the top rate to 28% and pays for it by closing loopholes. But the comparison does not actually help Mr Romney’s case. First, unlike Mr Romney, Bowles-Simpson eliminates the preferential rate for capital gains and dividends. That is both a significant revenue-raiser and the principal reason the truly wealthy suffer most under their plan: the top 1% sees its after-tax income fall 7.8% and shoulder half the net increase in taxes. Under any plausible version of Mr Romney’s, the after-tax income of this group would rise. Second, it only lowers the corporate rate to 28% instead of Mr Romney’s 25% (from 35%). Third, Bowles-Simpson clearly hurts the middle class; the middle 60% of households see their after-tax income drop about 1.5% each. The reason is that the plan nukes almost all deductions, and replaces only a few with miserly tax credits that are worth less than the current deduction to most taxpayers. If Mr Romney wants to spare the middle class he will have to be much more generous than Bowles-Simpson when it comes to protecting their tax breaks. And there’s the rub: Mr Romney can be revenue neutral or he can spare the middle class but I don't see how he can do both. [More]

From the table above - which has been widely accepted as an accurate account of what tax expenditures cost, farmers should note certain items.

1. Exclusion of capital gains at death: This "step-up in basis" is a BIG deal - perhaps more important than the actual rate itself. It also looks to be one with a smaller consituency to fight for it. I think it is greatly at risk.
2. Capital gains: As discussed in the above article, the fact this is largely helpful to the 1% and few others makes it a tempting target. Again it's a big deal for farmers selling land after the recent runup.
3. Elimination of deduction for health insurance: Depending on the outcome for Obamacare, this could tempt many employers to drop group insurance for simple compensation. At the very least, it will undoubtedly push more of the cost to employees, although that is happening already.
4. Mortgage interest: I think this applies to homes (reported on Schedule A) - not interest reported on Schedule F, but it's the same 1099, so I could be wrong. [Update: probably not at risk unless a desire to include real estate investors in the revenue makes it a target]
5. 401K benefits: Not sure how many farmers do this when buying land has trounced these as retirement piggy-banks, but some did.

While it's hard to imagine enough Congresshumans anxious to attack these popular "loopholes", you can't get done what Romney has proposed without hitting many of them. So the bottom line is worrying about the Farm Bill is peanuts compared to the budget debate for my farm.

Prediction: tax cuts might happen, but eliminating enough tax breaks won't. 

Tea regret...  

I have been mildly amazed at the anti-government ferocity in rural America, even while we were cashing many forms of government checks. I still think the majority of the virulent anti-Obama hatred (and that is a reluctant assessment) arises from who he is rather than his policies.

In fact, anyone could have seen how this would play out. With the Ryan budget, it has suddenly become undeniable.

It must have been a lot of fun to show up at meetings in the summer of 2010 and bash your sitting congressman or senator. No one knows how many video clips were shot of Tea Party members shouting down members of the U.S. House and Senate, some of whom had put their careers on the line for farmers.

Now the chickens are coming home to roost, so to speak, and, for the first time in decades farmers are faced with the very real possibility of not having a new farm bill or much chance of an extension of the current legislation when the 2008 law expires later this year.

By now, most of you have seen reports of the new federal budget proposed by Wisconsin Republican Paul Ryan, chairman of the House Budget Committee. The proposal would cut $33 billion from federal farm programs or about $10 billion more than the House and Senate Agriculture Committees proposed last fall.

Unlike previous years, this time the House of Representatives is filled with freshman members who have little or no sense of the purpose of farm programs or the stability they provide to agriculture. All most of them know is they think they have a mandate to cut federal spending. [More]

The curious thing for me is I am not alarmed by budget cuts to ag, so don't have a dog in this hunt, so to speak. But the Ryan budget is rapidly becoming the Republican budget, and as he is forced to fill in details, you can hear the gasps.

Of course, it is impossible to know what tax expenditures Ryan plans to eliminate; we can only guess. But it is worth knowing that just the top 6 tax expenditures account for more than half of the dollar cost of all tax expenditures. These include the exclusion for health insurance and the deduction for mortgage interest. Among those not in the top 6 are the deduction for charitable contributions and the deduction for state and local taxes.

In other words, it will be impossible to achieve Ryan’s revenue target without pretty much wiping the slate clean of every tax preference except for a handful of the most popular ones. This may be worth doing, but will be very difficult. The Tax Reform Act of 1986 reduced tax expenditures by about 2.7 of GDP, according to the TPC. If it could be duplicated, that would only get Ryan to his absolute minimum level of revenues as a share of GDP. Getting to the upper end of his target range would require a tax reform one third larger.

In short, looking only at the tax side of Ryan’s plan, he is anticipating enactment of an extraordinarily ambitious tax reform on top of the most ambitious budget cutting effort ever enacted. He would sharply cut outlays for every major program except Social Security and national defense. Every governmental function one can think of would be virtually abolished except for Medicare, Social Security and defense. A key reason for the severity of these cuts, of course, is that Ryan would cut taxes at the same time he is cutting spending. To achieve balance with lower than projected revenues requires even larger cuts in spending. [More]

The harsh rhetoric of the last 3 years hasn't left the majority of farmers much room to maneuver on policy. These are THEIR representatives, whom they sent to Washington to mandate concealed carry, shut down the Fed, obstruct any compromise, and spot Muslims under every bush. And they may be about to send some more.

What did they expect?

There is some parallel here with raising pit bulls, but I won't go there.

Maybe we don't need to raise taxes...  

We could just collect what is owed right now.  Bruce Bartlett has the sad story.

  [Be sure to click and view full size and read the lower right caption]

Clearly, therefore, one solution to the tax gap is to increase reporting and withholding requirements. However, previous efforts by Congress to do so have been met with huge political resistance. People don’t like the intrusion into their privacy — and the diminution of their opportunities for tax evasion — and businesses don’t like the cost or the alienation of their customers.

In 1982, Congress briefly enacted a withholding requirement for interest income and the outcry was so loud that it was repealed almost immediately.

Conservatives tend to talk about noncompliance as if it were solely a function of tax rates. The higher tax rates are, the greater the incentive for tax evasion; lower tax rates and evasion will decline. Thus tax evasion is yet another excuse to cut taxes.

However, as the I.R.S. data show, noncompliance increased between 2001 and 2006, a period in which a substantial number of tax cuts were enacted. The top rate fell to 35 percent from 39.6 percent, the bottom rate fell to 10 percent from 15 percent and the rate on dividends fell to just 15 percent from a top rate of 39.6 percent. If the conservative model is correct, tax compliance should have increased, since the return to evasion fell substantially.

Of course, another factor in tax compliance is enforcement. Someone who thinks the odds of being caught are close to zero is going to be strongly tempted to cheat no matter how low tax rates are.

Unfortunately, Republicans have been treating the I.R.S. like a political punching bag for years, cutting its personnel and restricting its ability to do its job. The number of I.R.S. employees fell to 84,711 in 2010 from 116,673 in 1992 despite an increase in the population of the United States of 53 million over that period.

Federal revenues are at a historically low level and are a key cause of the federal budget deficit. Sooner or later, taxes will have to be increased. It would be better to minimize that increase by ensuring that taxpayers pay what they owe. It’s unfair to honest taxpayers and undermines tax morale when large numbers of people and businesses don’t pay their taxes. [More]

With a smaller workforce, I suspect the IRS will be targeting the richest hunting ground. And that looks like my ground. Could it be that grain 1099's will finally happen?

The fate of the last 1099 change does not make it seem likely.

It's not about interest rates...

Ryan Avent actually reads the reasons S & P downgraded US debt. Clearly it is not about spending.

But this interpretation is incomplete and misleading. As S&P’s announcement makes clear, the inadequacy of the deal was only one motivation. As important (to me, even more important) was the the reckless and divisive battle that preceded it: 

The political brinksmanship of recent months highlights what we see as America’s governance and policymaking becoming less stable, less effective, and less predictable than what we previously believed. The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy … [This] weakens the government’s ability to manage public finances … 

This is crucial. Sovereigns aren’t like companies. They can’t go bankrupt, and creditors can’t seize their assets. Their creditworthiness depends as much on their willingness as their ability to pay. As Felix Salmon presciently noted before the announcement was made, it’s not our ability to pay that’s in doubt: 

America’s ability to pay is neither here nor there: the problem is its willingness to pay. And there’s a serious constituency of powerful people in Congress who are perfectly willing and even eager to drive the US into default. The Tea Party is fully cognizant that it has been given a bazooka, and it’s just itching to pull the trigger. There’s no good reason to believe that won’t happen at some point. 

Absent the toxic politics that infected the debate, we could have hammered out a deal that stabilized the debt without squeezing the economy too much in the near term. After all, Britain, Germany and even Italy seem able to do so, and we have in the past, too.

Investors largely tuned out the debt-ceiling debate until its final days out of a belief based on long experience that for all the antics and rhetoric of the Tea Party, the people who actually run Capitol Hill would never compromise the country’s credit worthiness. After all, it was Mr Boehner who reminded his freshmen colleagues that on the debt ceiling they’d have to act like “adults.” [More]

Along the same lines, I find the most alarming aspect has to to be the idea that a vote could force those who disagree with the far right to change behavior. I mean, that's exactly what the TP won't do when it loses a legislative battle. More to the point, hardliners misunderstand how things happen here in the USA. We don't chafe under restrictions of the law, we, in the vast majority of cases, agree with (albeit grudgingly in some cases) the purpose and voluntarily comply. 

The IRS could never do enough audits to catch all the tax frauds if we did not have this buy-in by the electorate. Nor could cops stop the speeders. And this is also the fundamental reason we have clearly lost the war on drugs - people do not "feel" criminal enough when using marijuana.

There seems to be no room for gaining support for positions from those who disagree with the right. Instead the joy is in seeing how much a small minority can impose on others.

There is a common retort that this is how the ACA was "forced" on the US. But there is a crucial difference - it was actually approved by Congress and the President. (Interestingly, the vote wasn't a whole lot tighter than many other landmark legislative actions, such as the Bush Tax Cuts). The TP works by preventing approvals, which is not at all the same thing.

In fact, they have raised obstructionism to an art form. Even simple appointment approvals are used as hostages for pet peeves or projects. But gumming up the works is not governing, as we will discover every day. When the ship is headed for peril, not changing course is a bad option. The whole strategy is based on a reductio ad absurdum theory of government by critics who can't be bothered to learn how complex our economy and government has to be to deliver the lives we lead.

In Washington, it’s almost trite to say that the political system is broken. It’s been clear for some time that things really are different, that norms and procedures that once kept fractious congresses functioning have eroded with terrifying speed. If anything, S&P is, as usual, noticing the deterioration too late. But that doesn’t mean the deterioration is not real, or that it should be ignored. Too often, the pressure in Washington is from interest groups and activists and political consultants who are, perhaps without meaning to, pushing towards further dysfunction. Those of us in Washington who would like to see the government work have long wondered when the business community and other entities who need a functioning political system would begin exerting a countervailing force. Perhaps it begins now. If not, then this may be the first of many downgrades to come. [More]

It will be interesting to read the text behind the other downgrades that may be coming. My bet is they are rating our process, not our bonds.

Side Note: There is some confusion about the effect on GSE bonds like the Farm Credit System.

As the dust settles...  

OK - I've tried to read as much detail as I can about The Deal, and here are some points I found salient:

• The Template: Republicans, despite TP sentiment they didn't get enough, have seemed to embrace this technique as the new way of handling legislation.

Two nights ago, Senate Minority Leader Mitch McConnell told CNBC’s Larry Kudlow that this debt-ceiling deal was only the beginning. “What we have done, Larry, also is set a new template,” he said. “In the future, any president, this one or another one, when they request us to raise the debt ceiling, it will not be clean anymore.” [More]

What should not be lost here is the language degradation. While I cringed at the "hostage" analogy used by many Dems, McConnell (and hence we can assume, the Republicans) felt perfectly comfortable with this terminology.

From Mitch McConnell, crowing over the debt ceiling fight:

I think some of our members may have thought the default issue was a hostage you might take a chance at shooting. Most of us didn't think that. What we did learn is this — it's a hostage that's worth ransoming. And it focuses the Congress on something that must be done.

Fine. I have no problem with talk like this. And on the bright side, this means that the pearl clutchers at Fox News will stop hyperventilating about Democrats who called Republicans hostage takers. Right? [More]

Advantage: The Right. I am not willing, nor it would appear, is President Obama, to risk default to push forward my political objectives. So this could be only Act I.

• The Trigger: This could be a big deal or not. I fully expect the Reps to choose members of the Super Committee with pre-sworn positions, which will ensure deadlocked negotiations. For example, you won't see Dick Lugar, Pat Roberts, or Tom Coburn. This mean we need to be very sure we understand what another gridlock will mean. There is some question whether Obama will really, really let the Bush tax cuts expire (assuming he is re-elected). My guess is hell yes. It immediately finds $4T in revenues and he's a lame duck anyway. Furthermore, lacking any negotiating patterns, I can't imagine how the TP will compromise to save them. Therefore, so long accelerated depreciation, and other tax breaks just when our farm income is peaking (yeah - we're all going to shift it ahead)

The key was a decision by the White House to jack up the dollar-value of the trigger mechanism, doubling it from the range of $500 billion to $6 billion to the range of $1.2 trillion to $1.5 trillion. That created a bigger risk for domestic programs that Democrats care about, but it also accomplished the dual purpose of getting to the dollar-for-dollar ratio of cuts to debt-limit increase that Republicans insisted on and made the potential pain to the Pentagon significant enough in Democrats' eyes that Republicans would have incentive to make the super committee work so that massive automatic defense cuts wouldn't be triggered. It was a concession to the GOP demand, but one with a silver lining for Democrats -- who were never going to get a deal with a trigger of half the size.

"For a while, we were focused on trying to get the amount of cuts from the trigger as small as possible," Van Hollen said. "At first, it was kind of counterintuitive ... But the larger cuts requested by the Republicans would come back and bite them, too, if they allowed the trigger to go off.”

Huddle floated the defense-cuts concept by some House Republicans on Saturday night and heard back that it wasn't a popular idea -- as it turned out, an early sign both that House Speaker John Boehner would hear grumbling and that it might be an effective consequence to provide incentive for the super committee to make a deal. On Sunday afternoon, Senate Democratic leaders trekked across the Capitol to meet with Pelosi and her House Democratic leadership team. Van Hollen, according to Democratic sources, was assigned to call Vice President Joe Biden -- Office of Management and Budget Director Jack Lew was also on the call -- to go over last-minute policy details before the Democratic leadership assented.

It wasn't yet over, though. Boehner needed to soften the defense blow. He wanted to include homeland security, the State Department and foreign aid accounts in the "defense" or "security" category of spending for up-front discretionary-spending cuts (the $917 billion that is cut before the super committee recommendations or the trigger go into effect). After a series of phone calls between the White House, Pelosi and Van Hollen, it was decided that the expanded security category wasn't a deal-breaker. In fact, it meant that domestic programs wouldn't have to compete against homeland security and foreign operations accounts for scarce dollars.

Van Hollen said the trigger means Republicans will have to be willing to cede ground on taxes or face massive cuts to defense programs.

"The result is that the Republicans are now faced with a very stark choice,” he said. “This would be their choice. They would be deciding it was more important to protect tax subsidies for oil companies and other special interests than making these investments in the national defense.”  [More]

• The Defense Cuts: Won't happen, I'm guessing. If they do, they won't be as advertised.
• The Fallout: Cue one of our best cognitive psychology journalists to show what we have just done, and why it's going to be difficult (but not impossible) to repair.

In other words, we don’t trust people because they seem nice or virtuous or trustworthy, whatever those adjectives mean. We trust them because they get us the good stuff, delivering what Montague refers to as the “social juice” of reciprocity. When we say we trust someone, what we’re really saying is that they’re a reliable source of what we want. I scratch your back, you scratch mine.
And this returns us to the present dysfunction in Washington. If trust is about the distribution of rewards – about learning to expect bonuses from others – then it’s going to be a lot harder to share those rewards in an age of scarcity and deficits. For the first time in decades, congresspeople aren’t trading pork barrel projects and tax breaks – they’re negotiating steep budget cuts. Those cuts might be necessary, but they’re aren’t going to excite the caudate or generate that requisite burst of “social juice.” The traditional means of developing trust among Congresspeople have disappeared.
There are, of course, myriad reasons for the increasing polarization of Congress. But I can’t help but wonder if one of the reasons has to with this newfound lack of favor trading, as it’s increasingly difficult for politicians to barter projects in exchange for votes. It’s easy to hate on Congressional pork and mock all those silly projects that get snuck into bills. But when we do without pork, we also deny our politicians a means of building trusting relationships across the aisle. In this sense, those bridges to nowhere are a sort of benevolent inefficiency, a form of waste that, just maybe, keeps us from becoming a banana republic. Such are the hazards of politics in age of cutting. If trust begins when we share the treasure, what happens when there’s no treasure left to share? [More, please click and read the whole post]

• The Return to Reality: While many on the right are upset with the outcome, many think they brought the opposition to their knees. But that's so yesterday. Suddenly many deficit fanatics have rediscovered everyday life, and a not-so-good economic picture.

There are really only two options here. (1) The Times is wrong. (2) The Times is right and America has the stupidest goddamn investors on the planet. For months they sat around cheering on the tea partiers and declaring solemnly that the federal budget was just like a household budget and we needed "real action" on the debt in order to build confidence in the economy. Then, suddenly, when they got it, they realized that what they really wanted wasn't dumb slogans but actual policies that would help spur the recovery. And that means looser monetary policy and fiscal stimulus.

So which is it? Has Wall Street really been sitting idly by during the whole debt ceiling debacle and has only now realized what it really means? Can they really be so steeped in the Fox News fantasyland that it never occurred to them until now that cutting federal spending during an economic downturn wasn't really a great idea? Seriously? [More, the reference is here]

And this, I think is why I won't be devoting enormous time watching how The Deal unfolds - we are a struggling economy, and this outcome has not helped us put people to work or bring us any closer together. We have more urgent problems that will soon consume our attention and deplete the Closet of Simplistic Solutions.

More info...  

Re: Bush tax cuts and federal revenue.  

 

First, I use it measured as a percent of GDP, as do most economists for comparison, since the growth (or shrinkage) of the economy can hide the effect. The same system is used for expenses, BTW, since a bigger economy means more "variable costs/income" for government.

The absolute revenue fluctuation looks like this:

[Source]

The tax cuts were in 2001. Here is a summary of the results.
OK, a pitter-patter of applause for what the tax cuts did do effectively: Cut taxes and reduce overall payments to Uncle Sam. Low-income families benefited from the child-care credit jumping from $500 to $1,000. High-income families benefited from the top marginal rate falling. Billionaires benefited from lightly taxed dividend income. And government receipts, in turn, dropped.

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But the benefits mostly accrued to the rich, according to the nonpartisan Tax Policy Center. The think tank reports that between 2001 and 2008, the bottom 80 percent of filers received about 35 percent of the cuts. The top 20 percent received about 65 percent—and the top 1 percent alone claimed 38 percent.
What about the president's claims? Take his pledge that the cuts would spur job growth. To be fair, we'll ignore employment changes during 2008, the year the Great Recession seized the economy. During the 2001 to 2007 business cycle, America's economy enjoyed 52 straight months of job growth. But it was sluggish—in fact, the slowest rate of jobs growth on record since World War II, and just one-fifth the pace of the 1990s.
Then there's wealth. Put simply, the aughts were a decade of income stagnation: The tax cuts failed to bolster most taxpayers' earnings, even before the recession hit. Median real wages actually dropped from 2003 to 2007. Household income from business-cycle peak to business-cycle peak declined for the first time since tracking started in 1967. As documented by my colleague Timothy Noah in his series "The United States of Inequality," this did not hold true for the nation's billionaires and millionaires. Garden-variety high-wage earners saw their income go up. And incomes for the top 1 percent skyrocketed. For some people, obviously, the cuts "generated new wealth," in the president's phrase. But overall, inequality got worse.
That leads to the third metric: Did the cuts "open new opportunities"? It's a vague phrase, but one way to measure it is to look at job growth—and there's nothing to see there. Another way would be to say that the cuts benefited "job creators" (to use the current en vogue phrase), like the nation's start-up businesses. But the number of private-sector jobs created by young companies fell during the Bush administration.
Unfortunately, the tax cuts never translated into robust economic growth, either. Indeed, the aughts saw the worst growth since World War II. From 2001 to 2007, annual GDP growth averaged just 2.4 percent per year, lower than in any other postwar business cycle. The contrast is starker still when judging against the previous decade. In real terms, GDP grew half as much from 2001 to 2010 as from 1991 to 2000.
There is another metric that Bush set out for the tax cuts: Did they succeed in helping to create a smaller government? Again, the answer is no. Events beyond Bush's control necessitated the Afghanistan war. He later decided to invade Iraq, and pushed through unpaid-for domestic expansions of government, like Medicare Part D. Deficits and government spending as a share of GDP grew during the Bush administration.
OK, a final attempt at celebration. Did the tax cuts stimulate the flagging economy in the early aughts? Sort of. Tax cuts give a mild boost to the economy, but not a big one. "After the tax rebates in 2001, 2003, and 2008, households [spent] between 25 and 67 cents more for each dollar of tax cut," William Gale of the Tax Policy Center writes. That makes tax cuts "a relatively weak way to help the economy compared to increases in government purchases, for which each dollar of increased deficit turns into an additional dollar of spending."
So, to recap: The Bush tax cuts were followed by low GDP growth, negative median wage growth, and little job growth. Even before the Great Recession, growth in the Bush business cycle was the weakest since World War II. And the cuts cost about $2.6 trillion between 2001 and 2010, according to the Economic Policy Institute—adding to a debt future generations of taxpayers will pay for, plus interest.[More]

You guys are lucky I have to get in and cool off every now and then.

You do know about Google, right?

One bright side to default... 

If you're a lawyer.

Some fear that a default could cause a 2008-style crunch in repo markets, with the raising of “haircuts” on Treasuries leading to margin calls. The reality would be more complicated. For one thing, it’s not clear that there is a viable alternative as the “risk-free” benchmark. One banker jokes that AAA-rated Johnson & Johnson is “not quite as liquid”. In a flight to safety triggered by a default, much of the money bailing out of risky assets could end up in Treasury debt. Increased demand for collateral to secure loans could even push up its price.Then there is the impact of a ratings downgrade. Money-market funds, which hold $684 billion of government and agency securities, are allowed to hold government paper that has been downgraded a notch. Other investors, such as some insurers, can only hold top-rated securities but their investment boards are likely to approve requests to rewrite their covenants, especially if a lower rating looks temporary. “It would be a full-employment act for lawyers,” says Lou Crandall of Wrightson ICAP, a research firm. There’s a surprise. [More]

I did not know about the flexibility many funds have for downgraded debt. And factoring in the lack of alternatives this could play out differently than I expected. But default does withdraw an immense amount of money from the economy overnight.

But I view it very closely to Andrew Sullivan's position, who has followed the politics of this war closely.

I read George Will's retread column from the 1980s today and simply cannot fathom what he is talking about. Except, I fear I can. He is channeling Mitch McConnell. Boehner and McConnell have one goal and it is has nothing to do with the economy. It is destroying this president and this presidency. They are clearly calculating that the economic devastation their vandalism could create will so hurt the economy that it could bring them back to power through the wreckage. And they will use every smear, every lie, every canard possible to advance this goal. The propaganda channel dreamt of by Roger Ailes in the Nixon era will continue to pump poison into the body politic, until they defeat the man whose legitimacy as president they have never truly accepted.Coming from abroad, this country seems as if it is beyond dysfunctional. It looks like a banana republic on the verge of economic collapse. Now that Nixon's dream has come true and the GOP is fundamentally the party of the Confederacy, it was perhaps naive to think they could ever accept the legitimacy of this president, or treat him with respect or act as adults in the governing process.But this is who they are. I longed for Obama to bridge this gulf in ideology. But he cannot bridge it alone, especially when the GOP is determined to burn the bridge entirely, even when presented with a deal so tilted to the right only true fanatics could possibly walk away from it. And so the very republic is being plunged into crisis and possible depression by a single, implacable, fanatical faction. Until they are defeated, the country remains in more peril than we know. [More]

This debate is about Obama and anger that the world is more complex than we want it to be. But even it they win, the right cannot make it simple (as if it ever was) or even govern.

Meanwhile, the Old World keeps talking and talking and...reaching agreement.

AFTER musing on the new euro-zone plan for an evening, two principal thoughts stand out. First, the deal clearly makes for good firefighting. Yields on peripheral debt are cratering this morning, and it isn't too difficult to understand why. A few days ago, Iwrote:
Either the Europeans are willing to fight to keep their union or they aren't. If they aren't, they'll lose it; it's as simple as that.
In recent weeks, markets came to doubt seriously that the Europeans were willing to fight. The seeming lack of urgency and imagination made a near-term break-up of the euro zone look plausible, even likely, and that was increasingly reflected in bond yields. The new plan does not solve all of the euro-zone's problems, but it does send a strong signal that Europe is not done fighting. And it increases the likelihood that further troubles in the future will be met with further assistance from core euro-zone governments. That alone is enough to take the wind out of the sails of traders betting against the future of the euro zone. [More] 

Of course, that's the upside. But I'll bet our older cousins will still be standing after our circular firing squad has proven less than effective.

Pooling our ignorance...  

I am spending most of my meager surfing time reading as much as I can about the range of possible repercussions from US debt default, which I now rate as very likely. I can't help coming to a conclusion similar to Meagan McCardle:

And about that, Wall Street knows less than we here in Washington.  I dialed into a sell-side  conference call last week to hear what sort of high-level analysis the bond vigilantes were doing, and the answer seemed to be that they knew less than I did.  I didn't hear anything about the process that I couldn't have read in the pages of the New York Times or the Wall Street Journal--or my own blog.  Listening, I thought of the frustration I've often had with people in New York who blithely lay out political strategies for their favored party that couldn't possibly actually work, either because said New Yorkers don't understand the institutional barriers, or because they don't understand what is actually popular outside of Manhattan and Brooklyn.  Even a misunderstanding of small technical questions--like the need for a CBO score, the vulnerability of bills to amendment, or the time it takes to whip votes--lead people outside of Washington to frequently underestimate the difficulties of doing the "obvious" thing.  

On the flip side, it's also clear to me that many people in Washington are living in a bubble where procedure and politics often shut out common sense.  I know I'm losing valuable intelligence about what's happening in the financial sector, because I'm simply not marinating in it every day.  On that same call, I heard an analyst made a point about proposed 14th Amendment bypass of the debt limit, which was so obvious that I couldn't believe I hadn't thought of it: to wit, even if the Treasury simply went ahead and issued more debt, who was going to buy these instruments of dubious legality? And at what price?  Yet all the DC people I'd seen writing about the "14th Amendment Solution" had focused on the legality of the move, or the political fallout; no one had thought about, like, finding customers for the debt.

Washington almost never really thinks about the customers for our debt.  They're useful bogeymen who can be deployed against policies you don't like.  You see liberals claiming that bondholders will be horrified if we cut Social Security benefits (they won't, though they might be horrified if this becomes necessary because we don't lift the debt ceiling--but that worry will be a fear that Congress is crazy, not a fear that this means we're defaulting on our "obligations" to seniors)  You see Republicans claim that they'll be spooked by tax hikes (maybe if we were hiking them from 70% to 80%, but no, the bond market does not care whether top marginal rates are 35% or 45%.)  But on questions where it's actually important, we ignore the core problem of finding customers in favor of arguing about constitutional arcana.  I had an email exchange with someone about the legitimacy of the 14th amendment route, to whom I pointed out that it didn't seem very practical, and he replied "practicalities aside . . . "  Practicalities aside?  Who cares whether it's constitutional for the Treasury to issue bonds no one buys?

And don't get me started on the people who think that some sort of "technical" default wouldn't be a problem.

There are people in Washington who get Wall Street, and people on Wall Street who get Washington.  But they are a small minority in both places--and in both places, outcomes depend on the majority.  I submit that this disconnect is dangerous.  Wall Street is giving us too much rope to hang ourselves because they don't really understand the barriers to achieving fiscal sanity--and Washington is taking it, because they don't really understand how Wall Street thinks, and what the bond traders will do when they finally decide that we're likely to default. [More]

To be sure, our financial industry has passed into inscrutability in many areas like derivatives. This makes substituting simple models for true knowledge very tempting for both sides. But it would seem to me when we are so unsure what might happen to this huge, global economic lynchpin, driving the car over the edge to see what happens is absurd.

 

The level of misunderstanding is not faked either, I now believe. May Republicans subscribe to a theory that default is no big deal and not to use it to achieve their agenda is to pass up the chance of a generation.

Carl Hulse of The New York Times goes full scale shrill blogger and accuses House Republicans of deliberately engineering economic chaos in an effort to secure political advantage: “many Congressional Republicans seem to be spoiling for a fight, calculating that some level of turmoil caused by a federal default might be what it takes to give them the chance to right the nation’s fiscal ship.”
But he seems to have the goods:

“I certainly think you will see some short-term volatility,” said Representative Austin Scott of Georgia, the president of the freshman class. “In the end, the sun is going to come up tomorrow.”
Such sentiments are strongly influencing the negotiating posture of House Republican leaders as they try to strike an agreement with the White House while remaining well aware that the rank-and-file seem more than prepared to oppose a deal if they believe it falls short of the deep spending cuts they contend are required.

[More]

More surprising to me is the idea that the No. 1 priority for Republicans is exactly what Mitch McConnell stated some months ago: make Obama a one-term president. Why that takes precedence over the economic health of the country baffles me, but I now believe he was sincere.  For the right, this is not just about the economy, it is more about political power.

We are preparing for some rude shocks here at Route 2, even though I'm not clear what form they will take. Certainly an exit of fund money from commodity markets might be one reflex, and it would be capable of overpowering a simultaneous drought threat in the short run.

We've already locked in as much long term interest rates as we can, and we are looking at the "transfer tax" window to take advantage of offloading appreciating real estate to downstream generations, since all bets would be off on estate taxes in recessionary government revenue shortfall.

Speaking of which, lost in all the insistence for tax cuts is the fact they are really, really low right now. And the fact that deficit reduction by spending cuts alone is not all that popular outside the far right.

I have no idea whether the political payoff will be there for those betting on default as an election strategy. But I think we we learn about the consequences both quickly and brutally.

Another angle to consider...

As we hurtle toward default: the role of ratings agencies like Moody, Fitch, et al.

The short run picture is more complicated. Avoiding default is presumably the main concern, but if that could be achieved by a Dem capitulation to demands for large spending cuts, so much the better. On the other hand, maintaining any kind of credibility requires a downgrade well before default actually takes place, and probably a series of downgrades as the deadline approaches. Even a single downgrade would throw financial markets into disarray (among other things, investors who are required to hold AAA assets would have to dump Treasuries and, presumably, buy the bonds of other governments). That in turn would place huge pressure on the Republicans. While the idea of “not raising the debt ceiling” polls pretty well, the reality of “destroying the US credit rating” probably won’t. [More]

This is the wrinkle that makes blither about "technical default" so misleading, methinks. The debt market is poorly understood and badly predicted in relatively placid times. Debauching the benchmark debt instrument could provoke little or horrifically concatenated reactions, as outlined above. It seems foolish to find out which for very little gain.


We forget that too many internal investment rules, or mandatory legal guidelines use US Treasuries as THE standard of prudence. Moreover, the knock-on effect would ripple through all other "safe" investments which are actually backed by US bonds.


Where will nervous money go?

Meanwhile, back at the bank...

The small thump you heard yesterday was the US Treasury hitting the debt limit. As expected by most, the sky did not fall, but lest you be too sanguine, a series of events have been triggered that could affect many farmers.

First, foreign investors, who hold nearly half of outstanding Treasury debt, could reduce their purchases of Treasuries on a permanent basis, and potentially even sell some of their existing holdings. A worrisome precedent is the sharp decline in foreign sponsorship of [government-sponsored enterprise, or G.S.E.] debt since Fannie Mae and Freddie Mac were placed under conservatorship. Despite assurances from Treasury officials regarding the U.S. commitment to these institutions, foreign sponsorship has yet to return to pre-conservatorship levels. If foreigners began curtailing their investment in Treasuries as a result of a default, Treasury rates, and thus Treasury’s borrowing costs, would undoubtedly rise. A sustained 50 basis point increase in Treasury rates would eventually cost U.S. taxpayers an additional $75 billion each year. [More]

While the focus here is Fannie and Freddie, don't forget the Farm Credit System is a GSE as well. The longer this game is prolonged, the more problematic its bonding power could become. And if we slip to deeper levels of default beyond the euphemistically labeled "technical default", at some point the implied guarantee of FCS paper becomes worth much less, if not zero.

The POMO schedule for next week calls for only $15-22 billion in gross aid. Because $6 billion in GSE paper will mature, net POMO will total “just” $9-15 billion, so the market’s performance in light of that should give us an interesting perspective. If the market can’t hold up with $9-15 billion of support from the Fed, how will it do with none? 
On the other hand, the debt ceiling issue looms, and I don’t presume to know how that will play out. It’s a contaminating factor insofar as making any judgment about the influence of reduced POMO. This problem needs to be resolved so that we can get back to the business of analyzing this mess in a more “pristine” environment. 
Primary dealers are handing over their long term Treasury paper to the Fed as fast as the Fed will take it, and interestingly the dealers are not replacing it. PD inventory of Treasuries is crashing. This looks like distribution. They're piling up cash at a breakneck pace. But to what end? Are they preparing for the apocalypse come the end of June, or are they preparing to buy massive amounts of Treasury paper once the Fed leaves the market. The answer to that is a no-brainer, but the Street wants us to believe otherwise. 
Wall Street keeps telling us that there will be plenty of buyers for Treasuries once the Fed stops POMO. All the evidence that I now see points in exactly the opposite direction. Not only are the PDs treating Treasury paper like last week’s garbage, banks in general are also dumping the stuff. Only foreign central banks have been good public servants picking up tons of the stuff in recent weeks, but even that appears to have stopped. If they go on strike, it will be a catastrophe for the market. [More]

No, I won't pretend I grasp that, but it seems semi-obvious that nobody truly knows what will happen in the debt markets. we've never charged down this road before. Although after the Lehman Bros. collapse, FCS funding was a struggle at best.


But I thought "uncertainty"  was the favored cause of sluggish business investment. And it was caused by the Obama administration policies. Why aren't Republicans in Congress horrified at the thought of all this real and debilitating uncertainty in the bond market - which they are seemingly happy to provoke?

Nevertheless, Republican leaders view this as a “leverage moment,” to borrow House Majority Leader Eric Cantor’s phrase. They figure that they can extract maximum concessions from the self-styled adult in the room (President Obama) by pushing as close to the edge of the cliff as possible. On Wednesday Cantor upped his leverage moment ante by declaring that the House GOP "will not grant [the] request for a debt limit increase" without major spending cuts or other concessions. As Politico reports, "In the most recent budget battle–over a six-month spending bill–Republican leaders carefully avoided threatening to shut down the government. Now, Cantor says he’s ready to plunge the nation into default if the GOP’s demands are not met." So they’re more willing to flirt with "financial disaster" than they were to talk about government shutdown. Wonderful.
[Read the U.S. News debate: Should Congress raise the national debt limit?]
Which brings us back to the concept of uncertainty. If there’s one thing businesses and Wall Street like less than uncertainty about whether taxes might go up, it’s uncertainty about things like “financial disaster.” They prefer that we not be making a bee line for a cliff at all, because of the attendant uncertainty about the politicians’ ability to avoid driving off of it. [Check out political cartoons about the economy.]
Specifically, while Boehner has tried to explain to Wall Street types the politics of this ‘leverage moment,’ they have shot back that the debt ceiling vote (and the possibility of “financial disaster”) really isn’t something pols should be mucking around with. And it’s not just the Wall Street money wizards who are telling the GOP to quit it: Main Street business groups like the U.S. Chamber of Commerce and the National Association of Manufacturers are also lining up in the don’t-play-politics-with-the-debt-limit camp (h/t Steve Benen). [More]

Beyond the possible FCS hiccup, I think uncertainty is the word dof the day for our commodity markets as well. I also think there is greater downside than up, as panicky money starts running for cover. 


I think this is a moment of greater peril than most realize simply because our financial is so complex it may be impossible to predict. Lord knows we haven't done well the past few years. Like kids playing with explosives, we only have the vagues idea of the interlinkages that could bring down even seemingly unrelated financial activities. 


In short, I think we have just entered a "What-were-we-thinking?" moment.