Success on Debt Still Risks Damage to U.S. International Financial Image (8/2)     Print

The U.S. finally chalked up a success in reaching a Congressional deal to avoid default on the national debt, but considerable “damage may already have been done” to America’s image as a global pillar of financial security and adept manager of economic power.

Foreign observers – even in countries with debt crises of their own – have voiced surprise and concern at the spectacle of Congressional brinksmanship and the rejection of timely political compromise. The fiscal hard-liners, mainly the Tea Party minority, seem to have carried the day with their insistence that an agreement could not include any increase in tax revenue but only cuts in public spending and government investments.

That deal may be revisited by a powerful new committee that is to work out terms for further budget rebalancing. Then voters will have their say in laying blame or praise on the fiscal hawk in the Republican Party and on President Barack Obama, who signed an accord against his own fears that too much austerity risks killing economic recovery and job creation.

The phrase quoted above about “damage already done” comes from Fareed Zakaria of the television channel, CNN, who argues that U.S. credibility is now surrounded by uncertainty. According to Zakaria, this reputational damage is self-inflicted – a point he made earlier in a book (reviewed in European Affairs).

This risk of damage to the international reputation of the U.S. was also noted publicly by Christine Lagarde, the new managing director of the International Monetary Fund. She has said that “global markets have always had a positive bias towards the United States but that is now eroded somewhat.”

America's biggest creditor – China – welcomed the agreement, but warned Washington to act responsibly with its debt, saying uncertainty in in the U.S. Treasuries market will undermine the international monetary system and hamper global growth. These remarks contrasted with a harsher tone adopted by Chinese media. In an unambigious response, China's state news agency "Xinhua" desribed the U.S. debt debate as a "mad-cap farce" and the debt itself as a "ticking bomb which has been delayed not defused." Meanwhile, a Chinese ratings agency cut its rating for the U.S. to A from A-plus, arguing that the debt deal does not improve America's debt-paying ability in the long run.

Among European allies, concern along these lines has been muted in public, mainly because the specter of a U.S. default also poses a threat to Europe’s fragile economic situation. But privately Europeans have been expressing their concern at the sight of America’s political leadership, especially in Congress, putting at risk the nation’s reputation as the world’s economic safe haven. An antagonistic jibe came from Russia’s Prime Minister Vladimir Putin: he said that  Americans “are living like parasites off the global economy and their monopoly of the dollar” – a reference to the U.S. currency’s role as the prime reserve currency used to denominate much trade, including oil and other commodities.

The debt ceiling is a clear example of American “exceptionalism” (Denmark is the only other country which has one). Since 1960, the debt ceiling – allowing the government to borrow more to meet its already-incurred debts – has been raised 78 times in the U.S, but this time it became the locus bellicus of fierce debate about long-term deficits. The radically conservative Tea Party movement members seized the opportunity to cut the government budget – and in their eyes cut down the role of government by cutting off its ability to borrow more. This group is indifferent to the international role of the U.S., focusing instead on internal fiscal discipline at the expense of any other consideration, including – unusually for conservatives – even the defense budget.

The toughest battle took place in the House of Representatives,  where since the 2010 mid-term elections newly elected first-time members from the Tea Party have been able to form a 60-odd member blocking minority within Republican ranks. They successfully stood up to Democrats, who wanted higher taxes to fund social programs. Their hard line brought negotiations to the brink of a national credit default, for which the deadline was midnight Tuesday in Washington.

In the event, the House, after delaying the vote several times, passed the measure Monday comfortably (269 to 161). The outcome was viewed as largely based on Tea Party terms. Crucially, the agreement creates a joint congressional committee charged with finding an additional $1.5 trillion savings before Christmas, and the membership of this commission and its work will be crucial to any longer-term U.S. success in avoiding a downgrading of the ratings of the nation’s bonds and borrowing power.

It seemed almost an anti-climax when the democratically-controlled Senate passed its own approval Tuesday as expected and President Barack Obama signed the bill into law.

Critics have warned that the current U.S. action in cutting government spending could actually undermine economic growth and U.S. credit. Several EU countries, notably the United Kingdom, have already implemented austerity budgets. The UK’s major cuts in public spending announced a year ago – the most ambitious since the Thatcher government in the 1980s – have lowered Britain’s borrowing costs, but they have worsened joblessness.

In the U.S., Democrats predict a similar impact from the austerity package that has been enacted – an outcome that could undermine the economy and the President’s prospects of re-election.

Eurozone governments may admire the American readiness to take on voluntarily a problem that they themselves are being forced to confront in a very painful manner. But they are worried about future developments in Washington in a period when the Federal government – and especially Congress – seems nearly unable to reach tough compromises of the sort that have been a hallmark for pragmatic American policy-making and that have been relied on by voters and by foreign governments.

 

      ---  By European Affairs