Has anyone noticed the correlation of “fiscal discipline” chatter to rising interest rates? Efforts by the Fed to manipulate rates lower through the outright purchases of treasuries and mortgage securities seem to be failing as the long end of the yield curve continues to steepen. Is the fiscal discipline talk simply an effort to calm bond investors or is the plan deeper?
Consider some recent comments by the President and the Fed Chairman.
(Bloomberg) — President Barack Obama said he is committed to imposing fiscal discipline on the government and called on Congress to pass a law requiring any new spending be matched by higher taxes or cuts elsewhere. Obama, in his weekly radio and Internet address, said that while his initiatives to confront the economic crisis have deepened the country’s debt,
“We need to adhere to the basic principle that new tax or entitlement policies should be paid for,” Obama said.
“We cannot sustain deficits that mortgage our children’s future, nor tolerate wasteful inefficiency,” Obama said.
Earlier this week, Obama was criticized as doing too little to confront the deficit when he ordered his Cabinet to cut $100 million out of the budget
And right on cue, Mr Bernanke followed up with sobering remarks on the perils of deficit financing and fiscal imbalances.
“Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth,” he said.
The deficit is expected to reach $1.8 trillion this year as the country spends feverishly on financial bailouts, a sweeping stimulus package, lending programs, rescues for the automobile industry and more.
Mr Bernanke states that ”even as we take steps to address the recession and threats to financial stability, maintaining the confidence of the financial markets requires that we, as a nation, begin planning now for the restoration of fiscal balance. Prompt attention to questions of fiscal sustainability is particularly critical because of the coming budgetary and economic challenges associated with the retirement of the baby-boom generation and continued increases in medical costs.”
These are strong words, and appropriately so given the worrisome fiscal outlook facing the US. By necessity, Mr Bernanke will increasingly be in the business of countering monetisation and inflation concerns.
Indeed, the markets have already fired a couple of clear warning shots in the last couple of weeks, as illustrated by recent moves in US bonds and the dollar.
Congress and the people who elected it must decide how much government they want to afford, Bernanke said. Stating the obvious, he went on to say: “Crucially, whatever size of government is chosen, tax rates must ultimately be set at a level sufficient to achieve an appropriate balance of spending and revenues in the long run.”
Unfortunately, Congress and the people have seldom gotten the balance right. We want the benefits of a large government without paying the costs, just as we wanted a loftier personal living standard than our income could support.
The current economic crisis — which demanded “strong and timely actions,” in Bernanke’s view — has accelerated the day of reckoning for our public and private debt…
Both Obama and Bernanke are intelligent men. I doubt that either one truly believes that unlimited borrowing or printed money create enduring economic prosperity. The bailouts, guarantees and deficit spending were necessary to prevent the economic crisis from turning into something much worse, but the cost has accerlerated the “day of debt reckoning”.
Now that the crisis seems contained and rates are rising, the emphasis by both Obama and Bernanke is on ‘balancing spending with revenues”. Since neither man mentions reduced spending, what exactly do they have in mind?
The way this plays out should be interesting. The President wants his numerous costly programs implemented and Bernanke, a “student of the depression” will be loathe to endorse tax increases on a still very fragile economy. Bernanke tells Congress that paying the bills is their problem and Obama states that new entitlements should be paid for. So what is the solution?
The solution is the only one it has ever been- defer any meaningful action to the next administration, defer the unwinding of the excesses to the next business cycle, and defer the debts to the next generation. The “solution” will keep on working until it doesn’t.