A Debt Deal That Doesn’t Deal With Debt

There are two key lessons from this episode. First, as politics have become more polarized, both parties, though Republicans more so, have reached for financial tactics once seen as off limits to achieve their goals. Yet even as the tactics become more extreme, the goals have drifted further from controlling deficits and debt.  

Republicans’ beef has never been with debt, otherwise they would not routinely vote for tax cuts, as they did in 2017, that add to it. Their beef is with the size and nature of government spending.

President Joe Biden and House Speaker Kevin McCarthy reached an agreement to raise the debt ceiling. WSJ’s David Harrison breaks down what to know about the deal and its path through Congress. Photo illustration: Kaitlyn Wang

And yet even on spending their ambitions have shrunk. When the government shut down for a then-unprecedented 21 days in 1995-96, a key reason was a demand by Republicans, led by then-House Speaker Newt Gingrich, on changes to Medicare intended to save money. He didn’t get those changes, but he did succeed in normalizing shutdowns as a negotiating tool. 

Shutdowns result when Congress doesn’t authorize money for government programs. By contrast, the debt ceiling limits how much the Treasury can borrow to pay for programs that are already authorized—including interest on existing debt. In 2011, Republicans, then in control of the House, raised the prospect of not raising the debt ceiling, forcing the Treasury to default, to extract spending cuts from President Obama.

For a time, both sides were willing to consider changes to Social Security and Medicare, which provide pensions and healthcare to the elderly and disabled. Both are mandatory programs, i.e., they don’t have to be reauthorized each year. In the end, though, the programs were left largely untouched and cuts were borne almost entirely by discretionary spending—the sort that has to be authorized each year and covers many vital federal functions such as the National Park Service, the U.S. Coast Guard, National Institutes of Health and National Aeronautics and Space Administration. Nonetheless, the Overton window had moved: threatening default was now an acceptable negotiating tactic.

By 2023, the negotiating field had narrowed considerably. In his State of the Union speech, Biden accused Republicans of wanting to sunset Medicare and Social Security. When they protested, he declared a bipartisan consensus on leaving the two alone.

Sure enough, when House Speaker Kevin McCarthy (R., Calif.) opened negotiations, the two programs were off the table, along with veterans’ benefits, defense, interest on the debt, and, of course, taxes. That left nondefense discretionary spending, less than 15% of the total, to bear the brunt of any cuts. “If you were really serious about debt and deficits, you wouldn’t be focusing on 15% of the budget,” said Bill Hoagland,

And in the end, discretionary spending will actually rise slightly next year, after inflation, according to Goldman Sachs. The Congressional Budget Office estimates the deal will reduce deficits by $1.5 trillion over a decade. That sounds like a lot, but it simply means the federal debt, now 97% of gross domestic product, will rise to around 115% in a decade instead of 119%. And that’s assuming former President Donald Trump’s tax cuts expire after 2025 and a future Congress doesn’t jack up discretionary spending.

So what was the point? Asked Tuesday by a radio host what comes after the deal, McCarthy said that when the new spending caps are translated into specific program cuts during the appropriations process, “you’re able to eliminate the wokeism.” The target, in other words, wasn’t spending per se; but the political values reflected in that spending.

The U.S. isn’t the only advanced country whose politics have become polarized, but it’s the only one where the division of budgetary authority between the executive and legislative branches, an annual budget cycle and a debt ceiling offer so many opportunities for polarized politics to jeopardize what should be the routine matter of funding the government. That’s why Moody’s Investors Service rates the U.S. institutional strength lower than that of any other triple-A-rated country.

To date, this has had little financial or economic fallout. In the wake of the global financial crisis in 2007-09, real (inflation-adjusted) interest rates were routinely zero or negative. This kept the cost of servicing debt low even as the level of debt soared. For a while, the ability of Washington to borrow and spend kept inflation from falling even further.

Those conditions aren’t likely to return. Inflation is running at around 5%, more than double the Federal Reserve’s target, and getting it down may require sustained positive, possibly high, real interest rates. That would put upward pressure on future deficits that as a share of GDP are already the highest of the seven largest advanced economies, according to the International Monetary Fund

“The US stands out as having one of the least affordable debt burdens among Aaa-rated sovereigns and G-7 countries,” Moody’s wrote in March. “Over the medium term, in line with rising US interest rates, we expect US debt affordability to gradually deteriorate, driven mainly by higher interest payments and comparatively weak government revenue growth.”  

Future Congresses will thus be confronted with more of the budget eaten up by interest costs. And if this year is any indication, it will be without a majority willing to vote for either higher taxes or lower mandatory spending to offset it.

Write to Greg Ip at [email protected]

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