The Sky Won’t Fall if the Ceiling Holds

Paul Krugman proffers a trademark sneer to the “default deniers” who are “asserting that the government can prioritize, so as to avoid a default on interest payments”. Not so, says Krugman, who insists that

The crucial point here is that even if they’re right about interest payments — which is unclear — the government will (a) still go into default on obligations to vendors, Social Security recipients, and so on (b) be forced into spending cuts so large as to guarantee a recession if the standoff lasts any length of time.

Well, first of all, as I wrote the last time the debt ceiling got raised, it’s easy to cover all of the interest on the national debt via spending cuts. At least to a rough approximation, you could do it by eliminating the Departments of Commerce, Agriculture and Labor, none of which should ever have existed in the first place.

Moreover, although now we’re talking about small change, we do still have a Corporation for Public Broadcasting and National Endowments for the Arts and Humanities. As long as these survive, it’s clear that nobody’s even tried to make rational spending cuts.

Would trimming the government trigger a recession? I don’t know (and neither does Krugman), but in the scheme of things I also don’t particularly care. It can easily be worth a little short term pain to insure a lot of long term prosperity — something Krugman frequently fails to acknowledge, especially when it gets in the way of his scaremongering.

A hard limit on spending is a very good thing, because it forces each legislator who wants to spend a little more on projects A, B and C to make the case against funding some other projects x, Y and Z. (More on this point here). A hard limit on debt is not exactly the same thing as a hard limit on spending, but it’s about the closest thing we’re likely to get. I hope they don’t raise it.

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45 Responses to “The Sky Won’t Fall if the Ceiling Holds”


  1. 1 1 Harold

    I don’t know what would happen if the debt ceiling is not raised, and whether it would be good or bad long term. What does seem stupid is to have a debt ceiling that automatically gets raised. I seems that at some point you either have to not raise it or do away with the whole conceit of a ceiling.

  2. 2 2 Dave

    New debt ceiling = new debt target

  3. 3 3 Manfred

    Steve,
    “I hope they don’t raise it.”
    Come on Steve, you know better, much better. One thing is to live the world of hope (and change?), and the other is to live in the cold reality of “what is”.
    Of course they will raise the debt ceiling, of course they will run the tab up to the ceiling and in a short period, a few months, they will be at this same point again, asking for a raise in the debt ceiling.
    But not to worry, Janet Yellen will be Chairperson of the Federal Reserve, and all indicates that with her at the helm, the Federal Reserve will print money galore, with no end in sight.
    I am thinking of buying a wheelbarrow, to carry all those billets as the Germans carried in 1922.
    And, BTW, with worthless dollars, the debt will be worthless, too, so what’s the problem?

  4. 4 4 Windypundit

    The very existence of a debt ceiling pisses me off to no end. Giving congress control over taxation, spending, and debt is trying to control all the variables in the equation at the same time. That never works out well.

  5. 5 5 Andy B

    It seems to me every project that has a net benefit to society should be done. Why would we want to limit any of them? And net benefit to society means benefits outweigh costs inclusive of who the provider is.

  6. 6 6 Bill

    Krugman (and many others) must find this fact concerning not making Social Security benefit payments quite inconvenient.

    http://econlog.econlib.org/archives/2011/07/tom_saving_on_t.html

  7. 7 7 Wonks Anonymous

    I think you need an implicit theory of public choice modeling how legislators behave. Does the debt limit actually constrain spending? I haven’t seen any evidence of that.

  8. 8 8 Daniel

    @Landsburg,

    Aren’t you worried at all that a what, 20% reduction in government spending will trigger a recession that will lose republicans the house in 2014, even if the long-term affect is positive, and that there will be no way to vindicate this reduction because democrats will simply roll it back and then some when they have full control over the federal government?

  9. 9 9 Daniel

    @Landsburg,

    Wouldn’t it be better to run on the fact that the sequester seemingly had very little affect on the economy, to get Americans used to the idea that not all spending cuts are bad, and then slowly rollback government spending overtime?

  10. 10 10 CC

    Manfred- How’s that hyperinflation prediction working out for you so far? I think I’ve been hearing this since 2009.

  11. 11 11 nobody.really

    it’s easy to cover all of the interest on the national debt via spending cuts. At least to a rough approximation, you could do it by eliminating the Departments of Commerce, Agriculture and Labor….

    Let’s say that we could balance the budget by eliminating the Departments of Commerce, Agriculture, and uh, uh, uh, that third one; oops. Does it therefore follow that eliminating these departments is easy?

    Specifically, who has authority to do it? More specifically, can Obama do that unilaterally, or does it require securing an act of Congress – something only a fool would characterize as easy?

    If so, when we get to 11:59pm on October 16 (or 17?), the “be forced into spending cuts” option may no longer be on the table, and the only option remaining may be default.

    When that happens, I’ll try to take comfort in the idea that “It can easily be worth a little short term pain to insure a lot of long term prosperity….” It’s not intuitively obvious to me that the US defaulting on debt is the path to long-term prosperity – but then, lots of things economists say strike me as counter-intuitive.

  12. 12 12 Daniel

    @Landsburg,

    And what if you’re wrong, and cutting spending by 20% or more, causes not another recession but keeps us in a further depression for another 5 years? Would you still consider that a victory? Do you not buy the argument that keeping people unemployed for long periods of time is damaging to human capital formation.

  13. 13 13 Jack

    Aren’t we mostly an insurance company with an army? Is closing the national endowment of the arts and these other piddly functions really going to solve anything?

    Let’s try to reduce military spending and figure out ways to limit Medicare spending , particularly end of life spending…

  14. 14 14 nobody.really

    Let’s try to reduce military spending and figure out ways to limit Medicare spending , particularly end of life spending…

    That’s what the Death Panels are for. But then we put them on furlough. Thanks a lot, Boehner!

  15. 15 15 Daniel

    @nobody.really,

    “That’s what the Death Panels are for. But then we put them on furlough. Thanks a lot, Boehner!”

    Don’t you just love how democrats are either making “savage” cuts to Medicare, or not paying any attention to our “train wreck” fiscal path.

  16. 16 16 Bob Murphy

    Great post, Steve. Since I’ve been bashing Krugman so much lately at my blog, I let this one guy, but it was particularly egregious.

    (a) He wrote “The crucial point here is that even if they’re right about interest payments — which is unclear…” It’s unclear to Krugman whether the government has enough incoming revenue to cover interest payments on maturing debt? Is that like General Turgidson saying he hates to judge on something like this before all the facts are in?

    (b) In a post entitled “Default Deniers,” Krugman pivots and says “the crucial point here” isn’t about whether the Treasury will have to default, but that there will be a recession if the government cuts spending for a lengthy time. So shouldn’t his post be, “Keynesianism Deniers”?

  17. 17 17 Manfred

    CC:
    You are right, it is not working out very good.
    But…
    Most of the money that the Fed Reserve hands out to banks, are kept as excess reserves in the Fed itself. So, they are not in circulation. Just give it some time, and when that money finds its way into the Main Street, it will be another story.

  18. 18 18 Daniel

    @Bob Murphy,

    (a) No, Krugman’s unclear about whether the executive branch can actually prioritize, not on whether they have the revenue to cover their debts. It’s a constitutional issue that’s not black and white. Looks like you didn’t even read Krugman’s original post, so here’s the longer quote:

    “The higher denial involves asserting that the government can prioritize, so as to avoid a default on interest payments, that this would avoid damage to the financial system, and that this means that everything will be OK. This is what you’re hearing, for example, from erstwhile respectable Republican economists, who have (surprise!) mostly fallen in line as the crisis looms. The crucial point here is that even if they’re right about interest payments — which is unclear — the government will (a) still go into default on obligations to vendors, Social Security recipients, and so on (b) be forced into spending cuts so large as to guarantee a recession if the standoff lasts any length of time.”

  19. 19 19 Patrick R. Sullivan

    Government spending cuts don’t cause recessions–if they did we would have had a doozy in the fall of 1945–though they do cause problems for people who had planned on receiving the spending. Which is what politicians don’t like; being the messenger of the bad news.

    What Republicans need to do is keep pounding away on the theme that the government’s habit of spending, and promising to spend more, money that isn’t there, has to be SHUTDOWN. After all, millions of Americans have had to do that themselves.

  20. 20 20 Will A

    Would trimming the government trigger a recession? I don’t know (and neither does Krugman)

    It would be nice if economics could get to the point were people could run models to see the effects of things like the department of commerce being eliminated.

    Then people could say, under this model, a recession would happen, but other this model a recession won’t happen.

  21. 21 21 Daniel

    @Patrick R. Sullivan,

    Right, when government cuts spending when they’ve forced it temporarily past full employment to fight a war, and in a liquidity trap are exactly the same thing. You’re sooooo smart.

  22. 22 22 Bob Thompson

    @Landsburg

    Why leave the Department of Education off your list?

    One way to effect such an outcome would be to pass CR’s that fund everything but these departments.

    As for the effect of an extended impasse on Republican election chances in 2014, my understanding is that most Republican House seats are solidly held and any number of positive things can develop over the course of a year.

    OTOH, liberal success in all that they are trying will bury conservatives for some time, so I’d rather go all in.

  23. 23 23 Daniel

    @Bob Thomson,

    I know PPP is paid for by liberals but it’s pretty dramatic results.

    http://election.princeton.edu/2013/10/08/the-risk-to-the-gop-house-majority/

  24. 24 24 Bob Thompson

    Daniel @23

    ‘Note that in these calculations I did not even include the worst of the news for Republicans. In a followup series of questions, PPP then told respondents that their representative voted for the shutdown.’

    Did I miss the vote on the shutdown?

  25. 25 25 Daniel

    @Bob Thomson,

    Democrats will surely claim this is a consequence of forcing other conditions for reopening. Americans will more likely believe them because they’re the party of big government.

  26. 26 26 Danyzn

    It may be good to have a hard limit on spending that forces legislators to choose what to cut. But the debt is nothing of the sort. It allows legislators to pretend there is a limit without cutting anything. It doesn’t constrain spending at all. Appropriations remain the same. Payments due are still due; at most they get delayed. Even the debt is not really constrained by the debt ceiling; payments in arrears are debt in reality, even if not legally.

    The way to balance the budget is to enact a balanced budget. The debt ceiling serves no purpose towards that end.

  27. 27 27 Bob Thompson

    Daniel:

    Can you not see that in an actual election campaign a voter cannot be told a Republican ‘voted’ to shutdown the government without such falsehood being seriously challenged. The PPP polls do not account for what the actual election conditions will be, so they are biased.

  28. 28 28 Daniel

    @Bob Thomson,

    Of course as Sam Wang stated, but voters already blame republicans more for the shutdown. I’m sure that a recession induced by not raising the debt ceiling would also get blamed on Republicans. Of course the election is already a long way off, so the polls are undoubtedly biased. But I’m just using it as evidence that the the Republican seats are not a sure thing and getting blamed for inducing a recession will harm them further.

  29. 29 29 Chicago Methods

    I was lucky enough to go to a talk by Chris Sims at my school (U of Minnesota, TC) where he discussed the differences between inflation and the debt in the United States in comparison to the European Union. Briefly from what he said, the United States has very little to worry about in regards to defaulting as long as the debt is something that creditors think will eventually be paid off (i.e. good debt that the country can grow out of). Also, since the United States doesn’t have a currency exchange issue, this debt can be issued out on a rather costless basis. However, we would be in trouble if confidence in the U.S. slips and we start to see large levels of inflation creeping up. We haven’t seen these large levels of inflation, so we are still okay. On the other hand, The European Union has a very tangible worry about defaulting, because they have to exchange euros for a national currency in order to “pump prime” the economy. And, as we know, this would mean that one country might have to suffer in order to bring up another country (think the feud between Southern Europe like Greece and Northern Europe like Germany). No politician wants to be blamed for a poor economy.

    Krugman is being an alarmist like usual. In other words, he’s being less of an economist and more of a blogger.

  30. 30 30 Daniel

    @Chicago Methods,

    http://krugman.blogs.nytimes.com/2013/10/10/the-debt-ceiling-and-the-housing-bust/?smid=tw-NytimesKrugman&seid=auto

    I think there’s more to worry about here. Shocking a financial system by 4% of GDP doesn’t seem like a good idea to me. I’m not really sure we can predict the outcome.

  31. 31 31 Mike H

    #11 It’s not intuitively obvious to me that the US defaulting on debt is the path to long-term prosperity

    … nor that the pain would be short-term.

  32. 32 32 Harold

    “The European Union has a very tangible worry about defaulting, because they have to exchange euros for a national currency in order to “pump prime” the economy.” Europe has problems with the Euro, but these are more in line with the later points you make – I am not sure what you mean by exchange euros for national currency – the national currency in the eurozone is th eeuro. This causes problems as economies in different countries are not aligned. Greece would probably like to devalue its currency, but it can’t.

  33. 33 33 Patrick R. Sullivan

    If ‘default’ is going to be such a big deal, why have the financial markets been yawning at the prospect?

  34. 34 34 Floccina

    Departments of Commerce, Agriculture and Labor

    What about the dpt of energy? It seems pretty useless to me.

  35. 35 35 Daniel

    @Patrick R. Sullivan,

    The markets are convinced that there will be a resolution. I’ll wager 20 bucks to you if we hit the ceiling and the markets haven’t imploded 3 days in.

  36. 36 36 Chicago Methods

    @Harold,

    One of the main points of the Chris Sims lecture I went to was that printing more money in Europe is not a costless endeavor as it is in the United States. This makes the Eurozone susceptible to default, while, in the United States, we don’t have this problem. So the U.S. is in little risk of default – as long as confidence in the dollar remains and we don’t see large levels of inflation. At the end of the lecture, he spoke about his hope in Europe to get “innovative” to try and find ways to come together to solve the debt problem. He doesn’t know directly how they can get innovative, but he thinks it’s probably the only way to solve the issue.

  37. 37 37 Chicago Methods

    @Daniel,

    I rarely ever listen to Krugman. In his world, the sky is constantly falling down.

  38. 38 38 Chicago Methods

    also @ Harold,

    I can’t remember the details off the top of my head, but his lecture notes where pretty consistent with the verbal lecture.

    Here: http://hhei.umn.edu/assets/pdf/2013SimsTalk.pdf

    It is important to note that, while Sims says that inflation has a tendency to creep up with ether increasing taxes or spending cuts with high levels of debt, the U.S. has quite a bit of “wiggle room.” In his talk, he explicitly says that the U.S. has very little risk of defaulting.

    Another point he makes: If we wish to reduce the debt, it should be a gradual process and not one where we try and rip the band-aid off the wound.

    With Regards to the ECB and its risk of default: To the extent that it directly or indirectly has Euro zone country debt on its balance sheet, it has defaultible assets. Any private sector debt it holds must of course have some default risk. Any foreign government debt it holds is subject to exchange rate risk.

    Here is where you can find the video of the lecture: http://hhei.umn.edu/news/pastEvents/2013ChristopherSims.php

  39. 39 39 Harold

    #38. Thanks for the links. Very informative. In his Eurozone policy slide he says ECB could use similar policies as the US, but some countries (e.g. Germany) resist because it would benefit other (Southern European) countries whilst exposing all countries to risk. This is the problem in Europe. I suspect without something like a United States of Europe a single currency will continually run into these sort of problems.

  40. 40 40 Daniel

    @ Chicago Methods,

    It’s not just Krugman buddy,

    http://www.igmchicago.org/igm-economic-experts-panel/poll-results?SurveyID=SV_5sSZWoldi8NSs9D

    No one’s saying that the sky will fall, just that we’ll pay a steep price for going over the debt limit.

  41. 41 41 Harold

    #40 – well found. We had a post about this panel a while ago and sort of concluded that where there was very strong agreement it was likely that the answer was a good one. However, the question was “If the United States fails to make scheduled interest or principal payments on government debt securities, even as an unintended consequence of political brinksmanship, US families and businesses are likely to suffer severe economic harm.” to which only 3% disagreed and none strongly disagreed. (why do these votes not add up to 100%)

    However, we must point out that the ceiling holding is not the same as failing to make the payments – which is the point of the post.

  42. 42 42 Harold

    Supplementary: only 3% disagreed with this one: “Because the US has underspent on new projects, maintenance, or both, the federal government has an opportunity to increase average incomes by spending more on roads, railways, bridges and airports.” Is that a big Hoorah! for Keynes, or is this something different?

  43. 43 43 Harold

    More relevant to thos post: “Because all federal spending and taxes must be approved by both houses of Congress and the executive branch, a separate debt ceiling that has to be increased periodically creates unneeded uncertainty and can potentially lead to worse fiscal outcomes.”

    Only 3% diasgreed (2% corrected for degree of confidence). It seems that among economists the debt ceiling is almost universally seen as a bad thing.

    Must get on with something else now.

  44. 44 44 Daniel

    @ Harold,

    “However, we must point out that the ceiling holding is not the same as failing to make the payments – which is the point of the post.”

    Probably surprising to others here, but I don’t think the government (or any other large group for that matter) is infallible and that mistakes will be made in trying to prioritize. This means defaulting on atleast some payments.

  45. 45 45 Harold

    Daniel – I agree that it probably will result in some defaults – the option of cutting the rest of spending by such a large extent to keep up payments would be handing the Tea Party everything they want on a platter. I can’t see that happening, even if it were possible.

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