- The Foundry: Conservative Policy News from The Heritage Foundation - http://blog.heritage.org -

Without Reform, Entitlement Spending Poses a Default Risk

Posted By Salim Furth, Ph.D On October 4, 2013 @ 3:19 pm In Capitol Hill,Economics,Front Page | Comments Disabled

Newscom [1]

Newscom

The Obama Administration argues that failure to raise the debt limit would lead to a default on federal debts, causing unacceptable harm to the economy. But the President has ample discretion to prioritize debt payments and avoid default. The President has failed to address the more fundamental risk of default: unconstrained increases in entitlement spending.

Sovereign debt default—the failure of the federal government to pay the interest on its public debt—could have drastic consequences on the financial sector and the broader economy. That is why it is vital to pursue policies that will avoid both a near-term default and future default.

Even though the federal government receives enough revenue each month to make its interest payments, Treasury Secretary Jack Lew [2] and President Obama [3] have implicitly threatened to use their discretion over payments to default on debt. That would be a terrible mistake.

The debt limit has frequently been used—by both parties—to force serious reconsideration of the government’s fiscal irresponsibility. The Treasury released a report calling a possible default “catastrophic” [4] and potentially worse than the 2008 financial crisis. That would be true if Lew and Obama neglected to pay interest on the debt, but it would be even truer of a future crisis brought on by perpetual growth in entitlement spending.

A debt default brought on by political brinksmanship and chicanery would be bad, but a crisis brought on a few decades from now by the inability of the U.S. to service its debt would be worse. In the present case, the U.S. could be on a sustainable fiscal trajectory without major structural changes. But without significant reforms to the deficit drivers [5], U.S. debt will stay on a permanent upward trend [6].

If spending and debt continue to grow uncontrolled, investors will, at some point, choose to stop lending to the U.S. That has happened before in other countries, most recently Greece, and it has been a real worry in much larger European countries, including Italy and France. Harvard professor Ken Rogoff wrote yesterday in the Financial Times [7] that the U.K. had good reasons to curtail the growth of its debt and that “panglossian” advocates of higher government spending used “a shallow reading of the evidence” and have “amnesia about recent risks.” The same is true in the U.S.

Treasury’s warning should be sobering to those who think that a sovereign default could never happen here.

The International Monetary Fund [8] has amplified Heritage’s view that now is the time for financial stability:

The key lesson of the past few years is that imbalances need to be addressed well before markets start signaling credit concerns. Both the United States and Japan need to put forth without delay fiscal consolidation strategies that address important fiscal risks.

Congress and the President should agree to put the U.S. on a strong fiscal footing for the next generation by reforming the major entitlement programs, replacing Obamacare with fiscally sound health care reform, and ensuring that all U.S. financial obligations are honored.


Article printed from The Foundry: Conservative Policy News from The Heritage Foundation: http://blog.heritage.org

URL to article: http://blog.heritage.org/2013/10/04/without-reform-entitlement-spending-poses-a-default-risk/

URLs in this post:

[1] Image: http://blog.heritage.org/wp-content/uploads/debt.jpg

[2] Secretary Jack Lew: http://www.foxbusiness.com/government/2013/10/03/lew-to-fox-business-treasury-out-tools-to-pay-us-bills/

[3] President Obama: http://www.usatoday.com/story/news/politics/2013/10/03/obama-debt-ceiling-governnent-shutdown-m-luis-constuction/2914557/

[4] a report calling a possible default “catastrophic”: http://www.treasury.gov/initiatives/Documents/POTENTIAL%20MACROECONOMIC%20IMPACT%20OF%20DEBT%20CEILING%20BRINKMANSHIP.pdf

[5] deficit drivers: http://www.heritage.org/federalbudget/entitlements-historical-tax-levels

[6] on a permanent upward trend: http://www.cbo.gov/publication/44521

[7] wrote yesterday in the Financial Times: http://scholar.harvard.edu/files/rogoff/files/britain_should_not_0.pdf

[8] The International Monetary Fund: http://www.imf.org/external/pubs/ft/gfsr/2012/02/pdf/press1-2.pdf

Copyright © 2011 The Heritage Foundation. All rights reserved.