USA: abuse of exorbitant privilege

2023-09-17T05:07:27.687Z

Highlights: If Congress does not approve an increase in the federal government's budget by September 30, the executive branch will be forced to implement a shutdown on October 1. A partial government shutdown would have a limited detrimental effect on economic activity, but would not destabilize the financial system. The U.S. should modify its institutional design in such a way as to eliminate the redundant debt-ceiling approval process, says Carlos Serrano, BBVA Research. The current arrangement requires Congress to approve not only the year's budget, but also the borrowing needed to meet that budget.

The country should modify its institutional design in such a way as to eliminate the redundant process of approval of the debt ceiling.

Once again, a critical date in the U.S. fiscal calendar is approaching. If Congress does not approve an increase in the federal government's budget by September 30, the executive branch will be forced to implement a shutdown on October 1, which would imply the suspension of the vast majority of government activities, except those considered essential, such as national defense.

The lack of agreements would not be as catastrophic as it could have been in negotiations earlier this summer, when the result would have been a default on the country's sovereign debt, which would have had negative consequences for the global financial system. A partial government shutdown would have a limited detrimental effect on economic activity, but would not destabilize the financial system. The United States has already experienced episodes of partial government shutdowns due to the lack of political agreements. However, situations like this undermine credibility around the strength of US public debt. The latest threat not to raise the debt ceiling meant the reduction of the country's sovereign rating by one of the world's leading rating agencies.

Most likely, in the coming weeks we will see a temporary solution to this problem that involves postponing the decision, which will result in episodes in which fiscal policy becomes the object of political negotiation.

The United States should modify its institutional design in such a way as to eliminate the redundant debt-ceiling approval process. The current arrangement requires Congress to approve not only the year's budget, but also the borrowing needed to meet that budget. This can lead to situations where, if the debt ceiling is not approved, a government must decide between defaulting on the budget or the debt ceiling.

Regardless of the above, a process of fiscal consolidation is necessary. Calculations by the Congressional Budget Office, a technical and nonpartisan body, indicate that, if the same path continues, the government debt, which today stands at 97% of GDP, will rise to 115% in a decade and 192% in 2053. This would lead to significant increases in interest rates, making credit more expensive for firms and households, and could call into question debt sustainability. The United States has been able to afford loose fiscal policy thanks to what Berkeley economist Barry Eichengreen calls the "exorbitant privilege": having the reserve currency globally. But if it continues down the same path, it could call that privilege into question.

Carlos Serrano, BBVA Research.

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