Curious Capitalist

Foroohar: Washington Dysfunction Is Hurting GDP Growth

It's also cost the country an additional 2 million jobs

  • Share
  • Read Later
J. Scott Applewhite / AP

For the last three years, there has been much speculation over the economic cost of partisan politics. A new study has put a number on it. According to a report prepared by Macroeconomic Advisors for the Peterson Foundation, the fiscal drag and uncertainty that has resulted from a more polarized Washington has shaved a percentage point off GDP growth since 2010 and cost the country 2 million jobs over the last three years.

The study’s starting point is an index of policy uncertainty from Stanford academics, which it tweaked to reflect the budget and fiscal debates in Washington over the last three years. The study takes into account factors such as news mentions of policy uncertainty, tax provisions that are set to expire by year-end (and thus come up for debate), and widely divergent ideas about what budget and spending policy is likely to be. These are then tallied against uncertainty in the market, as evidenced by things like the divergence between T-bill yields and mortgage rates, corporate bond rates, other credit spreads and the equity risk premium. Looking at all of this, Macroeconomic Advisors found that market uncertainty was strongly correlated with political uncertainty. The group then created a counter-factual model of what the economy would have looked like if policy had been perfect—meaning no budget fights, debt-ceiling standoffs, or sequesters. The result would have been an addition 3/10th of a percentage point of growth per year, plus 2 million more jobs.

(MORE: China Got into Bed with the U.S. Treasury and Can’t Get Out)

The headwinds have of course increased with the last three weeks of government shutdown. “While it’s true that our current fiscal situation is unsustainable, and we need entitlement reform, that’s a long-term problem,” says Macroeconomic Advisers co-founder Joel Prakken. “The near term fiscal contraction caused by a partisan government and calendar driven politics has forced an economic contraction when the economy is already weak.” What’s more, says Prakken, the fact that the Federal Reserve has had to step in and keep rates low and asset buying high in lieu of real, growth-oriented fiscal policy has led to a situation where the Fed can’t do too much more to goose the economy. “Ideally, we’d be in a situation now where the Fed could lower rates if it needed to in order to help growth,” says Prakken.

In the short-term, the debt wrangling means that the Fed is unlikely to start tapering back it’s $85 billion-a-month asset buying program. Macroeconomic Advisers estimates that a default on U.S. Treasury debt could push the unemployment rate up from its current 7.3% to 8.5%, thanks to rising borrowing costs, falling asset prices, and the fiscal pullback that would result if the government had to stay under the debt limit for very long (which would necessitate bringing spending into alignment with tax revenue immediately, a multi-billion shift). “I’m incredulous about what’s happening in Washington,” says Prakken, echoing the rift that many outside the Beltway feel. “Politicians who are saying this isn’t a big deal – they are wrong.”