We Averted the Debt Ceiling Disaster, Why is the Economy Still Falling?

The recent focus on U.S. spending and its ensuing debt ceiling showdown were an exercise in ideology, not economics. It's unfortunate, but the dogma that proliferated has left a nation of Americans even more unsure than they were already, about what exactly is wrong in the first place. Last week, I continued to hear many people assert that the ”real problem“ was that the U.S. government spends money it doesn't have.

It would appear that our limited attention span coupled with a desire for ”solutions“ that fit on bumper stickers and require no mental heavy lifting, has made it perilously easy for those with an interest in doing so, to explain away difficult and complex problems with nothing more than nonsensical slogans that suit their own agendas.

In fact, many Americans registered shock when the markets actually took a heavy dip after the ”solution“ was devised. True, there was a moment of relative calm when it became clear that we weren't going to walk ourselves off a cliff, but once analysts then took a moment to access what was left, it should not have been surprising at all that they didn't like what they saw. The deficits that the United States has been running, effectively since the end of the Bretton Woods era, are indeed a problem for the long-term health of both the domestic economy and world monetary system. They're just not the problem right now – or weren't until we insisted upon making them one.

Economically, in the immediate term, we have a very serious unemployment problem. True, we would ultimately reach an economic principle known as liquidity trap were we to continue to deficit spend at this percent of GDP – but failing to truly fix what's at the root of our economic woes is a much bigger problem. We have, in the past, spent heavily during stagnant economies and created growth that has increased revenues by many times what was waged in government spending. When the private sector is not spending or borrowing and the consumer can do neither, only the government can keep things afloat by spending money into the economy. That's pretty straightforward.

Here is the supposed argument - that businesses are not spending money and creating jobs because of ”concern“ over debt. Any economist understands this is 100 percent false and I believe even those behind the argument understand it too. Businesses are not spending, or borrowing, or "growing", despite record profits, because they have no reasonable expectation of a return on any of those investments because there are no longer enough viable debtors to purchase any real expansion of production. That's a real and quite significant problem, and the fact that so much of the money spent has gone to areas other than consumer relief or job creation should demonstrate how misguided our policies have been.

Debt is not a dirty word. In our economy, debt is money. No money is created without debt. The money supply does not expand on any level without debt - either individual, corporate or public. Fractional reserve accounting allows debt to create growth. A dollar in money, becomes several dollars in debt, which is money added to the system, or ”growth.“ We can't grow debt right now because too many Americans are leveraged to the point of being out of the game. They could never realistically earn enough to pay off what they owe in three lifetimes, hence they can't borrow more.

The credit crisis merely increased the velocity of the economy and accelerated the rate of extraction by those who profit off of debt and debt-related transactions. One of the problems with doing that is that it takes generations of new spenders to reset the game. As counterintuitive as it seems in the current argument, the real answer was a MUCH LARGER stimulus - $3 trillion perhaps – which was the size of the hole left in the economy by the bubble bursting, according to the CBO's own numbers. And none of it (or very little) should have went to banks, just shovel-ready brick and mortar spending on health care, infrastructure, etc. That would've actually kept spending high enough to prevent the massive spike in unemployment and the resulting revenues (plus erasing the Bush era tax cuts) would've almost certainly offset the $2 trillion extra.

Of course, we instead got less than a trillion (too much of which went to banks), foreclosure assistance that was a complete failure (exacerbating the lack of credit-worthy borrowers and preventing a housing sector rebound), kept the tax cuts (and expensive, unfunded warfare) and have record unemployment amid a partial recovery (from a partial stimulus). The right said at the time that that plan would end in massive inflation and record high interest rates. They were wrong then and they still are.

The ”big deal“ in Washington was supposed to calm the markets. They're continuing to slide because spending less will not help, only hurt the unemployment problem that lies at the root of the problem at large. If twice as many people aren't working, twice as many aren't spending – and in a leveraged, consumer-driven economy, that's very bad. In truth, this was an ideologically-driven attempt to end social programs that they prescribed killing four decades ago, in what they view (and probably correctly so) as a once in a 100 years opportunity to do just that, by manipulating public opinion through a well-funded campaign of disinformation and fear mongering.

The lesson from this whole mess might be this: a mercantile world-financial system probably could work well in some Utopian scenario, but when the country who issues the world's reserve currency is a democratic one, subject to political whims and a near constant election cycle, we learn that there is never a good time to impose austerity or take a little healthy pain when it's necessary.

Had we raised interest rates in response to the overheated housing market early on (say 2003), rather than lower them (a very simple principle and the very thing the old gold-related system would have forced); imposed a tax and foreign policy mindset that respected our long-term financial situation rather than opinion polls, special interests and ideology, while allowing the regulatory bodies to do their job and reign in Wild West practices in the financial sector – like many of them were begging to do – we would have likely come out of this all right – with a functional economy and very manageable national debt. But those calling for ”austerity“ now had no such inclinations back then, and the only sacrifices being asked for are from those with the least  – the unemployed, the elderly, the working poor.

So essentially, we're offering the same solutions to a flat economy with a giant deficit that we were to an overheated one with a surplus. Continue to cut taxes on the rich; fight illegal, unfunded wars; cut public education and kill entitlement programs. It didn't work when we were better than flush and it damn sure won't work when we're in this big of a hole. Cuts in spending won't help unemployment and there will be no recovery while unemployment remains so dreadfully high. Still don't believe this is about ideology and the 2012 Presidential Election and not the economic realities you and I face? in fact, one might start to wonder whether there aren't some people in Washington who don't want things to get better financially... at least not yet.