The Statutory Debt Limit
by Simon Johnson, Peterson Institute for International Economics
January 22, 2013
A. Main Points
- This is a difficult time for the United States and global economy. Financial markets can easily become unsettled. A serious sovereign debt crisis remains unresolved in Europe's euro area. There are serious potential risks on the horizon in countries such as Japan, China, and Brazil. International Monetary Fund (IMF) Managing Director Christine Lagarde warns about a potential "relapse" in the world economy.
- In this context, continuing uncertainty around the US federal budget in general and the debt ceiling in particular is not helpful—and may prove destabilizing both at home and around the world.
- Even a partial shutdown of federal government in the United States would have a significant negative effect on the economy. The private sector—particularly small business—would be greatly damaged by any lack of clarity about when and how the government will pay for goods and services purchased or make the transfer payments promised to citizens.
- In addition, we have seen repeatedly over the past few years that congressional deadlock over fiscal issues worsens uncertainty and makes it harder for the private sector to make sensible decisions—including regarding the consumption of durables and all kinds of business investment.
- Empirical research by Scott Baker (Stanford), Nick Bloom (Stanford), and Steve Davis (Chicago) finds that over the period 1985–2012, policy uncertainty reached its highest peak with the debt ceiling crisis in the summer of 2011. (See figure 1 below; this is reproduced from Baker, Bloom, and Davis, "Measuring Economic Policy Uncertainty," [pdf] with permission.)
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