- The so-called Super Committee in the US has failed to reach an agreement on finding USD1.2trn in budget cuts over the next 10 years.
- While less critical than the agreement to raise the debt ceiling this summer, it highlights the paralysis of the US political system in dealing with the long-term budget issues.
- Automatic spending cuts of USD984bn will now be triggered starting in January 2013. A long-term plan to solve US debt issues is unlikely to materialise this side of the election in November 2012.
- In the short term, it raises uncertainty over whether the tax cuts and extended unemployment benefits set to expire at the end of 2011 will be prolonged. If not, it could trigger a significant tightening in fiscal policy.
- While disappointing, the market reaction this time is more muted as this will not affect the possibility of issuing debt; a further increase in the debt ceiling was already agreed upon in the deal from August.
Details
The Super Committee had an effective deadline at midnight on Monday to reach an
agreement. A plan according to the law had to be presented to the public two days prior to the official deadline, which is midnight on 24 November. The Super Committee was organised as part of the deal in early August to raise the debt ceiling and was tasked with finding USD1.2trn in budget savings over the next 10 years.
As the committee has failed to reach an agreement, it is secured that automatic spending cuts of USD984bn will be implemented starting in January 2013. These will be evenly split between savings on defence spending and domestic programmes.
However, these automatic cuts could in principle be changed under a new plan in 2012. But with the election in November 2012, it seems the strategy for both parties will be to wait until after this before devising any new plans and hope that there will be a majority to implement something following individual demands.
The expected agreement from the Super Committee was supposed also to address the payroll tax cuts and extended unemployment benefits, which are set to expire at the end of 2011. It is now uncertain whether or not these will be extended. If not, it would trigger a significant tightening in fiscal policy even in early 2012. Neither party is likely to risk this, though and we expect the areas to be dealt with separately and voted through in time.
The lack of agreement also means that the Bush tax cuts, due to expire at the end of 2012, have not yet been extended and thus this issue has now also been left unresolved.
Assessment and outlook
The lack of agreement once again highlights the difficulty in fixing the US long-term debt problems. Views on how to achieve this differ greatly and neither party wants to give in ahead of the elections in November 2012. The Democrats want higher taxes to be a decent part of the budget improvement while Republicans want all of it to come from spending cuts.
The lack of an agreement is also symptomatic of the lack of decision power in the global system in fighting the crisis and it is adding to the confidence crisis hitting global markets.
We expect little rating action on the back of this as both S&P and Moody’s have stated that this is not likely to trigger rating changes. S&P downgraded the US sovereign rating in August to AA+ and has kept a negative outlook. Moody’s still has an AAA rating but has a negative outlook as well. Fitch has stated that a lack of agreement would trigger a negative rating action. But Fitch still has an AAA rating with a stable outlook but we expect it to align with Moody’s and change the outlook to negative from stable.
We still expect the US to face further downgrades during 2012, as it becomes clearer that the US budget deficit is not coming down significantly due to continued stubbornly high unemployment (see also Research: Further downgrade of US likely in 2012). We believe it will also become apparent that US long-term growth expectations are much too optimistic (the government assumes growth above 4% in both 2013 and 2014) and thus that unemployment is likely to remain at a much higher level than the government expects. This would have a direct negative impact on the budget but also mean that the government would likely keep postponing a tighter policy in order not to impede the recovery. Hence, budget deficits are likely to stay high for a very long time and put government debt on a higher debt path than it currently expects.
The lack of agreement on taxes leaves significant uncertainty on the outlook for tax
changes, which will also have a negative effect on consumer spending as households do not know whether they are facing strong tax increases or not. The uncertainty over
potential tax changes also increases uncertainty for our forecast on the US economy as we do not actually know just how tight fiscal policy is actually going to be in the coming years.