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More Fiscal Warfare on the Horizon

James Politi, Financial Times

A new round of fiscal warfare is in store for the US over the coming months as a new congressional committee is formed to find extra savings from the most sensitive areas of the budget.

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The last-minute deal reached by Barack Obama and political leaders in the House of Representatives on Monday night was designed to avert default, but initially does little to solve the U.S’s long-term debt problems.

That task was instead delegated to a panel of politicians – six Republicans and six Democrats – which will have to issue its recommendations by November 23, with votes on their plan by December 23.

The group – which will soon be selected by congressional leaders from both parties – will be asked to identify $1,500 billion in deficit reduction over the next 10 years, including cuts to popular government programs such as Medicare and Medicaid.

But there was already a serious disagreement brewing between Republicans and Democrats over whether tax increases were on the table. This was the main sticking point throughout the debt-ceiling negotiations, and it was rearing its head again even before the new committee was established.

The White House has argued that revenue-raising tax reform would be considered by the panel. “The bottom line is that the joint committee can reduce the deficit through tax reform and eliminating tax expenditures just like it can cut spending,” Gene Sperling, director of the National Economic Council, said in a blog post.

But Republican leaders in the House of Representatives have argued that it would be “impossible” for the group to increase taxes. “The big win here for us and for the American people is the fact that there are no tax hikes in the package,” Eric Cantor, the House majority leader, said.

The clash over the committee’s mandate suggests the group may have trouble overcoming the political divisions that have plagued the country’s debate over fiscal policy in recent months.

There is a penalty for inaction, however. Failure to reach a compromise would lead to a “trigger” implementing across-the-board cuts worth $1,200 billion to all areas of spending in 2013, including a huge hit to defence, as well as reductions in payments to healthcare providers from Medicare, the medical insurance scheme for the elderly.

But there are some exceptions that could leave fiscal hawks worried that the mechanism lacks teeth. Democrats were able to protect social security, Medicaid, the health scheme for low-income U.S. citizens, and jobless benefits from the “trigger”, while Republicans ensured that no automatic tax increases would kick in if the committee failed.

“Washington is a place where it helps to have a gun pointing at everyone’s head – some external threat – to motivate action,” says Matt McDonald, an analyst at Hamilton Place Strategies in Washington.

Some Democrats have argued that the planned expiration of Bush-era tax cuts at the end of 2012 could constitute a revenue trigger of sorts. This is because if the committee failed to implement tax reform, the Obama administration could simply allow the Bush-era tax relief to lapse. But most Democrats want only Bush tax cuts for the wealthy to expire, and finding a way to separate them from middle-class tax cuts would still pose a challenge.

If the panel struggles, it could be viewed as yet another sign of how the US’s political system is failing to come up with a national consensus on reining in its debt, further irking rating agencies that are reviewing the country’s triple A credit score.

The composition of the panel could matter a great deal. If congressional leaders chose to appoint more members of their parties to the committee who are more open to compromise, it could increase the chances of an agreement.

For instance, the inclusion of supporters, or even members of the so-called “Gang of Six” – a group of senators that reached its own large-scale deficit reduction deal last month – would raise the odds of success.

Conversely, the selection of ideological hardliners from both sides of the aisle might make it more difficult to reach a consensus.

But, given the need to pass any plan through Congress, party leaders will also be wary of choosing individuals who might be accused of making too many concessions.