Predictably, US Congress have approved a new debt ceiling, more than $ 2.1 trillion over the initial debt ceiling and hooray, US can start spending again.
Wait, according the the deal, tax won't be increased but spending will be cut starting from defense spending. Wow, what a superb plan, at least on paper. US is not defaulting their T-bill / note / bond, spending will be cut, tax won't be raised, finally US could be doing the right thing...... or is it?
Well, not really......
Spending cut won't be implemented at least until 2013 which mean from now until the next presidential election in 2012, Obama, Geithner and other government official and still spend like hell. That's probably the reason the deal said more than $ 2.1 trillion. BTW, how much is more than $ 2.1 trillion? $ 100 trillion? Well, it all depends on how much US government want to spend.
Furthermore, although the deal seems like there is government spending cut (by more than $ 2.4 trillion over god knows how many years), in reality, US government is not cutting spending nominally, but in percentage of growth. In other words, US government spending will still increase by a smaller margin in the coming years.
Politicians are politician. Some are wise and know economics but most aren't. Some oppose with cut in defense spending and others oppose any cut in US government spending at all claiming the action is going to take money out of the economy.
Well, there is a term in economy called crowding out effect. Cutting government spending actually does not harm economy at all as resources used in the public sectors will shift to private sector. As long as there is demand, supply, whether from public or private sector, will be there. Ricardo Equivalence explains the same concept as if government spending increases, sooner or later, tax would increase as well (according to bloomberg, US tax rate will be increased after 2012). In other words, consumers, one way or the other, have to finance government spending. Since government is never a efficient and effective economic agent, government spending should be eliminated and all public spending will be shifted to private sectors.
So, as usual, US government and Treasury department manage to fool everyone just like what they did previously (2001-2003 and 2008-now rapid monetary expansion fueled by enormous spending from government). Well done US congress!
