Economy Hurt From Budget Shutdown, Sequestration Cuts

Oct 15, 2013
Originally published on October 15, 2013 2:30 pm

The effects of the government shutdown on the economy are cascading.

The government has already been operating with a smaller budget due to sequestration cuts last March, which are now starting to kick into effect.

Diane Swonk, chief economist with Mesirow Financial, says the shutdown is not only taking a toll on furloughed government workers, but Wall Street and the financial markets are also feeling the effects of the crisis.


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With just two days until the U.S. starts defaulting on its debt, there is still no deal in Washington to raise the debt ceiling and end the government shutdown. There are reports of a deal in the works that would reopen the government through January and allow the Treasury to borrow until February. That short-term fix could set up another fight over whether to fully fund the government next year, or fund it at sequester levels.

With us to discuss all of this is Diane Swonk, chief economist at Mesirow Financial. She's with us from WBEZ in Chicago. Diane, great to have you.

DIANE SWONK: Good to be here, Jeremy.

HOBSON: Well, do you think there's going to be a deal by Thursday?

SWONK: Highly doubtful. And I'm not a political strategist, but I spent the weekend in Washington, and boy, it was bad. We had world leaders from all over the place there, from the IMF conferences, and they had to bear witness to our democracy's darkest hour, and they were not happy.

HOBSON: Well, let's talk about the cost of just what we've had up until now. What has the shutdown cost our economy?

SWONK: Well, basically, it added insult to injury to an economy that had already slowed, and we sort of had a summer swoon, where the economy had already slowed over the summer. We had not seen job gains as much as we had earlier in the year, and we're starting to see those people who are on the margins really drop out and give up entirely.

And so not only do you have the direct costs of those people not getting a paycheck - and, by the way, not able to service their mortgage, their car loan or their credit card debt right now, something that the federal regulators here are taking into account that are on government payrolls - but also the collateral damage to an economy that was already fragile in its recovery.

HOBSON: And what about the threat of default? Now, as we said, we're just a couple days away from the deadline, and perhaps there will be a deal to avoid a default. But what about just getting this close? What has that done to our economy and to our economic credibility around the world?

SWONK: Well, that's a key issue. What we've already seen is that many foreign governments have begun to sell very short-term treasury bonds, and we don't notice that. That means those interest rates have gone up, and they don't have many spillover effects to the rest of the economy. But it's a - sort of a prelude to what could be, of rising interest rates.

And we've already seen, you know, mortgage rates go higher. We're at a four-year low on housing affordability. The housing market is losing momentum instead of gaining momentum. At the very moment, it should be doing the opposite. And so the collateral damage is quite huge. But then, of course, you know, there's the Armageddon scenario.

I don't think we're going to get there. I think, at the end of the day, we can monkey around with extraordinary measures at the Treasury through November 1st, something that some people in Washington have figured out. But then you're talking about losing Social Security checks, delaying Social Security checks. You're talking about risking not only a 2008-style financial crisis, but a real recession that makes it even worse. And that's just sort of unthinkable at this stage of the game.

HOBSON: So, if lawmakers are able to reach some kind of deal that gets us, as we said, perhaps through January or February of reopening the government and raising the debt limit, you have said that even if that happens, the fourth quarter could be a very bad one. Explain.

SWONK: Exactly. What we're at is - we're already at a stall speed, and so you could already add to unemployment as a result of this. There's been hesitation in hiring before we hit this by retailers during the critical holiday season, more hesitation in hiring across the board because of uncertainty as these negotiations have proven so poorly executed, could further exacerbate that, which means higher unemployment before the end of the year. And we won't even know it because we aren't taking surveys right now about unemployment.

So we'll be completely in a black hole of information, and without information, without certainty, financial markets take a dive. It's bad on all asset prices, everything from - we know now, from 2008, what happens on Wall Street matters on Main Street, and we've now got Washington with not only recovery in its hands, our future in its hands. And I've never thought of a more scary thought.

HOBSON: And it does appear as though when the negotiations - let's say we get through to January, the government is reopened, and they have to go back and talk about all of this again in January - that the question may be whether to fund the government at its full levels or to allow the next round of sequester cuts to go through. So I want you to talk about what the sequester has meant for the economy and what it would mean if that kind of funding continues.

SWONK: Well, it's already meant, you know, job losses, unpaid furloughs, a contraction in government spending. But you're talking about workers who weren't paid who now are going back to work and not knowing they're going to be paid. So - or if they're going to have unpaid furloughs, or the ax is going to fall on them again in January.

And so you've undermined their willingness to catch up on work loss, which is completely different from 1995, '96. And as you get into 19 - 2014, you're further undermining growth, because you have the sort of random ax-falling-where-it-may of job cuts, unpaid furloughs for government workers, cancellation of government contracts and collateral damage throughout the economy from that and the communities that are affected.

Then you also have - I think it's important to note that these sequestration, this cuts in governments, do not get us to a fiscally sustainable position as the baby boom ages. We've still got to pay for Social Security, Medicare and Medicaid entitlements. And by 2016, these cuts are irrelevant, and they don't get us where we need to go. So it's pain without progress on a critical fiscal question of our day.

HOBSON: Do you expect the sequester cuts to go into effect in January, the next round?

SWONK: I fully expect them to go into effect, at least partially, if not entirely. I think the sequester is here with us. And what's hard about it is there's nothing strategic about them. I am all for deficit reduction. I am all for long-term fiscal sustainability. But to do it in a sort of, you know, random way, without any strategy, is just insane.

And it's undermining growth at a critical time in the recovery where it's barely a recovery for many, and risking another recession with all this political uncertainty and game-playing shenanigans in Washington.

HOBSON: Well, Diane, give me your dream scenario in the minute or so we have left. What would you like to see Washington do right now to deal with the short-term problem and the long-term problem?

SWONK: Lift the debt ceiling, get it off the table for a year and make this not a showdown for a year. Get it off the table, come to some agreement to continue the opening of government without dealing with the sequester issues. Buy us at least six months to get together some kind of a negotiation that's bipartisan and starts to deal with the real long-term issues, not just these short-term issues, tax reform in this country, corporate tax reform, and entitlement reform, and get us where we need to go.

It's both sides of the balance sheet. Let's do something with rationality, not irrationality.

HOBSON: You sound like you've thought that one through.


SWONK: I've had to face the dark side, and I don't like it in Washington. I'm glad to be back in Chicago.

HOBSON: Diane Swonk, chief economist at Mesirow Financial. Thank you so much.

SWONK: Thanks, Jeremy.

HOBSON: And we'll be back in a minute, HERE AND NOW. Transcript provided by NPR, Copyright NPR.