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Downgrade, Default, and the Messy Economic Situation

12:00 AM, Apr 23, 2011 • By IRWIN M. STELZER
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All of this has unnerved the markets, at least those markets that rely on a stable dollar. The prospect of dollar depreciation to avoid default, along with increased demand, is driving commodity prices through the roof. It is also leading to renewed interest in the use of other currencies to settle international transactions, with China pushing its renminbi as the alternative currency of choice. Last year only 0.5 percent of China’s trade was settled in the Chinese currency; in the first quarter of this year it was 7 percent.

Meanwhile, the world economy continues to grow despite the problems in the U.S. and in euroland, where default by at least Greece, Ireland, and Portugal is more or less accepted as the solution that once dared not speak its name. In America, the recovery continues, haltingly and at a slower pace than is necessary to bring unemployment down rapidly, but continues nevertheless. There are signs that a new wave of Schumpeterian innovation might be about to persuade the nation’s CEOs to begin to tap the $2 trillion cash pile salted away in their U.S. and overseas vaults. Earnings reports from Apple, IBM and Intel all suggest that consumers continue to lust after the new, innovative gadgets that seem to hit the market every week, and that business spending on IT is being driven forward by investment in the big data centers that are needed to facilitate the shift to “cloud computing,” hailed as the next stage in the development of the Internet. Equally robust reports from GE, United Technologies, and Honeywell suggest that the manufacturing sector is in full recovery mode and might just grow the economy at a more rapid rate than the 2.5-3 percent economists are expecting the rest of this year and in 2012.

Growth, of course, produces tax revenues that make it easier to bring deficits under control. And a political settlement will give business and consumer confidence a shot in the arm, an important aid to growth. My own guess  is that we will see a two-step settlement despite the ill will generated by the president’s intemperate attack on his opponents as people who want to let “children with autism or Down’s syndrome… fend for themselves.” (Recall: Sarah Palin has a Down syndrome child.) First, the debt ceiling will be raised as part of a package of some spending cuts—these can always be found or manufactured by accounting wizards, as the recent deal to avoid a government shutdown proves—and a deal to set broad spending limits, details to follow. Then the parties will tell the voters just how they intend to refashion the role of government so that it can live within those limits. Democrats will press for tax increases, Republicans for spending cuts. The winners will return to Washington in January of 2013 and eventually agree to a mix of both, the weight accorded cuts and taxes determined by which party wins the White House. Messy, but democracy often is.

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