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Sequestration, Politics—and the Economy

12:00 AM, Feb 2, 2013 • By IRWIN M. STELZER
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It took only a tiny drop of .01 percent in fourth quarter GDP to produce another battle in the ideological war that is going on in Washington. Republicans blame it on the president’s spending and deficits, the president and his team on the congressional Republicans they call a “major headwind” and on Fox News for opposing Barack Obama’s plans for more spending and higher taxes. The president says that there is no spending problem and “we don’t have to worry about the debt short term,” Republicans that spending is the problem.

missile defense

Which brings us to the now famous sequester. It is the last weapon left to Republican spending cutters who thought discretion the better part of valor in the fiscal cliff fight and allowed taxes and tax rates to rise, and have agreed to raise the debt ceiling for the next several months without obtaining significant spending cuts as a quid pro quo. Unless a deal is reached to cut the deficit by $1.2 trillion over the next ten years, spending cuts will be triggered, to fall equally on defense and on some domestic programs. The theory was that these cuts would be repugnant to Republicans who fear that $600 billion of defense cuts would “devastate” the military and “create a substantial risk of not meeting our defense needs,” according to Leon Panetta, Obama’s departing defense secretary. And it would be unappealing to Democrats because their favored social programs would share the pain with the military. This mutual distaste would force the parties to agree to replace the sequester meat axe with a scalpel.

No such luck. The president insists that any deal include more tax increases on the “wealthy,” while the Republicans are adamant that the $600 billion increase he wrung from them during the fiscal cliff negotiations is all the new taxes he will ever get. Add that Republicans believe that defense secretary nominee Chuck Hagel has been told to cut back on the military. Since they can’t save the defense budget, Republicans figure they might as well use the sequester to get the cuts in domestic programs that the president has said he would not countenance if he had the power to block them. Which is why it is now considered likely that the sequester will be allowed to take effect on March 1.

Its effects are already being felt. The Pentagon, benefitting from the troop drawdowns in Iraq and Afghanistan, and knowing the bean counters are sharpening their pencils, cut spending in the last quarter by 22 percent, the largest such cut in 50 years. Along with a decline in inventories, that reduction in government spending accounted for most of the 0.1 percent fourth-quarter GDP decline. Pentagon suppliers began cutting staff last year, most visibly in the headquarters and research facilities surrounding the capital, their wailings and those of their workers and lobbyists clearly audible in the halls of Congress. As is their prediction that the sequester will add two million to the 12 million workers already on the unemployment rolls and produce a second consecutive quarter of negative growth, the standard definition of “recession.”

Meanwhile, with 75 percent of the 200 companies that have so far reported earnings beating analysts’ forecasts, and the Fed keeping interest rates close to zero, investors drove share price up a rousing 5 percent last month. They were undeterred by the decline of 0.1 percent in the fourth quarter because that aggregate figure obscured the healthy growth of the core drivers of the economy.

Businesses stepped up spending on plant, equipment and software at an annual rate of 8.4 percent. Consumers, who continue to trade in old vehicles, many with 150,000-200,000 miles on the odometer, for sleeker, electronics-laden, fuel-efficient ones, upped spending at a 2.2 percent rate (and in January drove sales of both GM and Chrysler up by 16 percent). Add the 15.3 percent growth in residential investment as the housing sector continues its recovery: home builders are rushing to meet the demand that is reflected in shortages of homes for sale and rising prices (up 5.5 percent in the past year), and which spurs sales of everything from furniture and carpets to power tools. All in all, the growth drivers added 2.7 percent to fourth quarter 2012 growth.

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