Monday, August 29, 2011

More on the Fed and “Printing Money”

As discussed in the previous post, the ratio of the money supply to bank reserves, the supply of which is under the control of the Fed, has been increasing. This does not mean, though, that the Fed has not been able to increase the money supply. Using monthly, non-seasonally adjusted data, this graph shows that reserve balances held at the Fed increased dramatically beginning around September 2008, as did the M2 money supply. (The graph shows dollar amount changes from a year previously, for each month.)

Month to month changes show the same story:

And this is what a graph of the levels of M2 and reserve balances looks like:

In other words, the Fed can increase the money supply and it has been doing it. The data suggests, though, that in order to get the banking system to create an increase in M2, the Fed has had to increase reserves substantially. The increase in the money supply and the huge creation of bank reserves is what worries inflation hawks. Even many of those who believe that the Fed should continue to be expansionary probably worry about the Fed's ability to time correctly the withdrawal of reserves at such time as it risks an unwanted increase in the inflation rate, and to do this without causing an economic downturn.

However, as for the current situation, the ratio of nominal GDP to M2 (velocity), has decreased sharply:

All this suggests that, in order to increase nominal GDP, the Fed has to expand its balance sheet more than it has in the past, since the money multiplier has been increasing while the velocity of money has been falling. To the extent that the Fed does succeed in increasing nominal GDP, this can be due to either inflation or an increase in real activity. 

The current political situation means that fiscal policy cannot be used to help increase the economy's growth rate, at least for the time being.  At the same time, the Fed's ability to use monetary policy as much as some policymakers and some economists might want is hampered both by internal dissents by some Fed Bank presidents on the Federal Open Market Committee and by criticism coming from politicians. (David Leonhardt wrote an interesting article about the political pressures on the Fed in yesterday's New York Times.)

Those who believe that the federal government needs to do something to get the economy back on track are worrying. This is not limited to liberals, such as Paul Krugman. As mentioned in the previous post, Ken Rogoff suggests that the Fed target explicitly an inflation rate. Bruce Bartlett, whom I knew when he was a Treasury Deputy Assistant Secretary (Economic Policy) in the George H.W. Bush Administration, is hardly a liberal, but he has probably angered some conservatives by writing what he believes the facts dictate about the economic situation. He has been prominent in a number of venues arguing that the current economic situation is due to weak aggregate demand. (A recent example is on the New York Times' website: "It's the Aggregate Demand, Stupid.")

Wednesday, August 24, 2011

The Federal Reserve and “Printing Money”

I cringe a little every time someone comments on the Federal Reserve printing money. This is used as a metaphor, but taking it literally, as many do, leads to the belief that the Fed has more precise control over the money supply than it actually has.

The Fed, of course, does not literally print money. That is done by the Treasury Department's Bureau of Engraving and Printing. Paper currency is now in the form of Federal Reserve notes, which are liabilities of the Federal Reserve Banks. The Bureau charges the Fed for the printing cost. Coins are minted by the Treasury's Bureau of the Mint. These are sold to the Fed at face value. Coins are not liabilities of the Fed. The difference in the cost of minting a coin (including the cost of the metal) and the face value is called seigniorage. Seigniorage enters into government accounts as a means of financing, not as an outlay or a receipt. Other means of financing include the sale and redemption of Treasury securities and, as a legacy of its historical monetary role, the purchase and sale of gold. (Some seigniorage can be negative; for example, it costs more than a penny to mint a penny).

The amount of currency in circulation is determined by public demand. When a Federal Reserve member bank needs more currency to meet the demands of its customers, it gets it from its Federal Reserve Bank, which deducts the dollar amount from the bank's account at the Fed. (A significant amount of U.S. currency, especially $100 bills, is held abroad.)

But of course currency in circulation is not what we mean by the money supply. The narrowest measure of the money supply, M1, is defined by the Fed as "(1) currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions; (2) traveler's checks of nonbank issuers; (3) demand deposits at commercial banks (excluding those amounts held by depository institutions, the U.S. government, and foreign banks and official institutions) less cash items in the process of collection and Federal Reserve float; and (4) other checkable deposits (OCDs), consisting of negotiable order of withdrawal (NOW) and automatic transfer service (ATS) accounts at depository institutions, credit union share draft accounts, and demand deposits at thrift institutions." The other commonly used measure of the money supply, M2, is M1 plus "(1) savings deposits (including money market deposit accounts); (2) small-denomination time deposits (time deposits in amounts of less than $100,000), less individual retirement account (IRA) and Keogh balances at depository institutions; and (3) balances in retail money market mutual funds, less IRA and Keogh balances at money market mutual funds."

The banking system essentially "creates" money by making loans and accepting deposits, most of which are lent out and reappearing as additional deposits in banks. (This is called fractional-reserve banking.)

Note that reserve balances at the Fed are not included in M1 or M2. However, when people talk about the Fed "printing money," what they mean is that the Fed is adding to the reserve balances of the banking system, accomplished by buying securities or making loans.

The relationship between the money supply and the monetary base (deposits held by depository institutions at the Fed and paper currency and coins in circulation) is not constant. The Federal Reserve Bank of St. Louis produces a data series, the M1 multiplier, which is seasonally adjusted M1 divided by the monetary base adjusted for changes in reserve requirements and seasonality. This chart shows that the multiplier has been trending downward, then plummeted, and is currently less than one.

We can also divide reserve balances held at the Fed by M2 (in this case not adjusted for changes in reserve requirements or seasonality) to get another picture of how the Fed's ability to increase the money supply has gotten more difficult in recent years:


There is concern, especially from those who believe that monetary policy has been much too loose, that inflation is a serious risk. The CPI has increased by 3.6% from a year ago, according to the latest figures for July. Those who are less concerned about inflation point out that the core CPI has only risen by 1.8% over the past year. (This post by Felix Salmon gives a good feel about the confusion surrounding the current inflation numbers.)
While there can be a debate about whether the "stagflation" we experienced in the 1970s is coming back, the data show that the Fed's ability to do much about the stagnant economy has declined significantly. Fears about the Fed "printing money" are overblown in the current environment, though the Fed, without much historical guidance, will have the difficult task of timing the withdrawal and the rate of withdrawal of reserves whenever it is that the economy begins to show some life.

Nevertheless, since, due to the political situation, additional fiscal stimulus is not a policy option, at least for now, everyone is looking for the Fed to do something to help the economy. Ken Rogoff even suggests that both the Fed and the European Central Bank target an inflation rate of "4 to 6 percent for several years." In a column sympathetic to Rogoff's view, Floyd Norris of The New York Times reports on Paul Volcker's reaction to this:

"'I don't think it's a good idea,' was one of the milder comments I got from the most celebrated veteran of those wars [against inflation in the 1970s and 80s], Paul A. Volcker, the former Fed chairman.

"And anyway, he added, 'Right now they probably could not get inflation if they wanted to.' People are not spending the money they have, he said, adding that the situation reminded him of an era he studied in college — the Great Depression."

Friday, August 19, 2011

Why Does the Federal Reserve Pay Interest on Required and Excess Reserves?

When the Federal Reserve announced earlier this month that it would in all likelihood keep it fed funds rate target between 0 and 0.25% for the next two years, there was some comment that the Fed might not have any more very powerful tools left with which to jumpstart the current sluggish economy, which may be headed for another recession. One tool that is mentioned (for example, here by Alan Blinder) is for the Fed to lower the interest it pays banks on excess reserves. The mention of this possibility, though, raises the question of why the Fed is currently paying interest on both required and excess reserves on deposit at the Fed.

Prior to October 2008, the Fed did not pay interest on reserve balances. Prior to this, the Fed did not have the authority to pay interest on reserves. The Fed explains: "The Financial Services Regulatory Relief Act of 2006 originally authorized the Federal Reserve to begin paying interest on balances held by or on behalf of depository institutions beginning October 1, 2011. The recently enacted Emergency Economic Stabilization Act of 2008 accelerated the effective date to October 1, 2008."

The topic of paying interest on reserves came up from time to time when I was at Treasury. I and others at Treasury expressed some skepticism about this. Looking out for the Treasury (and, of course, the taxpayer), we pointed out that any interest the Fed paid would reduce its earnings and hence the amount of money the Fed pays to the Treasury. As far as the monetary policy arguments were concerned, they were never convincing. Looking at more recent Fed explanations, they still aren't.

In a Fed October 6 press release announcing that it would use its authority to pay interest on reserves, it justified paying interest on required reserves by stating: "Paying interest on required reserve balances should essentially eliminate the opportunity cost of holding required reserves, promoting efficiency in the banking sector." This more or less says giving money to banks that we were not able to in the past is a good thing. You could argue that not paying interest on reserves was a tax, though banks got a lot of privileges for paying that tax. The Fed statement hardly justifies repealing this tax, and it certainly does not justify paying them an above market rate, as the Fed is arguably currently doing.

Part of the Fed's case for excess reserves is somewhat more credible: "Paying interest on excess balances should help to establish a lower bound on the federal funds rate." Currently, though, it is not doing that since the fed funds rate is currently below the interest the Fed is paying on both required and excess reserves – 0.25%. It is not clear why any banks are lending at rates below the 25 basis points they can receive from the Fed, but that is what the Fed is reporting.

The second part of the Fed's case makes little sense: "The payment of interest on excess reserves will permit the Federal Reserve to expand its balance sheet as necessary to provide the liquidity necessary to support financial stability while implementing the monetary policy that is appropriate in light of the System's macroeconomic objectives of maximum employment and price stability." No more explanation is given.

The President's Working Group on Financial Markets ("PWG") issued a statement on October 6 about the passage of the Economic Emergency Stabilization Act ("ESSA") which included a sentence reiterating the Fed's justification for paying interest on reserves: "… the authority to pay interest on reserves that was provided by EESA is essential, because it allows the Federal Reserve to expand its balance sheet as necessary to support financial stability while conducting a monetary policy that promotes the Federal Reserve's macroeconomic objectives of maximum employment and stable prices." On October 8, Treasury Secretary Henry Paulson issued statement on financial markets which included this on interest on reserves: "The EESA granted the Fed permanent authority to pay interest on depository institutions' required and excess reserve balances held at the Federal Reserve. This will allow the Fed to expand its balance sheet to support financial stability while maintaining its monetary policy priorities."

Since the Federal Reserve can expand its balance sheet at will by either buying securities or making loans, why paying interest on reserves is a necessary tool for expansion of its balance sheet is unexplained.  Paying interest on excess reserves does save the Fed from criticism from the banks of having imposed a burden on the banks. Also, it might encourage banks from holding reserves in the form of vault cash beyond their needs, but that would seem to be a minor factor. The PWG and Paulson statements indicate an unquestioning deference to the Fed, particularly by Treasury, which is troubling. While some have argued that the Treasury has too much influence over the Fed, I would argue that, based on my experience and current observations, it has in recent times been the other way round.

It is hard to know how much of a factor interest on reserves has been in encouraging banks to sit on them. In a poor economy, there may not be that much of a demand for loans from creditworthy borrowers. But given that banks are earning more on their reserves than they could by, for example, buying three-month Treasury bills, it is hard to justify this payment to the banks. After one clears the smoke about the Federal Reserve Banks being private institutions in a legal sense, this is essentially taxpayer money. Given the current level of reserve balances held at the Federal Reserve Banks of more than $1.6 trillion dollars, an annual interest rate of 25 basis points amounts to more than $4 billion a year.

Finally, here is a picture that shows what has been happening to required and excess reserves since 2008:

Monday, August 8, 2011

The Administration and the Debt Limit Crisis

There is plenty of deserved criticism aimed at the Tea Party for its part in the debt limit fiasco. This post will make a few comments about the Administration.

The Administration made a mistake by abandoning its insistence on a clean debt limit bill. This validated the Republicans' linkage of the need for a debt limit increase to future budget cuts. It enabled Speaker Boehner to say that the Congress would not give the Administration a credit card with no restrictions. Of course, this is nonsense. The need to increase the debt limit was due to past decisions of Congress and the performance of the economy. The debt limit does not control government spending or receipts; the need to increase it is the result of other decisions.

Not only did the Administration embrace the linkage of the debt limit to budget decisions going forward, President Obama appeared to welcome it. Partly, this seems to have been viewed as a way to pressure Democrats to make concessions on programs they hold dear, such as Social Security, Medicare, and Medicaid. The President and his chief economic adviser, Treasury Secretary Geithner, apparently want as part of their legacy the reform of these programs. However one feels about that, this negotiating strategy was an attempt to be clever, and it did not work. What it did do is enable the President's critics to charge that he was threatening default in his negotiations with the Republicans, just as the Administration was charging the Tea Party as doing. At a minimum, the Administration should have said that a clean debt limit bill would have been acceptable.

Not only did the "grand bargain" the President wanted not materialize, this episode has caused many liberals to have serious reservations about the President. He is more conservative than many liberals thought when they voted for him in the primaries and the general election, and his leadership ability is now in question.

On that last point, the New York Times published yesterday a well-written article by a psychologist who is a political liberal, "What Happened to Obama?" It is well worth reading.

A Few Comments about that Ratings Downgrade

There is not much to say about the S&P action in addition to what has already been said, but here are a few comments for whatever they are worth.

In one sense, the downgrade is ridiculous. Does anyone believe that the U.S. Treasury is a worse credit risk than Microsoft, Automated Data Processing, Exxon, or Johnson & Johnson, all still rated AAA? If somehow one can imagine a scenario in which the U.S., borrowing in its own currency, cannot pay interest on its debt or roll it over, how good would the debt of any U.S.-based companies be in that scenario? Nevertheless, S&P has said it is not currently considering a downgrade to these AAA-rated companies.

In another sense, the threat of default on the debt for political reasons does give one pause. I did not think that would happen, and neither did the market, based on bond prices. Brad DeLong summed it up well, when he wrote that "default was never in the cards, at least not with lawyers at the president's disposal 10% as inventive as those who claim that we are not engaged in 'hostilities' in Libya." That is apparently what most market participants believed.

But if default on the debt was unlikely, or extremely unlikely, to happen, the apparent willingness of some politicians, luckily a minority of the House majority, to cause the U.S. to default on its debt should cause an observer wonder about U.S. politics. Yesterday, the Washington Post quoted Representative Jason Chaffetz (R-Utah) on this point: "'We weren't kidding around, either,' [Chaffetz] said. 'We would have taken it down.'"

There is something deeply wrong with the current state of our politics when people in a position of responsibility make statements like that.

With respect to market movements as I write this midday (Eastern Time), the U.S. and world stock markets have fallen, as one might expect given the uncertainties about the European situation, the economic outlook, as well as the downgrade. However, yields on Treasury securities have been falling, which indicates that they are still viewed as a safe asset to run to when the global economy is shaky.

As for S&P, its record is being examined and roundly criticized, and its action may serve to accelerate a movement, already underway, among regulators to stop relying on credit ratings of "nationally recognized statistical rating organizations." The other two major rating agencies cannot be pleased.

Thursday, August 4, 2011

Geithner: Terrible Process, Good Result

Whatever else you may think about Tim Geithner, public relations is clearly not one of his strengths. A recent example of this appeared yesterday on the Washington Post op-ed page in an article under Geithner's byline. The article begins: "It was a terrible process, but a good result."

What is the point of making this argument? Hardly anyone, except maybe some of those directly involved, think the debt limit agreement was a good result. Liberals think that cutting current spending in a terrible economy, which shows signs of getting worse, is a horrendous idea. They would do the opposite. They also believe that programs that benefit the poor and the elderly may be threatened. Conservatives believe that the cuts over ten years are too small and do not make the fundamental changes they advocate to programs such as Social Security, Medicare, and Medicaid. They also know that the cuts mandated by this law over a 10-year period could prove illusory; future Congresses can always change the law.

Geithner claims that "[t]he agreement removes the threat of default and lowers the prospect of using the debt limit as an instrument of coercion. It should not be possible for a small minority to threaten catastrophe if the rest of the government decided not to embrace an extreme agenda of austerity and the dismantling of programs for the elderly and the less fortunate." Actually, using the debt limit as a political tool to try to enact one's agenda is only removed for the rest of the current Presidential term under the probably safe assumption that any recession that may be coming in the next year is not so precipitous as to make current budget projections wildly off the mark. But this recent experience makes it more likely, not less, that we will have to suffer through bitter debt limit fights once again, waged by whatever party is not in control of the Executive branch. As I have discussed in a previous posts, this is not the first time we have witnessed bitter debt limit fights, but this one was worse than normal, and the President's opponents can claim some political success. Present and future politicians have noticed.

Moreover, while debt limit fights are not on the agenda for the rest of this presidential term, other cliffhangers are coming. First up are the appropriation bills for the 2012 fiscal year, which begins in October. The political fight over this will take center stage next month. If agreements are not reached, there may be a government shutdown, or at least a partial one. That the Federal Aviation Administration is already in shutdown mode does not augur well.

For those who like these kinds of battles, there is a sequel to the appropriation battles of September. The super committee, created by the debt limit agreement Secretary Geithner praises, is due in late November to come up with proposals to reduce the deficit further. If they deadlock, or if Congress does not pass or the President vetoes whatever the super committee proposes, then mandatory cuts take place. Geithner lauds this as "a powerful mechanism for agreement on tax reforms to strengthen growth, and entitlement reforms to strengthen programs such as Medicare." I guess he thinks policymaking is enhanced if, from time to time, there is the threat of the abyss.

It is likely Congress will be in session until close to Christmas. Even if the super committee deadlocks or the Congress cannot pass its proposal, I suspect that the cuts mandated in the legislation just passed will not happen. Too many constituency groups from across the political spectrum will object. The process is likely to be messy, but Congress in that case will change the law. Perhaps it will create another committee, another deadline, and another threat of the abyss.

I don't see what Geithner thought he was accomplishing with his article. Perhaps it made political appointees at Treasury feel good; if so, they talk too much to each other and have no idea how things look for those following developments but are not part of the process. The argument he makes is not persuasive.

Tuesday, August 2, 2011

The Debt Limit – What if there had been no agreement?

While most private analysts who follow Treasury's cash position did not believe that tomorrow was the day everything would have fallen apart if the debt limit had not passed, at some point there would have been a major problem with Treasury either having run out of cash or close to it. The Administration is very unlikely to say what its contingency plans or options were.

It is interesting that there is some dispute about what Vice President Biden said to congressmen recently about the 14th Amendment. According to some press reports, such as the one on the Los Angeles Times website, "Rep. Peter DeFazio (D-Ore.) told reporters that Biden said President Obama 'was willing to invoke the 14th Amendment' if the parties could not reach a debt deal by Tuesday's deadline." However, a CNN blog post about this meeting, says: "The Vice President said the 14th amendment was NOT an option for the President."

There were other ideas floating around. The most amusing, and clever, idea was to use a little known provision of law which apparently allows Treasury to reap unlimited amount of seignorage by minting platinum coins. Jack M. Balkin, a Yale law school professor, argued that this would be a legal way to keep the government funded if the debt limit were not increased in an article on the CNN website. Brad Delong, a former Treasury Deputy Assistant Secretary for Economic Policy during the Clinton Administration and now an economics professor at the U.C. Berkeley, seemed to like the idea, and somebody even posted a hilarious design for this potential coin.

Perhaps Treasury would have started prioritizing payments, starting on August 3, even though its legal authority to do this is questionable. This would have served to make sure that there was enough cash to make the August 15 interest payment, and it would have put pressure on Congress to resolve the issue as they heard from the many people affected by this.

It's worth pointing out, though, that, if Treasury had withheld Social Security payments, it would have been criticized for going beyond its authority. When Social Security payments are made, non-marketable Treasury securities in the trust fund are redeemed. This serves to lower the debt subject to limit, which would allow Treasury to borrow the necessary amount of money by issuing marketable securities. Apparently, some Treasury officials have questioned the practicality of this because they are not sure they can redeem securities before benefit payments are made. It seems likely, though, that, if all the transactions took place on the same day, which admittedly would be expensive for Treasury, no one would raise a serious objection. There may also be other provisions in the law governing Social Security trust funds which would allow some timing gap between the redemption of securities and payments if necessary to ensure that payments go out.

As for the general problem of Treasury running out of cash, there would have been no good options, and that is why the Administration had to keep the pressure on to get the issue resolved. Even if Congressional leaders suspected that the August 2 deadline might not be entirely real, they wanted this to end too. But it seems that Congress thinks playing with the debt politically is so much fun that they will not entertain putting an end to this by tying the size of the debt to whatever is necessary given their spending and tax decisions and economic conditions affecting expenditures and receipts.

If the debt limit had not passed before the measures already taken were not sufficient to prevent Treasury from running out of cash, no one really knows what the Treasury would have done, perhaps not even the relevant Treasury officials and the President. The fixed income markets clearly did not believe there would be a default on the debt. They most certainly agreed with Brad Delong who wrote that "default was never in the cards, at least not with lawyers at the president's disposal 10% as inventive as those who claim that we are not engaged in 'hostilities' in Libya." But no one knows for sure what would have happened, and the risk was not worth taking. That is why there was eventually an agreement, bad as it is.

The Debt Limit – Forgetting History

This weekend I heard Senator Reid say that debt limit increases were routine during Reagan's terms as President, and that Reagan probably did not spend more than ten minutes on the issue. As I mentioned in a previous post about how the debt limit was finally increased the day before an interest payment date in November 1985, this is clearly not true. A more recent example of a particularly difficult debt limit exercise was Clinton's battle with Speaker Gingrich, which resulted in two government shutdowns. The shutdowns were due to appropriation bills not having been enacted, but the debt limit, which the Treasury had reached at that time, was also one of the tools the Republicans were using to pressure Clinton, ultimately unsuccessfully.

The Democrats have been arguing that debt limits in the past have been routine in order to portray their current opponents as extreme. It is not necessary to misrepresent the past to make that case. The periodic debt limit crises, which are purely political exercises, should be eliminated, since they terrify people and sow doubt among foreign investors, including foreign governments and central banks. The crisis just ended was particularly bad; do we really want to repeat this experience? Unfortunately, we probably will.

The Dispiriting Debt Limit Resolution

Following the twists and turns of the debt limit negotiations has been dispiriting. If I had wanted to have a more pleasant weekend, I should have gone somewhere without access to newspapers and electronic devices, including old-fashion ones such as a radio, with which to keep informed. After all, while exactly how the story would unfold was unclear, it was not going to end with the Treasury defaulting on its debt. Somehow we would be spared that, if we did not know exactly how.

Most media outlets, focused as they were on a perhaps fictitious Tuesday midnight deadline (with some websites showing the days, hours, and midnight to "default," even though debt default could not occur on Wednesday, since no interest payments are due on that day), have portrayed today's Senate vote as just in time and suggested that the compromise had to be a good one, since both the Democrats' most liberal and the Republicans' most conservative members hated it and pretty much everyone disliked it. For the most part, the media have been playing along with the Administration and others, who are trying to convince the American people that they are the winners in this deal.

But, of course, that is not the case. The American people are not well-served by this agreement. While the budget cuts will not be that large in the next year, the cuts in current spending will serve as a fiscal drag on the economy, slowing its already anemic growth rate. As for cuts coming later, the risk is that the economy could still be in a slump, and cutting spending more is precisely the wrong policy for the government to undertake when unemployment is high.

While many like to criticize John Maynard Keynes, his insight that an economy can for a long time be at an equilibrium point at less than full employment remains proven by historical experience. When monetary policy has ceased to be very effective in stimulating the real economy, as is now the case, fiscal policy is the only way to increase the growth rate to a point where the unemployment rate comes down. President Obama is wrong when he says that the U.S. government must tighten its belt when families are forced to. Precisely the opposite is the correct policy.

It is not entirely clear whether the Administration is making a virtue out of what it believes is political necessity, or whether, now that economists such as Larry Summers and Christina Romer have left the Administration, members of the Administration no longer believe that much fiscal stimulus is necessary. But there is reason, unfortunately, to think they may actually believe some of their current rhetoric. For example, Treasury Secretary Geithner, according to a June Washington Post article, is much more enamored of long-term deficit reduction, including entitlement reform, than he is of stimulus spending. He is quoted as comparing stimulus spending to sugar in one meeting. The article describes Romer's reaction: "Wrong, Romer snapped back. Stimulus is an 'antibiotic' for a sick economy, she told Geithner. 'It's not giving a child a lollipop.'"

What is disheartening about the current policy choices is that we cannot get the long-term fiscal problem resolved without getting adequate growth in the economy and tackling the problem of escalating medical costs generally, not just Medicare spending. But I am sure in the coming days we will see a parade of Senators and others, all smiling and statesmanlike, claiming on venues such as the Charlie Rose Show that the compromise just reached was good for the American people, how when the chips are down politicians will surmount narrow political interests and do what is right for the country, and how the compromise, imperfect as it is, proves what a good job they did in averting default and making progress in solving our fiscal problems.

What most of those who supported this agreement will not admit is that government policies that are likely to worsen an economic slump and prolong a period of high unemployment are bad in both a policy and political sense. As to the politics, this is not predictable, but economic distress tends to push some people to the extremes. Increasing the polarization of American politics is something that most politicians should not want.

As for the presidential election, the debt limit saga has not been good for Obama. Many Democrats and Republicans believe he showed himself to be a poor negotiator, which is not what one wants in a President. Obama has also alienated his liberal base, and some are likely wondering if they made a mistake in choosing him over Hillary Clinton. The Administration clearly thinks that its triangulation politics will appeal to independents and that liberals have nowhere to go. But unless the Administration changes its ways, there will be lessened enthusiasm, and this will matter especially among young voters, to whom Obama appealed in the last election, because these voters have not established a practice of voting that many somewhat older people have. On the other hand, the Republican field is devoid of anyone with a modicum amount of charisma and potential for broad appeal, and some of the major candidates, while appealing to Republican caucus and primary voters, clearly cannot attract much independent support. For an election that many are billing as an exceptionally important choice between two visions of the proper role of government, the choice voters face may be at best uninspiring.