10 Aug 2011  Views on News

HBS Faculty Views on Debt Crisis

In the midst of the US debt crisis, Harvard Business School faculty offer their views on what went wrong and what needs to be done to right the US ship of state.

 

When Standard & Poor's Rating Services lowered its long-term sovereign credit rating on the United States from AAA to AA+ on August 5, it was a shot heard 'round the world. Stock markets plummeted, investors covered their eyes, consumers' confidence and pocketbooks took another beating, and the blame game engulfed politicians and S&P itself. In the midst of all this angst, four Harvard Business School faculty members offer their views on what went wrong and what needs to be done to right the US ship of state.

Bo Becker, Assistant Professor of Business Administration

Much anger and criticism have followed Standard & Poor's decision to downgrade America's credit rating. However, the real story is about how unsustainable the massive US government deficits are, and how difficult they will be to close.

The deficits were largely incurred to stimulate the economy in the wake of the financial crisis, but they may be hard to get rid of. The Washington political system struggles to deal with this gigantic fiscal challenge, and—no surprise—large tax increases and large expenditure reductions are not high on politicians' wish lists. Those facing tough re-election campaigns are hesitant to vote for such proposals. Add to this the ideological divisions about whether to emphasize taxes or spending when closing the budget gap, and we have a difficult and volatile fiscal outlook for this country.

Given these problems, S&P's call can be questioned, but only on the margin. No one disagrees with the fact that the United States faces a severe fiscal challenge. Anger with S&P, therefore, is much like anger directed toward a referee who has made a difficult call—frustration with the result expressed as criticism of the messenger.

It's been a tough couple of years for S&P and its rivals, Fitch, and Moody's. Recently, these agencies have faced considerable criticism over their sovereign ratings—in Europe, for example, over their downgrades of Greece and several other economies. They are accused of being too negative and downgrading countries unfairly. This is ironic, given that in 2008 and 2009, they were given a hard time for issuing excessively positive ratings of structured products based on home mortgages that turned sour. Whatever they do, someone gets mad.

That said, the mistakes on structured products were a historic blunder by the raters, and they likely contributed to the great recession by inflating the housing and credit bubbles in 2005-2007. But when it comes to sovereign risk, they are getting it right. Across the world, there are many serious threats to the long-term ability to repay national obligations like government bonds, and the United States is no exception. So rather than focus on whether S&P called the downgrade a little too soon, let's focus more on figuring out how to get the US fiscal house in order.

Robert Steven Kaplan, Professor of Management Practice

It would be tempting to join those who are criticizing Standard and Poor's. Unfortunately, it won't do us much good. The damage has been done. This downgrade was probably bound to happen once Speaker Boehner and President Obama failed to agree on a "grand bargain" of $4 trillion in deleveraging. The question now is the same as several weeks ago—how can we deleverage our government and still foster growth in the economy?

This downgrade is unlikely to have a material negative impact on Treasury rates, at least in the short run. The real danger is to the psychology of businesses and consumers, who are likely to be far less willing to spend, invest, and take risks on hiring. The US economy was already slowing, and this downgrade is likely to reinforce that trend. Unfortunately, slower growth makes deleveraging dramatically more difficult. Reducing debt results in deleveraging only if growth continues at a reasonably healthy level.

This, I believe, is why we saw the stock market sell off so dramatically on Monday. Investors fear a global slowdown in growth and a resulting negative impact on corporate profits. We won't know for several months the extent of the damage. GNP, employment data, and third-quarter corporate earnings will tell us more as we move into the fall. In the meantime, chances are we can expect a significant amount of market volatility.

So what do we do now? For starters, I believe that the federal government must focus on entitlement reform, new revenues, and some new spending intended to foster growth. This new spending may involve continuation of the payroll tax holiday as well as improvements in this country's infrastructure.

Politicians' pledges to resist restructuring entitlements or to rule out raising revenues are the antithesis of what is needed. Since this is such an enormously complicated challenge, lawmakers need to be open to asking the tough questions, engaging in real debate, searching for solutions, and making compromises. Pledges to rule in or rule out various policy options are likely to preclude sensible solutions.

This is an historic leadership moment. Can our leaders work together, face reality, engage in real debate and help solve our nation's problems? As citizens (and voters), I believe we must insist on it.

William A. Sahlman, Dimitri V. D'Arbeloff-MBA Class of 1955 Professor of Business Administration

I don't know how most Americans feel these days, but I haven't felt so frustrated since Richard Nixon left office in the throes of the Watergate scandal in 1974. Our so-called political leaders have just completed a grand game of chicken, and the United States is the loser.

I won't dwell on the inanity of the negotiations or final resolution about spending, revenues, and debt limits. Suffice it to say that cutting a little over $2 trillion from the projected ten-year deficit is akin to losing seven pounds off a starting weight of 350. We will still have accumulated deficits over that time frame of $7 trillion, and we still confront total debt and vested liabilities of perhaps $90 trillion.

One side argues that we can't raise revenues, while the other asserts we can't cut entitlements. Both sides are wrong. Entitlement costs, especially health care, will eat us alive. Without real reform of affordable health delivery, not just reform of access to health insurance, the US economy is doomed. More generally, at all levels, government has given away the future to buy votes in the present—a truly bipartisan effort over decades. On the revenue side, we will need to increase taxes, broaden the tax base, and reform the tax code or we are also doomed.

Because the negotiated settlement of the debt crisis was so lame, Standard & Poor's has downgraded the country. Instead of asking whether we are in greater danger of long-term financial difficulties, everyone is blaming the bearer of bad news, pointing out that they weren't exactly prescient in the recent financial crisis. That is true but irrelevant. You don't need a crystal ball to see that we have an unsustainable business model and no political process for change.

What we need is simple—growth. We need the economy to expand. We need people to feel that they can get a job, that their children will be better off, that tomorrow will be a better day. Where does growth come from? The answer is equally simple. Business, especially new business, creates jobs and prosperity.

We need to stop arguing about how to slice a shrinking pie and start working to grow the pie. We need lots of investment in research and development. We need a better educated and trained workforce. We need talented immigrants to work their magic in the economy. We need to use existing government and private dollars to fix infrastructure and create opportunities. We need more venture capital and more entrepreneurs. We need more competent CEOs of major companies who will invest wisely to create new valued products and services.

Private action can overcome partisan haggling and incompetence. America is a great country, because it has citizens who constantly search for new ways to improve the world. We have willing investors. We view crises as opportunities. We, the non-politicians, need to accept responsibility for fixing the country and get on with it.

Matthew C. Weinzierl, Assistant Professor of Business Administration

A common take on the S&P downgrade is that it is a wake-up call, forcing us to sit up and face the dire condition of the US government's finances. In fact, it's time to press snooze.

First, the fiscal stress on the United States is not imminent. Borrowing costs for the government are at historic lows. Bond markets, which not only reflect the opinions of investors with money and careers at stake but which, more to the point, are S&P's customers, appear to have ignored the agency's opinion entirely. Revealingly, S&P simultaneously "affirmed the 'A-1+' short-term Rating" for the United States, suggesting that the agency itself sees no risk in the near term.

Second, acting as if there is an imminent fiscal crisis would risk a severe slowdown in the economy. With high unemployment, anemic growth, and faltering confidence, the US economy is not in a position to absorb fiscal austerity. The consequences of a second downturn could prove disastrous for millions of American families and businesses. Whether a new fiscal stimulus is merited or even possible is up for debate, but a fiscal retrenchment in the near term is likely to make things worse.

Third, alarms about the long-term fiscal challenges facing the United States have been sounding for decades, and we know what the options are. In 1996, the director of the Congressional Budget Office testified: "Financing the entire expected growth in spending on these entitlements through borrowing is not a long-term option because it would risk substantial damage to the economy." Fifteen years later, the story is the same. The threat is real, the costs will be large, and we must act. But what we must do is well understood: Reform entitlements and the tax code to spend less, raise more, or both.

Fixing the long-term fiscal problem will require political courage. S&P may have meant their downgrade as an attempt to awaken that political will, but by issuing it during the heated debates over the debt ceiling and short-term policy, S&P risks prompting fiscal austerity over the wrong time horizon.

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Comments

    • Rob Houck
    • Partner, Eaton & Van Winkle

    I am sure you will get hundreds of responses divided along red/blue lines. The issue goes to the whole role of government, one that has been fought forever in one form or another. Ronald Reagan taught us that the government was the problem, but he created large debts with his own stimulus program - a military build up. Bush the son found a budget surplus and decided to spend it before the Democrats could (recall the discussion of what would happen if the US stopped selling Treasuries?!) So he cut taxes and started 2 wars paid for, in the first instance, by China. (Which is not to say this was his purpose. Still, the damage done on 9-11 was vastly beyond the 3,000 people who died and the several buildings lost.) Now it turns out that the wars and tax cuts were not paid for by China but by the middle and lower classes in the US! Who knew? And those wars are fought primarily by those classes. But after all, many Americans think govern ment programs (other than defense) all go to help precisely the wrong people. Those people can better be motivated to become productive members of society by doing away with their safety nets. If they react as the Brits presently are reacting, our police stand ready. So Mr. Bush got a two-fer: 2 wars AND a reason to reduce government spending and its size. For example - whatever laws are on the books, try to enforce them with underpaid bureaucrats who are told their task is misdirected. (I suggested to a Republican appointed SEC Commissioner that her staff should be better paid. She said they were paid market rates. I checked after the meeting and found that her "market" was about 50%.) So nothing said here in this list of comments will be any different from the huge outpouring every day regarding the red/blue divide. If we could only capture the time spend writing our opinions on these websites! Still, for the most part, I find the content of "Working Knowle dge" to be 1st rate. Thanks!

     
     
     
    • Rohit Desai
    • President, Family Office

    The best way out of the current situation is to have a real plan to eliminate trade deficits quickly and to create trade surplus over the near term. This, to-gether with fiscal reforms on both spending and taxes will bring us back to a healthy set of outcomes on all fronts, including unemployment, economic growth and feeling good about ourselves as a nation.

     
     
     
    • Anonymous

    Just one important correction to Professor Becker's claim that "the deficits were largely incurred to stimulate the economy in the wake of the financial crisis, but they may be hard to get rid of."

    While he is correct that the deficit may be hard to get rid of, it certainly is not as a result of the stimulus which added only $2 trillion. Far more has been incurred because we have financed the Iraq and Afghanistan wars and tax relief on the credit card.

     
     
     
    • Anonymous

    imaginary growth, created by government spending is a fata morgana

     
     
     
    • Heinz-Peter Sebregondi

    Being a German who has lived for three years in the U.S. and loves this country, may I throw in a subjective aspect, that since 10 years I've seen neglected by Americans: Globalization and the competitiveness of the United States. Americans are so proud, enjoying phantastic economies of scale in a huge homogeneous market, and still believe they are far advanced. But when building the telco networks in Asia and around the world, Wall Street companies together with emerging countries have started to accelerate the development of the businesses, education, infrastructure, manufacturing capabilities and R&D there, particularly in communist China. So Wall Street has helped to grow new aggressive competitors to the U.S. It was a good thing to help the poor countries, but now America needs to start taking them serious as powerful competitors. At the same time Wall Street companies seem to be less and less American companies but just Wall Street companies, avoiding to pay taxes and to hire in America, and not much concerned about growing American exports. Even if they still do some R&D in the U.S., the resulting new jobs might be created elsewhere. The housing bubble has created many low level jobs. With the implosion of this bubble, the jobs disappeared. The U.S. as a country is just not competitive anymore, making it hard to turn things around. Look at the import/export imbalance and at the fact that today the U.S. needs to borrow money from communist China, where only 40 years ago many people died from starving. Americans focus on the competitiveness of businesses and believe in the myth that what's good for business is good for America. They still are not really aware that the world around has changed and that the U.S. is no more "95%" of the world. Maybe in their brain, but not in their soul. Huge markets with huge economies of scale are now built in Europe, China and India, and people there are competent, hungry and eager to compete. Would suggest to think not "only" about debt, entitlement and taxes, but fundamentally to rethink and reposition America's global competitiveness. Without that the "new normal" could last for quite a while.

     
     
     
    • Jacob Navon
    • Partner, Westwood Partners LLC

    I couldn't agree with Matthew Weinzieri more. The problems have been foreseen for at least half the period since I graduated (in 1984) and the solutions are obvious to all.

    A good business analogy can be found in GM. For decades management "kicked the can" down the road negotiaing ever more lucrative benefits with the UAW that were back-end loaded until such time that the future caught up with them and the company was bankrupt. No sooner the Government stepped in and structurally reformed same into the "Old GM," then the new GM showed it can actually compete. The old adage, perversely, still holds: "what's good for GM is good for the country."

    The country needs a combination of increased revenues and reduced spending. The former can be achieved while even lowering marginal tax rates, by reforming the Byzantine and antiquated tax code. The latter, too, can only be achieved through structural reform of the entitlement system.

    I fail to see why politicians are missing the obvious opportunity. Structural reforms of both revenues and expenses afford the air cover needed for everyone to claim they protected their constituency. For example, raising tax revenues while lowering marginal rates affords the Republicans the opportunity to wrap themselves in the Mantle of Reagan and declare victory. As a General Member of an LLC, where every dollar of our revenues is subject to income tax rates, I cringe at the thought that my counterparts at hedge fund LLC entities can enjoy a much lower marginal capital gains tax rate on that portion of their business revenue that is derived from performance fees. Don't get me wrong, I am as fiscally conservative as you can get; and to the extent that these people are deriving gains on their own capital in the fund, they should enjoy the lower rate. But that portion of their legitimate business revenue that is derived from a performance fee they charge on other people' s money? What is fair or appropriate about that? The code has too many loopholes that shouldn't exist. Closing them can help the revenue picture tremendously.

    As for the expense side of the ledger, for example, slapping a means test onto Social Security affords the Democrats the ability to declare that they protected the needy at the expense of the Rich Hedge Fund Managers. I am sure that Messrs Paulson, Dalio, Cohen and Tepper will not lament for long the fact that they may never see a social security cheque. Nor would I for that matter. While I do receive regular reports telling me how much I could expect on a monthly basis, I am not seriously expecting to rely on that future income.

    Professor Sahlman is equally correct, we need to focus on growing the pie, rather than lamenting how we can equitably divide a shrinking one. Our civic leaders better wake up to the fact that psychologists view perception as 99% of reality. It is high time for them to focus on what is right about this still enormously Great country, and project the image that the future is still a desirable era to reach out to. That will inspire the kind of confidence requisite to animate Keynes "animal spirits." The daily horror show in DC that we have witnessed could have been foreseen to inspire the exact opposite, with the concomited effects on global markets that we are witnessing. Sticks and stones may break my bones, but a politician's words will surely kill me!

     
     
     
    • Gene C Walker
    • retired (HBS MBA 1960), turnaround consultant&mgt.prof.

    Historically when such rigid positions (no revenue increas- es vs. no entitlement cuts and more social programs) have collided there has been a standoff that finally ends in a tragic collapse of the economy or the society itself. Think of Lincoln's House Divided Speech, the Civil War, the revolutions of France ,Russia and others and of course our own Great Depression. At such times the more aggresive side may take over the nation or the legislative bodies realizing they are impotent to resolove the crisis give "emergency powers" to the executive or the "Man on the White Horse".

    The classic example is Cincinnatus of Rome. Dark examples are bigots like Hitler. The more benign examples are Roosevelt and Churchill.

    The militant positions of religious fundamentalists and anti intellectual politicians of the right ( T Party) do not bode well for intelligent compromise and policy.

    If moderate leaders are to prevail there must arise some who have "fire in the belly" to combate the thoughtless and to inspire voters enough to elect them. This is not a common characteristic of moderate thoughtful leaders and politicians. Theodore Roosevelt may be the role model.

    Who will save us? God save us from him/her!

     
     
     
    • Kymus GInwala
    • Retired

    It is not rocket science. Imagine that the US is a company and its citizens are both its customers as well as its employees. Look at entitlements as long term debt and taxes as revenue. I can think of many CEO's who in the real world have faced this and turned around failing companies to become prosperous and the actions they took were simple!

     
     
     
    • Anonymous

    Unfortunately there are no honorable leaders in the US Government nor in Corporate America. Clearly the American public has become the source of funding and tax breaks for corporations - e.g. oil, gas, pharmaceutical, insurance, banking/finance, hedge funds...and for military expenditures. The real question and answer lies in cutting the social funding ("entitlements") for these institutions, as well as for members of Congress who have premium benefits for their lifetime. Congress has merely served as the broker of cutting deals for the wealth few of which they align and emulate. The facts are indisputable.

    Social Security is the public's money for retirement - anyone who says it needs fixing or the age cap needs raising needs there priorities set straight. Although Medicare and Medicaid definitely need fixing due to fraud and medical malfeasance, this is a necessary benefit to American citizens. As a "civilized" country, this form of socialism is a requirement. (PS. American Corporations and Government officials are essentially socialist for taking all the funding perks, tax breaks and benefits).

    So it primarily comes down to cutting the "entitlements" of American corporations; and properly mandating their fair share of taxation. We also need to reign-in foreign and military funding. And lastly, promote ingenuity through education and entrepreneurship. These measures will cap expenditure and generate revenue.

     
     
     
    • Anonymous

    I am in favor of a new political organization entitled: Replaceeverycurrentmemberofcongress.com. Maybe then we will get some political leader who take their U.S. stewardship responsibilities seriously, not just focus on pleasing their bases to get re-elected.

     
     
     
    • Joe Steele
    • Consultant, Steele Consulting

    Great discussion. What was missing for me from this article is what is HBS doing to develop future leaders with the skills and sensitivities to restore and rebuild alliances between government and business. What's happening in the US as was mentioned in several of the comments is a governmental institution that is severely broken. We also have a group of right wing extremists power brokers (many large business leaders) who have figured out a strategy to undermine the government through various well funded and mean spirited tactics, including voter suppression and media domination. It's a mess that needs lots of restructuring if the US is to survive as a world leader.

     
     
     
    • ICHAN

    I think more leaders need to ponder the interesting thoughts that Mr. Cuban poses in this blog post. I think this line of thinking cuts through the noise, and can lead to pinpoint solutions on Wall St and even our political and social systems that are executable in a relatively short time frame and could create profound change.

    When I take this line of thinking in regards Wall St. and Washington, 2 hacks quickly come to mind...Glass-Steagall and Citizens United v FEC. These hacks together effectively distort/corrupt the fundamental functions and business of Wall St. and Washington. This won't fix everything but this would be a huge blow to the virus attacking the system.

     
     
     
    • Kamal Gupta
    • CEO, Edseva Software

    The problem with the US economy is jobs. The fiscal stimulus poured liquidity in the economy without creating jobs. Most of that money flew to economies like Brazil, India, Turkey etc which offered much higher returns.

    There was talk of creating public work projects way back in 2008-9, but we were told that these are not shovel ready. I still do not see any intention of creating such projects - building railroads, upgrading roads, setting up renewable energy generation - which would create jobs and build infrastructure for future generations to become competitive.

    Contrast this to India, where the govt set up a Rural Employment Guarantee program, which assures at least 100 mandays of work to every adult in rural India. The typical works include building rural roads, water supply & sanitation and the like. This has created assets and generated income for almost a 100 million citizens.

     
     
     
    • Dr. S A Visotsky
    • Chairman & CEO, Vitech Group LLC

    EU's Debt Restructuring Package

    Interesting report. However, consider this. We are not anti-German, but Germany is the trigger to the coming EU Financial Disaster, full stop. The recent Basel III Stress Test 2011 manipulation should have been the warning shot heard round the world. Any banker or finance professional knows this as fact.

    Germany and France, and all of their major credit and banking institutions are now too deeply involved to retreat from EU sovereign debt bailouts of Portugal, Ireland Greece, and now Italy and eventually Spain. This cannot be hidden nor ignored.

    Based upon this definite EU-wide default in the making, why are you not dropping ratings for Germany & France? Within all reasonable common sense, they should be dropped to CCC according to your ratings. (CCC: currently vulnerable and dependent on favorable economic conditions to meet its commitments). Nothing could be more simple. Follow the ratings you agreed upon, that you yourselves published. The ratings of almost every EU State should be dropped according to S&P's ratings explanation.

    Germany is # 19 in the world in Public Debt, compared to the US at # 36. Germany's public debt in 2010 was the largest debt increase in absolute terms in any year since the introduction of the statistics in 1950, the statistical office said, and accounted for 80 percent of the country's gross domestic product GDP and burden of around 24,450 euro ($33,318) per inhabitant in the country. The largest German company, SIEMENS just reported a Quarterly loss of 65% from Q2 to Q3, and a loss of 98% in the Medical Solutions segment. Mysteriously, 1 day before the financial announcement, CEO Peter Loscher's contract was extended for (5) five years, even though they had the financial report 3 weeks prior, it was silenced. Their stock is down 21 Euros since 1 July, from 97 Euros to 72 Euros,a staggering 25% loss!! No mention or worry about this in the world press, whatsoever. All we hear is how wonderful the German economy is with no signs of trouble. Nothing, could be further from the t ruth .The complexity of the situation, and S&P's inaction to these events, gives one pause. When Germany falls, and they will, the EU goes down like a string of dominoes. Remember where you heard this, this is THE news in the EU right now. The short on all things German is being organized as we speak, soon they will be in freefall. The DAX has lost more % than any other world market. Is anyone watching?

    If we are to start dropping credit ratings of countries like the US, which looks highly suspect as anti-US sentiment, we should surely not leave out the EU countries well on their way into trouble that only China can bail them out of. The EU will not appreciate a Chinese footprint in the shape of Germany, otherwise the contagion begins.

    EU Markets are down due to the "too little, too late", EU's Debt Restructuring Package, or lack thereof better stated. There is little to no EU fallout due to US Markets, rather the fallout due to Germany not supporting an Italian bailout and rumors manufactured by EU journalists to distract the herd, those who do not understand the markets and therefore are not qualified to interpret it or it's performance.

    S&P need to understand the gravity of this situation. If S&P are saying they absolutely had to drop the credit rating of the US due to the debt ceiling problem, they most certainly and responsibly need to drop the credit ratings of both France and Germany due to the sovereign debt crisis with immediate effect, otherwise S&P have acted negligent within their jurisdictional boundaries (operating under the auspices of the SEC) and are opening themselves as an organization to a potential slew of media canings, not to mention legal ones. It leaves many unanswered questions, even if the action was merely pro-forma, about the new ratings drop for the US. We are now hearing that France may lose their rating, what about Germany? They are holding even more bad paper than France, they are just more creative in how they hide it offbook. IFRS, an unknown word in Germany.

     
     
     
    • Ira Rahmawati

    One thing that I find strange: When faced with tight budget, the government cuts spending on health care and everything else, but insists on a huge budget for the military purchases. Why? Who benefits from all of the military spending? The people of USA do not. The people of Iraq and Afghanistan do not. The government do not. Who does?

     
     
     
    • JOHN MILNE
    • MENTOR, leadershipto inspire

    It is sad to sit down under and to watch the end of empire. Both parties failed miserably to do what needs to be done. You can't keep living beyond your means in the absence of growth. Trim your sails but do not lose hope. Mutual responsibility must be placed on welfare; fair taxes on the rich; business encouraged to innovate. America is a great country with a future and a hope!

     
     
     
    • Sharad Singhvi
    • HR Director, Petrofac

    Brilliant analysis and very incisive comments! What really puzzles me is where the trillions of dollars of stimulus money have gone if it has not served the stated purpose of creating employment and kick-starting the economy? Whatever happened to the multiplier effect? What seems quite obvious is that in the last 3 years few sections (less than 2% of people), especially bankers and money managers have gotten obscenely richer where as remaining 98% have seen their quality of life decline. I am amazed to see teachers losing their jobs when the writing on the wall is so clear that America needs to educate and skill its people to be able to compete effectively in any part of the world. To put it bluntly, for a very long time America has lived way beyond its means and the future generations will have to bear the brunt of the consequences. The prospects of 2012 election do not make it any easier for the politicians to take REAL act ion. Its going to get a lot worse before it gets better. Tough times ahead...

     
     
     
    • Tom Weston
    • Retired

    Maybe, just maybe, this is where a solution can/should start. Unfortunately the above article and the following comments all miss a fundamental point, the people that are in positions of leadership, power and responsibility are avoiding accountability. As soon as the fiscal crisis was elevated to the national/international levels the leaders/leadership began searching for someone and/or something to blame. They also began elevating the partisan rhetoric that further divided the players and the country. Then the "leadership" had a monumental idea - let's have a meeting and solve the "problem". I would ask anyone in this illustrious group, both from Harvard and the above commentators, when did you ever go into a meeting where the problem(s) was not agreed upon (defined) and there were so many proprietary solutions that the old adage applied - "if you don't know where you are going then any road will get you th ere"! Which I believe is what generated the wonderful "temporary solution" and the adoption of a Senior Committee to try to figure out what the real problem is and therefore what the real solution will be. If the leadership of this country can't agree on the problem, then delegating this responsibility to a "super group" becomes a "design by committee" and everyone in the leadership group can create a denial/blame game and we will never close the loop.

    I find the above article and comments as troublesome as watching our elective officials creating such a division in this country that there may be no lasting solution for anyone. Then we can spend eternity finding blame and blaming someone else, for the failure to unite this country and it's people. It is truly irresponsible and will be catastrophic to everyone if our leadership doesn't get a map to the road of resolution.

    Get out of the name game and get us a solution(s).

    A proud, tired American citizen and voter!

     
     
     
    • Anonymous

    As the only remaining superpower, the U.S. could not afford to rest in its laurels. The world depends largely on the US, both economically and security. It must take cohesive action to remain on top.

    Thanks to S&P for reminding the U.S. leaders that it's time to make their acts together.

     
     
     
    • John Yarnell
    • Chairman, Yarnell Companies Inc.

    Bill Sahlman's comments are right on the mark! The private sector needs to drive the bus to achieve improved education, R&D, employment and overall growth in the US economy. Politicians haven't the talent or the needed motivation. Galvanizing business to pick up the challenge is a task that HBS should tackle.

     
     
     
    • Anonymous

    The set of macro problems has been very well identified. There is a precedent, Canada, which faced the same set of financial problems-albeit arising from a far different factual matrix- nonetheless debt levels in excess of 100% GDP. The solution was a tax on consumption, called VAT in Europe and Harmonized Sales Tax in Canada. The following solution would solve the macro problem, right the financial compass and draw on some strong American values of fairness : a) a five year tax on consumption of 5%; for example tax certain consumer goods an additional 5% at the point of sale ( exclude certain staples ). On a $14 trillion dollar economy driven by consumer expenditures (2/3rds) this would generate additional tax revenues; b) the federal government could commit to reduce expenditures by 5% per year to "match" the consumption tax- which would be progressive; c) the combination of 5% and 5% for 5 years OR some such similar math would be "fair", easy to administer and have a sunset built into the tax and it would be balanced; d) five years later it could only survive if there was a public vote in excess of 60% to leave it place or at reduced levels ensuring that it was temporary and fair and balanced; and e) Canada serves as a precedent that it works, not as a precedent for a sunset provision as still remains a tax staple but it avoids the need to raise marginal tax rates and leaves taxes at the "option" of the Canadian taxpayer- pay the tax if you choose to buy products or choose lesser costly ones.

    In five years the gross level of debt would be closer to that magic number of 65% of GDP and not in excess of 100% GDP. That aggregate repatriation of debt would be in excess of $1 trillion per year, for five years.

     
     
     
    • Barry Shere
    1. Mr. Becker Is it really a question of "whether to emphasize taxes or spending when closing the budget gap?" Won't raising taxes, i.e., transferring resources from the productive sector to the government, further erode the economy? Doesn't that continue the trend of the last three-quarters of a century - giving the politicians more money to spend/waste and giving people the erroneous impression that even more government regulations and programs will fix the bad ones that we have now?
    2. Mr. Kaplan When did Speaker Boehner resist the "'grand bargain' of $4 trillion in deleveraging?" "how can we deleverage our government and still foster growth in the economy?" - Really? Nice combination of government speak and government belief. Productive people understand that we don't "deleverage our government;" we stop spending. And the people out here who are still productive know that government fosters the opposite of growth. This will continue to be "an enormously complicated challenge" as long as government speak continues and we have people like yourself "solve[ing] our nation's problems."
    3. Mr. Sahlman Well said, mostly. My only concern is that your comment about needing "lots of investment in research and development" could be misconstrued by some to think that the government could decide WHICH research and development. America has done nicely when the government wasn't involved in that. We'll get more entrepreneurs if we get less EPA, ADA, FDA, SEC, etc., etc. One more thing - "giv[ing] away the future to buy votes in the present" may have been "a truly bipartisan effort over decades," but where is the Democrat who is voting to stop the spending now? None has been heard from. At least some on the other side are doing so, and being blamed for not being bipartisan.
     
     
     
    • Anonymous

    With all due respect, I think the views expressed by the HBS faculty members Bo Becker, Robert Kaplan, William Sahlman, and Matthew Weinzierl are lacking insight and serve only to distract people from what matters most about the debt crisis. I just hope the leadership of the HBS Working Knowledge email newsletter has the courage to share this message, and to encourage serious discussion of the important subject of this message, because our country needs to make fundamental changes in our financial system before it is too late. Hopefully this message will be used to contribute to the important national dialogue to re-design our financial system to solve the current debt crisis and prevent such a situation from being possible ever again... it can be done. Let us begin now.

    Before we attempt to solve the debt crisis problem we should be careful about how we define the problem. Bo talks about the "real story" of "unsustainable deficits" and the "threats to the long-term ability to repay national obligations," (i.e. repay borrowed money) while Robert advocates for "entitlement reform" (meaning cutting spending on social services) and for "new revenues" (meaning increasing taxes), as well as for new spending (meaning borrowing more money). William advocates that we focus on "growth," and that we "increase taxes," and "cut entitlements," while Matthew suggests that we "reform entitlements and the tax code to spend less, raise more, or both." Basically they are all saying the same thing, and they are all missing the mark, for the simple reason that the US Government debt is not caused by spending too much, nor from taxing too little, nor from lack of economic g rowth.

    Hopefully you the reader are curious about what I just said, so I will repeat it... the US Government debt is not caused by its spending too much, nor from its taxing too little, nor from lack of economic growth !

    Are you ready to hear the real cause of deficits and the huge unsustainable debt ? Well ready or not... the true cause of the US Government debt is so simple that it is easy to miss... it is due to the fact that the US Government is BORROWING money to fund its operations.

    Think about it... it is simple... and just as importantly... it was not always this way... Allow me to explain...

    According to the US Constitution (which I hope is still respected by enough citizens so that we can put new leaders in place who will repeal all the crazy unconstitutional legislation that threatens our civil liberties, and who will courageously enforce the US Constitution as the supreme law of our nation), the US Congress has the sole power to create and regulate our money supply. Unfortunately, in 1913 (after several failed attempts by private banking elites), the (sleeping) Congress delegated this power to a new "Federal Reserve" entity by passing a law called the Federal Reserve Act, which gave a secretive group of bankers the exclusive power to create money out of thin air and LEND it to the US Government.

    Think about it... Why would the US Government need to make a law that changes the way that it creates money to that of borrowing money (Federal Reserve Notes) from this new Federal Reserve entity which then creates the money out of thin air, and which then LENDS it back to the Government, when the Government already had the power to create money out of this air without borrowing it in the first place ? Sounds kind of fishy doesn't it ?

    The US Government can raise money in basically three ways: (1) tax the people, (2) create money out of thin air, or (3) borrow money. Since the government has delegated the power to create money out of thin air to this new Federal Reserve central banking entity (keeping in mind that the Government still has the power to coin and print money - but it does not use this power for some strange reason), if the government does not have enough money from tax revenue to fund its operations, there are three approaches it can use to obtain enough money to meet expenses: increase taxes; reduce expenditures, or borrow more money.

    Increasing taxes has definite limits, both politically and economically before things start to get worse. Reducing expenditures also has definite limits. During times economic growth, there is a legitimate need to increase the money supply to fuel growth and prevent economic suffocation, and so reducing expenditures during such times will make things worse. A good example of such a need is during late 1920's and early 1930's when the newly empowered Federal Reserve drastically reduced the money supply, triggering the Great Depression (see Milton Friedman writings about this if you have any doubt about what caused the Great Depression).

    While borrowing money is the least painful approach in the immediate short term, it is devastating in the long term. If one borrows money at interest, one is expected to pay back the money borrowed, along with additional money as interest. Where will this money come from ? Since the Government does not produce a profit, it can only pay for this with tax revenue (which is less and less likely as time goes on since this would reduce the money available to pay for Government operations, which go up each year, so paying off the debt with tax revenue gets more painful each year it is delayed) or by borrowing more money. Thus borrowing becomes a way of governing, in spite of the fact that it is unsustainable. Thus the simple reason why increasing borrowing, increasing taxes, and/or reducing spending will not help matters is because none of these actions address the real source of the problem. The problem can only be delayed and worsened by such solutions.

    The simple truth is that as long as our financial system is a debt-based money creation system, the Government could never pay off the debt, because our money supply was created by borrowing, so to pay it back would mean to reduce the money supply to virtually nothing, which would kill our economy. Thus it is impossible to pay off the debt in our current system! Furthermore, as the deficits continue, the interest payments on the debt keep increasing, which means the Government needs more money to pay the interest, which means either higher taxes (which weakens the economy) or more borrowing. Borrowing more money to pay existing obligations is an unsustainable financial strategy. Since paying off the debt without borrowing would eliminate the money supply and kill the economy, the current system is designed to be unsolvable. Thus any talk about raising taxes, reducing expenses, or borrowing to spend more, is really insane self-destructive thinking !

    Any real solution would involve changing our financial system and re-designing it to prevent the US Government from borrowing money... ever again (This is not my idea by the way... Thomas Jefferson figured it out long ago and wrote about this). Think about it... and if you are serious about helping the USA to recover and have a sustainable financial system, then start talking about the real problem and real solutions. Inflation and deflation are caused by changes in the money supply as compared to the total existing production output. It is that simple, and do not let anyone fool you into thinking it is complicated. Printing more dollars relative to the available goods to purchase leads to prices going up, and removing dollars from the money supply relative to the available goods to purchase leads to prices going down.

    The way to get off the debt-based central banking scheme is first of all to permanently stop borrowing more money, and secondly to pay off the existing debt by printing debt-free money from the US Treasury, while simultaneously reducing the money supply, to maintain a relatively stable money supply, to avoid significant inflation or deflation. Reducing the money supply at the same time the Government is printing money to pay off the debt can be done by gradually increasing the minimum reserve requirements of all banks until the debt is fully paid, and the fractional reserve banking is eliminated. As long as private banks can create new money by lending out more money than they have in reserves (fractional reserve lending - legalized counterfeiting), the private banks can continue to manipulate our money supply, which causes the "business cycles" of inflation and deflation. The regulation of the money supply is a proper function of government, and should not be de legated to any bank or group of banks. This problem is very serious... and it is solvable.

    Do your own research... and do what you can to help educate others and help to put in place leaders who will have the courage to change our financial system to do away with Government BORROWING and end FRACTIONAL RESERVE BANKING (no more private groups controlling our money supply) before it is too late for all of us. God bless the USA !

    Thanks for listening.

     
     
     
    • Anonymous

    "What needs to be done to right the US ship of state" is what the article asks in its opening paragraph. Absent a better sponsor, Working knowledge needs to lead a consortium of recognized leaders. The consortium will limit its activities and comments to specific SMART tasks, e.g., rate public speakers (elected, news, business, etc.) on whether those speakers are contributing the advancement of ideas and soloutions or not. The consortium will rate the ideas advanced on their history of success and chances for success in current environments based on established SMART outcomes. The consortium will propose activities to educate America on the ideas and how America can better advance the ideas for implementation. The consortium will propose specific budget cuts and revenue raisers and fully justify why those recommendations should be implemented rather than others based on projected outcomes to relieve the current socio-ec onomic imbalances in America. SMART is specific, measurable, actionable, realistic and testable (others may have a different combination of terms, e.g., repeatable for realistic).

     
     
     
    • Sudheer Thaakur
    • Retired faculty

    To begin with we must clearly differentiate between the two components of the US debt-internal and external. Internal debt is a carryover of 'gold standard' time especially so when sovereigns needed to finance their imperialistic ambitions. In modern political economy the concept of internal debt has no place. If the government needs to spend beyond current means because of exigencies of the situation let it use its power to print more money. The cost and consequences of doing so will be borne by intended beneficiaries of their action. Borrowing by the governments is akin to slapping tax on future generations without the consent to benefit present constituencies. I believe that this will also help to resolve in real time -the balance of taxes and entitlements that will require fine tuning every now and then. External debt is a different story. To begin with the U.S. has to take immediate action to address adverse balance of payments. Oil imports constitute a major portion of this trade deficit. But this is only the visible portion of deficit caused by oil imports. Truly speaking we must add to this the diplomatic and military costs incurred in keeping the supply sources open and perhaps amenable to the US influence. Multi trillion dollar wars are fought; regimes which quite clearly offend modern sensibilities and lack the legitimacy are propped up. If the U.S. is serious to tackle this issue it has to strike at the root - demand for oil. This would require creating market conditions that favor the use of alternate especially renewable energy sources over oil for meeting our energy needs. However using new energy sources would require the creation of a totally new smart energy infrastructure. We have given ourselves a new information infrastructure and seen how it has transformed our lives. Its time we gave ourselves a new energy infrastructure which simultaneously helps create at least a low carbon economy if not carbon neutral and stave off climate change threat. The U.S. would not have ended up with such a huge external debt if it was not the world's reserve currency. Being the world's reserve currency may make your chest puff with pride but it has serious economic consequences including internal. It'll be in the U.S. interest to shake off this role and nudge the world towards a new regime which places equal burden and responsibility on all trading nations.
    S&P action of downgrading the U.S. debt perhaps is the opportunity for a fundamental shift in thinking which may lead to a better tomorrow.

     
     
     
    • PJM
    • Partner, Reap Consultancy

    I read with great interest the comments and I note daily the coming and goings of experts opinion on the Global issues and the US. For me In simple MBA speak I see no clear determinants and predictors that all the experts all subscribe to. The politicians need to have a clearer framework for turnaround and nothing less. Get the stratgey right, get management in place with great leadership and for certain US will rebound positively.
    Wall street needs to acknowledge we are here due to excess, greed and many hell bent on personal gain, but lets move forwqard and quickly, there are no FREE LUNCHES TODAY !Lets all get around the table with the many great leaders across America who all have a vested interest in US success and think tank the way forward. I look forward to a positive QE3 and a healthy start into 2012. Regards to the professors informative observations. PJM

     
     
     
    • TJ
    • Student

    Let us agree, that we will not see a future where rating agencies control the wealth and health of nations......