Photo: Reuters

The U.S. fiscal cliff was dodged in pretty much the way that seemed most likely after November’s election: a bipartisan deal in which pragmatic Republicans, no longer focused on ending the presidency of Barack Obama, joined moderate Democrats to prevent economic sabotage by extremists from both ends of the political spectrum. On Wall Street, the immediate reaction was euphoria. But among mainstream economists and political commentators in Washington, it was cynicism.

While stock markets around the world approached their highest levels since the 2008 financial crisis, media headlines emphasized grim forebodings: Fresh stand-off looms after US cliff deal (Financial Times); Budget deal passes, debt ceiling looms (Wall Street Journal); Deal done but threats remain (Washington Post); Bigger showdowns loom after fiscal cliff deal (Reuters); House backs tax deal as next fight looms (Bloomberg).

Investors’ initial reactions are often misguided, especially to complex political events, but this time the markets will probably be proved right, and the pundits wrong. This week’s deal marked a genuine, and most likely sustainable, breakthrough for reasons of both politics and economics.

Politically, the bill’s decisive majorities in both houses of Congress showed that the U.S. Constitutional system is now less dysfunctional than widely believed. While ideological divisions may still be as wide as ever, November’s election transformed the political calculus for pragmatic Republicans such as John Boehner and Mitch McConnell. Instead of dedicating all their efforts to ousting Obama or wrecking his signature policies such as healthcare and financial reform, pragmatic Republicans must now consider how they might shape the president’s agenda over the next four years to protect their own vital interests and those of their constituents and financial supporters.

The most vital of these interests is to avoid another recession that would be calamitous for American businesses and workers, given the still-fragile condition of the U.S. economy and financial system.

The United States may now have, for the first time since 2009, a legislature capable of creating bipartisan majorities of pragmatic Republicans and Democrats working together on issues of fundamental importance to American voters. The more this pattern becomes established, the more it will neutralize radicals, both in the Tea Party and the Democratic left. Having compromised so many principles and suffered such acute political embarrassments during the fiscal cliff bargaining, the last thing Republican leaders will want to do is repeat the same experience in two months’ time. Future policy clashes, at least over economic policy, are likely to be less viciously adversarial, not more so, especially when the ultimate outcome of the argument is obvious and inevitable, as it was in the case of the fiscal cliff.

But will avoiding a default by the U.S. Treasury be seen as necessary and inevitable in the same way? This will depend on President Obama discovering an interest in economic policy detail that was notably absent from this recent debate and from his first term generally.

Most American voters believe, according to opinion polls, that the United States faces a grave budgetary crisis, and that public spending is rapidly rising, implying a slide towards Greek-style bankruptcy unless deficits and debts are brought under control. These statements are manifestly false.

U.S. deficits and debt, far from rising to infinity, are actually quite stable. Deficits have been halved since 2009 and will decline by about $150 billion annually in each of the next three years, according to the Congressional Budget Office. Meanwhile total debt is projected by the CBO to stabilize at around 82 percent of GDP from next year until 2018. And that is before any of the tax hikes agreed to this week. Taking account of roughly $620 billion in extra revenues raised by the fiscal cliff deal, U.S. debt will stabilize at a significantly lower GDP share and will probably do so by the middle of this year. This helps explain why the panic about national bankruptcy in Washington does not seem to affect private investors, who happily lend money to the U.S. government at the lowest interest rates on record.

Yet President Obama has made no effort to convey this reassuring information to American voters. Instead he has perpetuated the myth that the United States faces an urgent budgetary crisis, most recently in his televised speech on the fiscal cliff, when he described further deficit reductions as a top priority.

As long as voters are paranoid about a Greek-style fiscal crisis, the looming showdowns predicted by pessimistic pundits over Treasury debt limits may indeed be inevitable, since deficit hawks will argue that avoiding future national bankruptcy is even more important than avoiding an immediate default on Treasury debts. But suppose the president were to explain to voters that there is no real fiscal crisis and add that the extra revenues raised in this week’s deal make the long-term budgetary position even more secure. The threat of a confrontation over the Treasury debt limit would quickly vanish. With this threat averted, business and consumer confidence would improve, economic growth would accelerate, and government deficits would shrink rapidly, without any further major tax hikes or spending cuts.

In short, suppose President Obama decided to become a “deficit denier,” as described in this column last year. Liberals, such as Paul Krugman and Joe Stiglitz, could explain this denial as Keynesian stimulus. Conservatives could call it supply-side economics, as they did under President Ronald Reagan. Either way, deficit denial could help to avert future budget crises and accelerate economic growth.

If Barack Obama could make deficit denial a respectable position again for American politicians, as it was under Reagan, the success of his presidency would be assured.

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Anatole Kaletsky is a Reuters columnist.

Photo: Reuters

President Barack Obama’s re-election is good news for the world economy and financial markets. Of course a victory by Mitt Romney, unlikely though it was, might have been even better news, which is perhaps why stock markets fell sharply after the election. If Romney had won, his promised tax cuts and willingness to ignore budget deficits would have delivered a big stimulus to the U.S. economy and triggered a potential boom. But even without this fiscal boost, recent U.S. economic indicators, especially on housing, employment and bank lending, have pointed clearly in the right direction – and now there is every reason to expect these positive trends to accelerate.

While the election was a genuine obstacle to U.S. economic recovery, the problem lay not in the policies of either Obama and Romney but in the uncertainty about whose policies would be implemented and what each party might do to sabotage the other’s plans. This political doubt delayed investment decisions and hiring plans, and, in corporate bank accounts and bond markets, clogged the flood of new money created by the Federal Reserve. Now that the election is over, this dam will start to open. Political polarization, at least on economic issues, will start to ease. And the confrontation over taxes and public spending looming at the end of the year should be resolved with much less rancor than expected. All these optimistic conclusions follow from one crucial feature of the election result: The calculations of self-interest for politicians in Washington, for investors on Wall Street and for business people across America have now been transformed.

Let us begin with the business community. Much of it has been fiercely opposed to President Obama, particularly to his signature policies of universal healthcare and restoring Bill Clinton’s top tax rates. Given that, surveys suggested that many companies, and especially small businesses, suspended normal decisions on hiring and investment for months before the election, while they waited for Obamacare to be abandoned and tax hikes to be ruled out.

That waiting game is now over. U.S. businesses can no longer hope for a new president who will restore the untrammeled free-market environment of George W. Bush. Instead of a theoretical choice between Obama’s new regulations and a free market utopia modeled on Ayn Rand, corporate executives must now choose between adapting to Obama’s policies, including healthcare, going out of business or finding another country with a friendlier business environment.

Once they confront this choice, a few may decide to move to Mexico, Canada or China, but most will surely acknowledge that the U.S. remains a relatively attractive place to do business and will simply build the costs of healthcare and taxes into their budgets. They will then switch their attention from politics to business as usual and get on with hiring or investment decisions that make financial sense in this new regulatory environment. If businesses refrain from investment or hiring from now on, this will be for financial reasons, not out of political unease.

A similar shift can be expected on Wall Street, as surprising numbers of investors and analysts believed that a Romney victory was likely and expected major changes in monetary policy. This possibility can now be ignored and investors can work on the certain knowledge that the Fed’s ultra-expansionary policies will continue until unemployment falls below 7 percent.

Some investors like the Fed’s policy, while others hate it, but all must now accept it as a fact of life, and then seek opportunities to profit in this environment. Once this ultra-expansionary monetary policy is taken for granted, such profit opportunities will surely be found in assets that benefit from stronger economic activity or higher inflation, such as equities, property and other productive assets, and not in those that benefit from deflation, like government bonds and cash. The consequent flow of money out of bonds into equities, homes and other growth-related assets is exactly what the Fed wants to encourage. As this flow accelerates, it will reinforce economic recovery and confidence. That should, in turn, help moderate political partisanship, at least on the economic front.

Which brings us to the new political calculus in Washington, for both the Republicans and Democrats. Until this week, the Republicans’ “No. 1 priority was to make Obama a one-term president,” as Mitch McConnell, the Senate minority leader, famously declared. To make Obama unelectable, the Republican leaders were willing to threaten a default by the U.S. government or to push the country over a fiscal cliff. This destructive incentive is now gone. Since Obama can no longer be defeated or re-elected, the Republicans have nothing to gain from economic disruption, but potentially a lot to lose if obstructive tactics are seen as threatening jobs or damaging the business interests of their corporate supporters, who must live with Obama for four more years whether they like it or not.

Obama’s motivations are also transformed, however. Until this week, his main objective was re-election, and that demanded highly motivated Democratic activists. Starting today, the president’s main goal is securing a legacy.

Obama could be remembered as one of the most successful and effective presidents in modern history – the president who created universal healthcare, who crippled Al Qaeda, who pulled the U.S. economy out of its deepest post-war crisis and who laid the foundations for long-term fiscal solvency. But Obama knows he can only secure this legacy by breaking the gridlock in Washington and avoiding lame-duck status.

The changes in the Republican and Presidential political calculus almost guarantee a new willingness to compromise on both sides. With the job market improving, with the housing crisis largely over and the financial system returning to normal, Obama and the Republican congressional leaders will surely realize that compromise now serves their interests better than confrontation and sabotage. Only through some degree of cooperation can either side share in the credit for the strong economic recovery that could now lie ahead.

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Anatole Kaletsky is a Reuters columnist.