Hamish McRae: US's live experiment is a very harsh squeeze

  • @TheIndyBusiness

Sequestration is a horrid word, and as far as the current US usage is concerned it is an inappropriate one.

The normal meaning on both sides of the Atlantic is the process of seizing something from its owner by law from the benefit of creditors or the state. But what is happening in the US now is different.

The word refers to automatic non-discretionary increases in taxation and cuts in spending, as enacted by Congress. It is not seizing; it is squeezing.

The US is conducting a live experiment in fiscal policy. There are decent arguments that the process is not a good way of engineering a fiscal squeeze. Much US government spending is mandated and cannot be cut, spending for example on Medicare and social security. So the burden falls on the relatively small amount of discretionary spending, which includes defence, infrastructure and education. There are tax increases too, for example the higher payroll taxes that came in last month, but arguably these are not well-designed either.

It is also an economic experiment, to determine how a fiscal squeeze affects the world's largest economy. First signs are that consumers in January ran down savings to offset the higher taxation. Incomes were down 3.6 per cent, but spending was up 0.2 per cent.

Real income – after inflation – fell by 4 per cent, the biggest decline since records began in 1959. Did you realise that this squeeze in the US is much harsher than anything we have experienced in the UK? As they say in New York, when the going gets tough the tough go shopping.