Should the U.S. Take a Page Out of Hungary’s Playbook?

With the August 2nd U.S. debt ceiling deadline approaching, economists across the globe have offered up a variety of policy suggestions for the federal government.

One of the less common approaches came from Bretton Woods Research, which presented its case in a report to clients this afternoon, as follows:

We have seen credit rating downgrades worsen the economic policies of many countries, leading to a vicious economic circle. A downgrade leads to higher tax rates, which leads to even less government revenue and even larger budget deficits. One notable exception during the past year has been Hungary. Prime Minister Orban fully acknowledged that downgrades were likely in store for the country because of his government’s deficits. But he maintained that regardless of his government’s credit rating, there was no sustainable debt reduction policy outside of fostering and encouraging economic growth via tax cuts. When the downgrades did come, Hungarians understood that Hungary would not waver from its growth mandate and his government proceeded by January 2011 to slash tax rates on personal and corporate incomes and eliminated the estate tax. A similar farsightedness is required in Washington.

The danger is that Democrats could use a credit rating downgrade as a rallying point to break the Republican line on no new taxes, just as deficit fears caused Republicans to council for tax hikes in January 1982. To keep the growth mandate alive, Republican leadership is required to acknowledge the possibility of a ratings downgrade, and reasserting that such a scenario necessitates future tax reductions to revitalize economic growth. In other words, the GOP needs to get ahead of a possible downgrade by touting their pro-growth, tax-cut strategy as the most effective means of reducing default and credit rating concerns and of putting the U.S. on a sustainable long-term fiscal path.