Political Brinksmanship Still Threatens U.S. Economy

The Capitol dome is seen on Capitol Hill in Washington, Tuesday, Dec. 11, 2012, as Congress works on avoiding the fiscal cliff.
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"We're learning about how deep the impasse is," Harris says. "Both sides have decided that they were willing to go to the last minute."

Political gridlock has been rattling financial markets and shaking consumer and business confidence the past two years.

After a fight over raising the debt limit last year, the credit rating agency Standard & Poor's yanked the U.S. government's blue-chip AAA bond rating because it feared that America's dysfunctional political system couldn't deliver a credible plan to reduce the federal government's debt. S&P cited an overabundance of "political brinksmanship" and warned that "the differences between political parties have proven to be extraordinarily difficult to bridge."

The Dow Jones industrials dropped 635 points in panicked selling the first day of trading after the S&P announcement.

Outside Washington the economy has been getting some good news. Europe's financial crisis appears to have eased, reducing the threat of a renewed financial crisis. And the U.S. real estate market finally appears to be recovering from the housing bust.

But the old worries have been replaced by new ones about political gridlock, says Joseph LaVorgna, an economist at Deutsche Bank.

The partisan divide has left businesses and consumers wondering what's going to happen to their taxes and to federal contracts.

Companies have plenty of cash. But they reduced spending on industrial equipment, computers and software from July to September, the first quarterly drop since mid-2009 when the economy was still in recession. And hiring has been stuck at a modest level of about 150,000 new jobs per month this year.

"What we see is fear," says Darin Harris, chief operating for Primrose Schools, an Atlanta company with 250 franchised preschools in 17 states. He says franchise owners have been wary about investing in a second or third school until they know what tax rates are going to be and where government spending is headed. "All those things make our small business owners reluctant to reinvest."

Consumer confidence fell in December for the second straight month, according to a survey by the Conference Board, which blamed the drop on worries about the fiscal cliff. The uncertainty is also believed to have dinged holiday shopping, which grew at the slowest pace this year since 2008.

"Every kind of brinksmanship moment is a reminder to people to not trust the economy," Harris says.

Many economists are disappointed that Congress and the White House couldn't reach agreement on a broader deal that significantly reduces the deficit over the next 10 years. That could have boosted business and consumer confidence and accelerated growth .

No progress has been made on reforming the government's big entitlement programs, mainly Medicare and Social Security.

"Nothing really has been fixed," Lavorgna says. "There are much bigger philosophical issues that we aren't even addressing yet."

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