The Republican leaders have the upper hand in the debt ceiling negotiation.  From the Machiavellian perspective, this is totally expected.  The negotiation is a classic game of chicken in which a crazy player has an advantage.

Several of the most recent Nobel prizes in Economics have gone to people who worked in a discipline called Game Theory, the study of strategic decision making.  One of the great discoveries in Game Theory is that in some games, a player can give himself an advantage if he loses some control.  The classic advantage is the game of chicken, beloved of boys who have just earned their drivers permit.  In this game, two boys (girls seem to lack interest in this game) race toward each other in their cars.  To play the game correctly, both players should accelerate to top speed so that if they collide, they will be at least seriously injured. 

Each boy can choose from two strategies, tough-guy or chicken. To win the game of chicken, one player must swerve while the other player does not.  The player who swerves last is the winner, the tough guy.  The player who swerves first is the loser, the chicken.  If both boys swerve, they both are chicken, the game is a draw, and the members of the press, assembled at the road-side, jeer, and write unkind reviews of the contest.

The interesting insight from Game Theory is that a player that can credibly demonstrate that he lacks control and hence cannot swerve will win the game.  For example, one driver might ostentatiously throw his steering wheel out the window.  Onlookers may think that he is insane, but the demonstration forces the other driver to rethink his strategic choices.  The sane player can dismiss the possibility that the crazy player will choose the chicken strategy.  Having seen the crazy player’s steering wheel fly out the window, the sane player knows that he can no longer win the game or even play to a draw.  He must concede.  The sane player must be the chicken.  Of course, the same logic holds of one player can credibly demonstrate that he delusional enough to believe that nothing bad can happen even if there is a collision.  In a game of chicken, the crazy player has the advantage.

That is the situation with the debt ceiling negotiation. The Republican leadership can credibly claim that most of its members are crazy enough to believe that if the U.S. defaults, nothing very bad will happen.  Their claim is credible because the current composition of the House Republicans is the result of a long selection process that has weeded out its sane, moderate, conservative members.  This fact forces Democratic leaders to rethink their position.  They cannot win or even play the negotiation to a draw.  They must concede.

Game Theory models are never perfect; there are always minor complications.  For example, the game of chicken is not usually played with passengers in the car.  In the budget negotiation, unfortunately, we are all passengers.  However, that consideration does not seem to concern either party.  A more serious complication is that while a boy’s game of chicken simply ends when one boy swerves, the budget game can go on.  There are two consequences.

First, this is probably not a good time to balance the budget.  The country is just emerging from the worst recession since the Great Depression.  The damage was severe and correspondingly the recovery is slow. The received economic wisdom is that this is still a time for deficit spending and stimulus.  Balancing the budget now will probably choke off the recovery.  In light of the current debt problems in Europe and even with regional government debt in China, a balanced budget in the U.S. will probably increase the value of the dollar.  A strong dollar will raise the price of U.S. exports and exacerbate America’s trade deficit and increase unemployment.  Since these things will happen on Obama’s watch, he is likely to get the blame.  The Republicans need not worry about this side effect, but the Democrats must worry.

Second, this negotiation may establish a pattern.  If the President makes concessions on the debt ceiling negotiation, the Republican leadership will be emboldened to continue bullying him.

What should Obama do?  Some commentators, even one particularly intelligent one, argue that if Obama does not show that he is a tough guy and draw a line in the sand, he his presidency will suffer.   However, if he plays tough in this negotiation, he will cause a collision which will do irreparable harm to the nation and to his presidency.  I believe that he should bow to the inevitable logic of this game, but work to change the circumstances so that it does not recur.  

One of the President’s strengths is the he is capable of strategic reasoning.  Having found that the Republican Party can win this game of debt ceiling chicken, President Obama is not likely to allow them to play it again.  He will, most likely, hold out for a deal that either increases the debt ceiling automatically or makes cuts that are so deep that the ceiling will never again be an issue.

By holding out for a comprehensive solution, Obama can turn the public perception in his favor.  He can become the deficit hawk.  Once he has disposed of the deficit ceiling issue, the Republican’s can no longer bully him. He can then draw his line in the sand and use his veto power to enforce it.  However, for this round, the Republican leadership has already won.

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Demagogues’ Dilemma

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In his State of the Union message President Obama once again called for compromise and bipartisanship.   He is really asking the two parties to act irrationally. Read the rest of this entry »