Cash Influx Should Boost the Economy
November 11, 2002
by Irwin Stelzer
Damn the deficits, full speed ahead is our policymakers’ version of Admiral David Glasgow Farragut’s famous Civil War rallying cry, “Damn the torpedoes, full speed ahead,” after Confederate torpedoes (really, tethered mines) sunk his lead ship. We are about to see whether the combined effects of a simultaneous loosening of both monetary and fiscal policy can keep consumers spending, encourage businessmen to turn on the investment spigot, and boost the economy and share prices.
Start with monetary policy. When Federal Reserve Board chairman Alan Greenspan decided to shave another half-point off short-term interest rates, after staying his hand for almost a year, he had two things in mind. The first was that it is unwise to let deflation take hold, since Japan’s experience demonstrates that a deflationary spiral is difficult if not impossible to reverse with the standard weapons in the monetary policymaker’s arsenal. Nobel laureate Milton Friedman thinks Greenspan has it wrong, and that all he has to do should deflation rear its ugly head is print a lot of money. But Greenspan probably wonders how he would force consumers to spend the money, and fears that printing money might be what John Maynard Keynes described as “pushing on a string.” In the end, Greenspan chairs the Fed, and Friedman only has a chair at a think tank at Stanford, so rates were cut.
Greenspan’s second objective was to eliminate the “uncertainty” that many observers believe to be an important impediment to a further recovery in share prices, and a new round of business investment. So the Fed ended the guessing about what it would do about interest rates, and did so before the crucial Christmas shopping season.
It added to certainty by announcing that it now sees the risks facing the economy as evenly balanced between inflation and recession. This is the Fed’s way of signaling that it has decided that its latest interest-rate move will be its last for a good long while.
This rate cut will help to ensure that consumers have money in their pockets in the first quarter of 2003. Experts are expecting mortgage rates to follow the fed funds rate down, triggering another wave of refinancing. “Refis,” as they are known in the trade, lower homeowners’ monthly payments and put money into consumers’ wallets for use in the malls, car showrooms, and home furnishings shops. Because it takes anywhere from 60 to 90 days for banks to process homeowners’ requests for mortgage refinancing at lower rates, the new wave of refinancing that will be triggered by the Fed’s latest rate cuts should unleash a new flow of cash early in the new year.
That, along with the recent run-up in share prices, may be why there are hints in the latest surveys that consumer confidence began edging up in the latter part of last month, and why retail sales jumped over 3 percent in October after growing only 1.6 percent in September.
The rate-cut stimulus will undoubtedly be accompanied by a loosening of fiscal policy. President Bush, who continues to surprise those who engage in the dangerous sport of underestimating him—“misunderestimating” is the president’s word, a mangling of the language that brings sneers to the lips of his critics—now has control of both houses of Congress. This does not mean he will easily get all he wants from the legislative branch, since it takes 60 senators to end a filibuster, and the Republicans have only 51 seats in that chamber. But it means that senators loyal to the president—as that term is understood in political circles—will chair all of the committees, and set the agenda. Example: Joe Lieberman (Democrat, Connecticut), will turn the chair of the Senate Governmental Affairs Committee over to Susan Collins (Republican, Maine), ending that committee’s intensive investigations into the ties between top administration members and business interests, and refocusing it on passing the president’s homeland security bill.
Equally important, John Warner (Republican, Virginia) will replace Carl Levin (Democrat, Michigan) as chairman of the Armed Services committee, a change that is bringing smiles to the faces of defense contractors. Warner is sympathetic to Bush’s aggressive policy towards Iraq, and is less likely to blanch at the $50-$100 billion tab that a war aimed at regime change might involve.
Defense contractors are not the only ones expecting a loosening of the government purse strings. The White House now stands a good chance of getting its shambolic energy policy passed, with handouts to farmers who grow corn (corn-based ethanol is supposed to be a clean additive to petrol), and to generators of energy from wind, sun, and other renewable resources.
Other costs that are headed up include those associated with the president’s plan to help needy retirees pay for prescription drugs (cost: $320 billion over ten years), and his probable concession to Democratic demands for more generous treatment of those workers who have exhausted their unemployment insurance.
As expense go up, revenues will go down. The president is determined to make the tax cuts he pushed through soon after taking office permanent, rather than allowing them to expire in 2011. And there is talk in the White House mess of ending taxation of dividends, and increasing the amount of losses on share trading that investors can write off against their taxes. Such tax relief for higher earners will have to be accompanied by tax cuts for the middle class if the president is to avoid going into the 2004 elections as the candidate of the rich.
The higher spending and tax cuts will produce what political analyst Norm Ornstein calls “a serious financial crunch.” If deficit financing, the stimulus provided by the Fed, and the boost to construction projects that will come with the passage of the president’s terrorism insurance bill, don’t give the economy a boost, it is difficult to imagine what other weapons the government might deploy. Fortunately, none are likely to be needed.
This article appeared in London’s Sunday Times on November 10, 2002, and is reprinted with permission.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.