From the February 7, 2010 Sunday Times (London)
February 7, 2010
by Irwin Stelzer
Reality bites. President Barack Obama's economic policy has run smack into reality. Nobody believes he can keep spending to the huge levels he projects, or eventually lower the deficit, or persuade Congress to switch from profligacy to prudence, or ... well, you get the idea.
Worse still, even if you believe all of these things, the deficits projected by the president are simply unsustainable, and would drive the combination of federal, state and local government debt to well over 100% of GDP in 2020 — a level that most observers believe will stifle economic growth.
A new paper by Carmen Reinhart and Kenneth Rogoff, professors of economics at the University of Maryland and Harvard University, respectively, covers the experience of 44 countries over 200 years and concludes: "Our main finding is that across both advanced countries and emerging markets, high debt/GDP levels (90% and above) are associated with notably lower growth outcomes ... Seldom do countries simply 'grow' their way out of deep debt burdens."
Reality bared its teeth in several ways. Last Friday's jobs report did not show the hoped-for increase in hiring, but a further loss of 20,000 non-farm jobs.
That is a far lower rate of job loss than the 700,000 recorded in the early months of the Obama administration, and the unemployment rate did drop to 9.7%. But that decline was due largely to 366,000 more workers becoming so discouraged that they dropped out of the workforce. The ugly reality is that the estimate of the number of jobs lost since Obama moved into the White House has been revised upward from 7.2m to 8.4m; the number of long-term unemployed (27 weeks and more) has increased by 5m; and that even by the administration's own projections unemployment will remain high even during the president's second term, if he has one. Some of this the president inherited, but voters are increasingly of the view that the Obama administration, despite its wild spending, cannot create an atmosphere that will encourage employers to start hiring again.
Then came another brush with reality. Moody's Investors Service warned that the triple-A rating accorded America's sovereign debt will "at some point" come under pressure unless "measures are taken to reduce the budget deficit further or the economy rebounds more vigorously than expected". Neither seems likely. The administration's own projections call for deficits that are generally regarded as unsustainable for the next 10 years, rising again in 2019, long after Obama has gone. Our only hope is that the late Herbert Stein, a member of the Council of Economic Advisers under presidents Nixon and Ford, was right when he said: "If something cannot go on forever, it will stop."
The next bite from reality came from the Federal Reserve Board. It plans to end its $1.25 trillion mortgage-buying programme next month. With that much money being pulled out of the mortgage market, pessimists expect interest rates to jump and the modest recovery under way in the housing market to come to a screeching halt.
The fourth bite reality took out of the administration's recovery plan came from Europe. The rate of growth predicted for euroland, beset by concerns about mounting sovereign debt, is insufficient to suck in significantly more imports. But Obama has promised to double US exports in the next five years, "an increase that will support 2m jobs" reckons the president. How he will do that without getting Congress to ignore its trade-union masters and approve the trade agreements gathering dust in its in-box, and without persuading the Chinese to allow their currency to rise in value and abandon new restrictions on imports is nowhere explained.
Finally, reality has made nonsense of the administration's plans to stimulate the economy by making credit more available to the small- and medium-sized businesses that create most of the jobs. The problem seems to be less the unavailability of loans than the lack of demand. Banks say they are beating the bushes to find small companies that want to borrow, but can find few takers. Continued uncertainty over government policy on taxes, healthcare, energy costs and other matters makes entrepreneurs reluctant to borrow. "If we expect large changes but are very uncertain as to what precise form these changes will take, then our confidence will be weak," wrote John Maynard Keynes in 1936. That's as true today as it was then.
It might seem strange that with all of these negatives the short-term outlook is fairly good. The service and manufacturing sectors are expanding moderately. Inventory draw-downs have stopped, and businesses plan to increase stocks by 2.5% and capital spending by 9%, according to Financial Executives International.
Sales of existing homes in 2009 were 5% higher than in 2008, the first annual increase since 2005. It did take price cuts to get these houses sold, but sold they were. Prospects for the sale of new homes are sufficiently good that builders are emerging from their bunkers to bid for undeveloped land.
And along comes news from the usually gloomy National Retail Federation that its members are likely to enjoy a 2.5% increase in retail sales this year.
All of which has politicians confused. Republicans would like to attack the administration for failing to get the economy moving, but fear that the current recovery might gain steam and make them look foolish when the November elections roll around. After all, the economy seems to be growing at an annual rate of more than 5%, and that hot pace is expected to continue for most of this year.
But some analysts liken this performance to a "sugar high", fun while it lasts. The government is injecting huge sums into the economy, and the Fed is printing money at a rate that is a tribute to the capacity and speed of the Treasury's presses. If the markets say "enough", and the Chinese stop lending us money, we will come down from the high. It will be hangover time.
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.
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