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Wall of Worry Holds Back Wave of Money

Irwin M. Stelzer

Wall Street has taken to thinking in terms of walls. There is a “wall of money” waiting to sweep into stock markets and into corporate investments if only investors could climb the “wall of worry” constructed by America’s politicians who can’t seem to put the nation’s finances in order.

There is little doubt that investors are sitting on the sidelines behind a wall of money.

Companies are hoarding billions here and abroad as they wait for some signal that the politicians can govern sensibly, and some indication of the costs they will face once the thousands of regulations being drafted are finalised.

Nor is there any doubt that businesses and consumers are facing a wall of worry or, more precisely, worries. To adapt Claudius’s lament, “when worries come, they come in battalions, the people muddied and unwholesome in their thoughts.” Some of these worries are justified, others are not.

Let’s start with realistic concerns. Ben Bernanke’s Federal Reserve Board is printing money at an unprecedented rate in order to keep interest rates low, and plans to keep doing so until the unemployment rate drops to at least 6.5%. The government is borrowing $40 for every $100 it spends (don’t try this at home), and the Fed is printing money with which to purchase the IOUs the government is issuing. Jeffrey Lacker, president of the Federal Reserve Bank of Richmond, fears that the Fed has gone too far and for no purpose: “Just throwing money at the economy is unlikely to solve the problems that are keeping a … worker from finding a good competitive job.”

Enter the bond vigilantes. At some point investors will decide, as they did in the case of Greece and some other eurozone countries, that the only way the American government can pay its debts is to print still more money, and repay its creditors with dollars worth far less than those it borrowed. At that point the interest rates they demand will shoot up, driving up mortgage rates, aborting the housing recovery, making it costly for consumers to use their credit cards and throwing the economy into recession. This is a legitimate worry, one that makes the rulers of our biggest creditor, China, more than a little nervous.

A second worry with a realistic basis is that what has come to be called “the new normal” for the American economy includes an irreducible unemployment rate of 7.5%, with all the social costs that implies. Even if the Fed target of 6.5% is attainable, some economists reckon that at the current rate of job growth and labour force participation, we won’t get to that target until 2020. Others guess that even if the economy grows at an annual rate of 2.25%—it is now growing at less than 2%—it will take 5.4 years to get the unemployment rate down to 6.5%. The importance of removing impediments to economic growth is demonstrated by a second computation: if the economy were to grow at a rate just one percentage point higher—3.25%—unemployment would drop to the Fed’s target in only 1.8 years.

A final and wholly realistic brick in the wall of worry relates to the regulatory and fiscal policies of the Obama administration. Its regulatory agencies have now filed their agendas for 2013: the new rules add up to tens of thousands of pages, with more to come for Obamacare and the Dodd-Frank financial reform law. These are not likely to stimulate growth or create jobs other than for bureaucrats. As for fiscal policy, the chances for compromise on taxes and spending are fading: the president says he won’t negotiate on raising the debt ceiling and that the rich must pay still more, the pips not yet having squeaked, at least not so that he can hear them; Republicans say no new taxes. And the president has nominated Jack Lew, a long-time adviser to the Democratic party and a recognised expert on budget matters, to replace Tim Geithner as Treasury secretary. Republicans find Lew abrasive, unbending, and given to storming out of meetings when there is opposition to his positions. Little prospect of policy peace in our time.

So there are things worth worrying about. But there are others that should not interfere with a good night’s sleep. One such is that America will default on its debt. Yes, by March the government will no longer be able to borrow unless Congress agrees to raise the debt ceiling, which Republicans say they will not do unless the president cuts spending, which he will not do unless the Republicans raise taxes, which they will not do. Or so they all say. But even if the government is forced to live on current tax receipts, it will have enough cash to cover interest payments 10 times over.

Nor need anyone worry that the government will be shut down by a Republican refusal to renew current spending authorisations. They tried that when the Clintons occupied the White House, and paid dearly at the polls.

Finally, in my view there is no need to worry that the economy will lapse into recession. The job market is improving. The recoveries in the housing market and car industry are accelerating. Technology and entrepreneurship are enabling America to tap huge new supplies of low-cost energy, attracting new manufacturing facilities that once located elsewhere, “reshoring” to use the popular phrase.

On the political front, the president has indicated a willingness to consider some reining in of entitlement spending, perhaps by slowing the cost-of-living escalator, perhaps by means testing some benefits, while Republicans have said they favour tax reform that would increase Treasury receipts without raising income tax rates. Perhaps these twain shall meet.

Most important is what Sharmin Mossavar-Rahmani of Goldman Sachs’ Investment Strategy Group notes in her just-released Outlook. The US has enormous “structural advantages:” abundant natural and human resources, the rule of law, a “magnet for … attracting highly educated talent … dominance in academic excellence at the university level … [and] in research and development.” And much more.

So worry if you must, but be selective.

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