The recovery continues to more of an L shape than a V shape.
No signs yet of whether we stay in the current soft spot or move back to 4% growth as most forecast for Q3
(The same 4% forecasts for Q1 and Q2 were continually revised down closer to 2%)
Category Archives: Deficit
Comment
Comment:
Side note: I called “on point” on NPR last week to challenge the guest viz his talk of US default, etc. The guy who manages the phone calls told me I don’t know anything about money, and that of course the debt crisis is just that and that the US could certainly default. He would not put my call on the air. The obstacles to getting the message out are everywhere.
US stimulus efforts curbed by deficit: Geithner
Leave it to Geithner to compound the absurdity in new directions:
US stimulus efforts curbed by deficit: Geithner
The massive US budget deficit means the United States will be unable to use deficit spending to stimulate the economy for many years to come, Treasury Secretary Timothy Geithner said Friday.
“It’s not going to be possible in the next decade. We’ve lost the chance,” Geithner told a conference in New Hampshire.
“We no longer have the luxury of that approach.”
Geithner said the $787 billion dollar economic stimulus passed in 2009 by Congress “was absolutely timely” but a temporary effort in response to the economic crisis.
“We’ll have at some point to pay that debt,” he said.
His comments come amid an impasse between the US administration and Republican lawmakers on curbing the budget deficit and lifting the debt ceiling to allow additional US borrowing.
The collapse of the talks on Thursday sparked fears that Congress will fail to raise the $14.29 trillion debt ceiling by an August 2 deadline and force the United States into a default which could trigger global economic shockwaves.
Currently, the US budget deficit is forecast to reach $1.6 trillion this year.
Majority Leader Eric Cantor (R-VA) regarding a balanced budget amendment
RIP
USA
:(
House Majority Leader Eric Cantor (R-VA) today issued the following statement regarding House consideration of a balanced budget amendment, H.J. Res. 1, sponsored by Congressman Bob Goodlatte:
“We are being asked by the Obama Administration to approve a debt limit increase. While President Obama inherited a bad economy, his overspending and failure to enact pro-growth policies have made it worse and now our national debt is currently more than $14 trillion. House Republicans have made clear that we will not agree to raise the debt limit without real spending cuts and binding budget process reforms to ensure that we don’t continue to max out the credit card. One option to ensure that we begin to get our fiscal house in order is a balanced budget amendment to the Constitution, and I expect to schedule such a measure for the House to consider during the week of July 25th. I have no doubt that my Republican colleagues will overwhelmingly support this common sense measure and I urge Democrats to as well in order to get our fiscal house in order.”
CBO Congressional Report- U.S. Could Face European-Style Debt Crisis
How about the accounts sticking to accounting.
Just in case you thought there was any hope:
But most ominously, the CBO report warns of a “sudden fiscal crisis” in which investors would lose faith in the U.S. government’s ability to manage its fiscal affairs. In such a fiscal panic, investors might abandon U.S. bonds and force the government to pay unaffordable interest rates. In turn, the report warns, Washington policymakers would have to win back the confidence of the markets by imposing spending cuts and tax increases far more severe than if they were to take action now.
U.S. Could Face European-Style Debt Crisis: Congressional Report
June 22 (AP) — The rapidly growing national debt could soon spark a European-style crisis unless Congress moves forcefully, the Congressional Budget Office warned Wednesday in a study that underscores the stakes for a bipartisan group working on a plan to reduce red ink.
Republicans seized on the non-partisan report to renew their push to reduce costs in federal benefit programs such as Medicare — the federal government health care program that benefits the elderly.
The report said the national debt, now $14.3 trillion, is on pace to equal the annual size of the economy within a decade. It warned of a possible “sudden fiscal crisis” if it is left unchecked, with investors losing faith in the U.S. government’s ability to manage its fiscal affairs.
Democrats and Republicans have been stepping up budget talks aimed at averting what could be the disastrous first-ever default on U.S. government debt. A bipartisan group led by Vice President Joe Biden tasked with reaching an agreement has not made the politically difficult compromises on the larger issues, such as changes in Medicare, or tax increases.
The study reverberated throughout the Capitol as Biden and negotiators and senior lawmakers spent several hours behind closed doors. The talks are aimed at outlining about $2 trillion in deficit cuts over the next decade, part of an attempt to generate enough support in Congress to allow the Treasury to take on new borrowing.
Biden made no comment as he departed, except to say the group would meet again on Thursday and probably Friday as well.
The CBO, the non-partisan agency that calculates the cost and economic impact of legislation and government policy, says the nation’s rapidly growing debt burden increases the probability of a fiscal crisis in which investors lose faith in U.S. bonds and force policymakers to make drastic spending cuts or tax increases.
“As Congress debates the president’s request for an increase in the statutory debt ceiling, the CBO warns of a more ominous credit cliff — a sudden drop-off in our ability to borrow imposed by credit markets in a state of panic,” said Republican House Budget Committee Chairman Paul Ryan.
The findings aren’t dramatically new, but the budget office’s analysis underscores the magnitude of the nation’s fiscal problems as negotiators struggle to lift the current $14.3 trillion debt limit and avoid a first-ever, market-rattling default on U.S. obligations. The Biden-led talks have proceeded slowly and are at a critical stage, as Democrats and Republicans remain at loggerheads over revenues and domestic programs like Medicare and Medicaid.
With Republicans insisting that the level of deficit cuts at least equal the amount of any increase in the debt limit, it would take more than $2 trillion in cuts to carry past next year’s elections. House Republican leaders have made it plain they only want a single vote before the elections.
That $2 trillion-plus goal is proving elusive. And a top Senate Democrat warned Wednesday that it would be insufficient anyway.
“While I am encouraged by the bipartisan nature of the leadership negotiations being led by Vice President Biden, I am concerned by reports the group may be focusing on a limited package that will not fundamentally change the fiscal trajectory of the nation,” said Senate budget Committee Chairman Kent Conrad, a Democrat. “That would be a mistake.”
Democratic leaders, however, held a news conference Wednesday to argue for more economic stimulus measures such as a proposal floated by the White House to extend a payroll tax cut enacted last year. The move demonstrates the continuing appeal of deficit-financed policy solutions — suggested even as warnings of the dangers of mounting debt grow louder and louder.
“We absolutely need to reduce our deficit. We know that,” said Demoratic Senate Majority Leader Harry Reid. “But economists tell us that reducing spending is only half the equation. The other half is measures to create jobs.
President Barack Obama planned to meet with House Democratic leaders Thursday to discuss the status of the deficit reduction talks. The meeting comes as Democrats want the president to rule out Medicare benefit cuts as part of any budget deal.
The White House said the meeting will address deficit reduction through a “balanced framework,” a term the White House uses to describe cuts in spending coupled with increased tax revenue.
With the fiscal imbalance requiring the government to borrow more than 40 cents of every dollar it spends, the CBO predicts that without a change of course the national debt will rocket from 69 percent of gross domestic product this year to 109 percent of GDP — the record set in World War II — by 2023.
The CBO’s projections are based on a scenario that anticipates Bush-era tax cuts are extended and other current policies such as maintaining doctors’ fees under Medicare are continued as well. The debt would be far more stable under the budget office’s official “baseline” that assumes taxes return to Clinton-era rates and that doctors absorb unrealistic fee cuts.
Economists warn that rising debt threatens to devastate the economy by forcing interest rates higher, squeezing domestic investment, and limiting the government’s ability to respond to unexpected challenges like an economic downturn.
But most ominously, the CBO report warns of a “sudden fiscal crisis” in which investors would lose faith in the U.S. government’s ability to manage its fiscal affairs. In such a fiscal panic, investors might abandon U.S. bonds and force the government to pay unaffordable interest rates. In turn, the report warns, Washington policymakers would have to win back the confidence of the markets by imposing spending cuts and tax increases far more severe than if they were to take action now.
Greece on the slippery slope
First, I think there isn’t enough political or popular support to leave the euro and go back to the drachma.
As previously discussed, it’s not obvious to the population or the political leadership that there is anything wrong with the euro itself.
Instead, it probably seems obvious the problem is the result of irresponsible leadership, and now they are all paying the price.
So staying with the euro, Greece has two immediate choices:
1. Negotiate the best austerity terms and conditions they can, and continue to muddle through.
2. Don’t accept them and default
Accepting the terms of the austerity package offered means some combination of spending cuts, tax hikes, assets sales, etc. that still leaves a sizable deficit for the next few years, with a glide path to some presumably sustainable level of deficit spending.
Defaulting means no more borrowing at all for most likely a considerable period of time, which means at least for a while they will only be able to spend the actual tax revenue they take in, which means immediately going to a 0 deficit.
What matters to Greece, on a practical level, is how large a deficit they are allowed to run. This makes default a lot more painful than any austerity package that allows for the funding of at least some size deficit.
Therefore it’s makes the most sense for Greece to accept the best package they can negotiate, rather than to refuse and default.
Additionally, the funding Greece will need to keep going is probably funding to pay for goods and services from Germany and some of the other euro member nations.
In other words, if Germany wants to get paid for its stream of exports to Greece it must approve some kind of funding package.
Reminds me of a an old story Woody Allen popularized a while back:
Doctor: So what’s the problem?
Patient: It’s my brother. He thinks he’s a chicken.
Doctor: Have you tried to talk to him about it?
Patient: No
Doctor: Why not?
Patient: Well, we need the eggs
Likewise the euro zone needs the eggs, and so the most likely path continues to be some manner of ECB funding of the banking system and the national govt’s, as needed, last minute, kicking and screaming about how they need an exit strategy, etc. etc. etc. And the unspoken pressure relief valve is inflation, with a falling euro leading the march. It’s unspoken because the ECB has a single mandate of price stability, which is not compatible with a continuously falling euro, and because a strong euro is an important part of the union’s ideology. But a weak euro that adjusts the price level, as a practical matter, is nonetheless the only pressure relief valve they have for their debt issues in general. And, also as previously discussed, it looks like market forces may be conspiring to move it all in that direction.
CNBC mention
Just got this email in comments section of my blog:
Warren,
You just got quoted by Steve Leisman on CNBC:
Leisman: “As Warren Mosler has said: ‘Because we think we may be the next Greece, we are turning ourselves into the next Japan’. ”
But I think based on other things he said he (Leisman) is still a bit out of paradigm… I’ll try to post up the link to the video hit later.. Resp,
Link to video.
Obama on deficit reduction and jobs
He has to tax where there is negative propensity to spend and cut where there is negative propensity to save.
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> On Thu, Jun 16, 2011 at 8:15 AM, Stephanie wrote:
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Obama’s White House Press Secretary says, ”Obama approaches the deficit talks with a “singular concern, which is that the outcome of the deficit reduction talks produce a result that significantly reduces the deficit while doing no damage to the economic recovery and no damage to our progress in creating jobs.”
Fed Chairman Ben S. Bernanke on Fiscal Sustainability
This is from the same Ben S. Bernanke that stated the Fed spends by using their computer to mark up numbers in bank accounts.
Now, by extension, he’d propose basketball stadiums have a reserve of points for their scoreboards to make sure the teams could get their scores when they put the ball through the hoop.
If he was a state Governor this would be a pretty good speech. But he’s not.
Comments below:
Bernanke Speech
At the Annual Conference of the Committee for a Responsible Federal Budget, Washington, D.C.
June 14, 2011
Fiscal Sustainability
I am pleased to speak to a group that has such a distinguished record of identifying crucial issues related to the federal budget and working toward bipartisan solutions to our nation’s fiscal problems.
Yes, we now have bipartisan support for deficit reduction. Good luck to us.
Today I will briefly discuss the fiscal challenges the nation faces and the importance of meeting those challenges for our collective economic future. I will then conclude with some thoughts on the way forward.
Fiscal Policy Challenges
At about 9 percent of gross domestic product (GDP), the federal budget deficit has widened appreciably since the onset of the recent recession in December 2007. The exceptional increase in the deficit has mostly reflected the automatic cyclical response of revenues and spending to a weak economy as well as the fiscal actions taken to ease the recession and aid the recovery. As the economy continues to expand and stimulus policies are phased out, the budget deficit should narrow over the next few years.
Both the Congressional Budget Office and the Committee for a Responsible Federal Budget project that the budget deficit will be almost 5 percent of GDP in fiscal year 2015, assuming that current budget policies are extended and the economy is then close to full employment.1 Of even greater concern is that longer-run projections that extrapolate current policies and make plausible assumptions about the future evolution of the economy show the structural budget gap increasing significantly further over time. For example, under the alternative fiscal scenario developed by the Congressional Budget Office, which assumes most current policies are extended, the deficit is projected to be about 6-1/2 percent of GDP in 2020 and almost 13 percent of GDP in 2030. The ratio of outstanding federal debt to GDP, expected to be about 69 percent at the end of this fiscal year, would under that scenario rise to 87 percent in 2020 and 146 percent in 2030.2 One reason the debt is projected to increase so quickly is that the larger the debt outstanding, the greater the budgetary cost of making the required interest payments. This dynamic is clearly unsustainable.
Unfortunately, even after economic conditions have returned to normal, the nation faces a sizable structural budget gap.
The nation’s long-term fiscal imbalances did not emerge overnight. To a significant extent, they are the result of an aging population and fast-rising health-care costs, both of which have been predicted for decades. The Congressional Budget Office projects that net federal outlays for health-care entitlements–which were 5 percent of GDP in 2010–could rise to more than 8 percent of GDP by 2030. Even though projected fiscal imbalances associated with the Social Security system are smaller than those for federal health programs, they are still significant. Although we have been warned about such developments for many years, the difference is that today those projections are becoming reality.
Up to hear he’s discussed the size of the debt with words like ‘unfortunate’ and ‘imbalances’ and finally we here why he believes this is all a bad thing:
A large and increasing level of government debt relative to national income risks serious economic consequences. Over the longer term, rising federal debt crowds out private capital formation and thus reduces productivity growth.
What? Yes, public acquisition of real goods and services removes those goods and services from the private sector. But this is nothing about that. This is about deficits reducing the ability of firms to raise financial capital to invest in real investment goods and services to keep up productivity.
The type of crowding out the chairman is warning about is part of loanable funds theory, which is applicable to fixed exchange rate regimes, not floating fx regimes. This is a very serious error.
To the extent that increasing debt is financed by borrowing from abroad, a growing share of our future income would be devoted to interest payments on foreign-held federal debt.
Yes, if the interest payments set by the Fed are high enough, that will happen. However it isn’t necessarily a problem, particularly with the foreign sector’s near 0% propensity to spend their interest income on real goods and services. Japan, for example, as yet to spend a dime of it’s over $1 trillion in dollar holdings accumulated over the last six decades, and china’s holdings only seem to grow as well. In fact, the only way paying interest on the debt could be a problem is if that interest income is subsequently spent in a way we don’t approve of, and it’s easy enough to cross that bridge when we come to it.
High levels of debt also impair the ability of policymakers to respond effectively to future economic shocks and other adverse events.
There is no actual, operational impairment to spend whatever they want whenever they want. Federal spending is not constrained by revenues, as a simple fact of monetary operations. The only nominal constraints on spending are political, and the only constraints on what can be bought are what is offered for sale.
Even the prospect of unsustainable deficits has costs, including an increased possibility of a sudden fiscal crisis.
Where does this come from??? Surely he’s not comparing the US govt, the issuer of the dollar, where he spends by using his computer to mark up numbers in bank accounts, to Greece, a user of the euro, that doesn’t ‘clear its own checks’ like the ECB and the Fed do?
As we have seen in a number of countries recently, interest rates can soar quickly if investors lose confidence in the ability of a government to manage its fiscal policy.
He is looking at Greece!
Although historical experience and economic theory do not show the exact threshold at which the perceived risks associated with the U.S. public debt would increase markedly, we can be sure that, without corrective action, our fiscal trajectory is moving the nation ever closer to that point.
‘That point’ applies to users of a currency, like Greece, the other euro members, US states, businesses, households, etc.
But it does not apply to issuers of their own currency, like the US, Japan, UK, etc.
Is it possible the Fed chairman does not know this???
Perhaps the most important thing for people to understand about the federal budget is that maintaining the status quo is not an option. Creditors will not lend to a government whose debt, relative to national income, is rising without limit; so, one way or the other, fiscal adjustments sufficient to stabilize the federal budget must occur at some point.
Again with the ‘some point’ thing. There is no ‘some point’ for issuers of their own currency, like Japan, who’s debt to GDP is maybe 200% and 10 year JGB’s are trading at 1.15%.
These adjustments could take place through a careful and deliberative process that weighs priorities and gives individuals and firms adequate time to adjust to changes in government programs and tax policies. Or the needed fiscal adjustments could come as a rapid and much more painful response to a looming or actual fiscal crisis in an environment of rising interest rates, collapsing confidence and asset values, and a slowing economy. The choice is ours to make.
Right, the sky is falling.
Achieving Fiscal Sustainability
As if we didn’t already and automatically have it as the issuer of the currency.
The primary long-term goal for federal budget policy must be achieving fiscal sustainability.
What happened to his dual mandates of low inflation and full employment? That’s just for the Fed, but not for budget policy?
Well, if you believe the sky is falling no telling what your priority would be.
A straightforward way to define fiscal sustainability is as a situation in which the ratio of federal debt to national income is stable or moving down over the longer term.
And what does ‘straightforward’ mean? The math is easy? Is that how to set goals for the nation?
This goal can be attained by bringing spending, excluding interest payments, roughly in line with revenues, or in other words, by approximately balancing the primary budget. Given the sharp run-up in debt over the past few years, it would be reasonable to plan for a period of primary budget surpluses, which would serve eventually to bring the ratio of debt to national income back toward pre-recession levels.
All arbitrary measures not tied down to real world consequences apart from being a defensive move to keep the sky from falling.
Fiscal sustainability is a long-run concept. Achieving fiscal sustainability, therefore, requires a long-run plan, one that reduces deficits over an extended period and that, to the fullest extent possible, is credible, practical, and enforceable. In current circumstances, an advantage of taking a longer-term perspective in forming concrete plans for fiscal consolidation is that policymakers can avoid a sudden fiscal contraction that might put the still-fragile recovery at risk.
A glimmer of hope here where he seems to recognize how fiscal adjustments alter the real economy. Unfortunately, with the sky about to fall, he has more important fish to fry.
At the same time, acting now to put in place a credible plan for reducing future deficits would not only enhance economic performance in the long run,
Right, so govt doesn’t crowd out private capital formation with a floating fx regime…
but could also yield near-term benefits by leading to lower long-term interest rates and increased consumer and business confidence.
Yes, long term rates would likely be lower, because markets, which anticipate Fed rate settings, would believe the economy would be weak for a very long time, and therefore the odds of rate hikes would be lower.
While it is crucial to have a federal budget that is sustainable,
Don’t want to crowd out that private capital that gets borrowed from banks where the causation runs from loans to deposits (there’s no such thing as banks running out of money to lend).
our fiscal policies should also reflect the nation’s priorities by providing the conditions to support ongoing gains in living standards and by striving to be fair both to current and future generations.
Living standards are best supported by full employment policy, which happens to be a Fed mandate, in case he’s forgotten.
Interesting question, does the Fed’s mandate extend to influencing policy through speeches as to what others should do, or is it just a mandate for monetary policy decisions?
In addressing our long-term fiscal challenges, we should reform the government’s tax policies and spending priorities so that they not only reduce the deficit, but also enhance the long-term growth potential of our economy–for example, by increasing incentives to work and to save, by encouraging investment in the skills of our workforce, by stimulating private capital formation, by promoting research and development, and by providing necessary public infrastructure.
Big fat fallacy of composition there. Especially from a Princeton professor who should know better.
We cannot reasonably expect to grow our way out of our fiscal imbalances, but a more productive economy will ease the tradeoffs that we face.
Making Fiscal Plans
It is easy to call for sustainable fiscal policies but much harder to deliver them. The issues are not simply technical; they are also closely tied to our values and priorities as a nation. It is little wonder that the debates have been so intense and progress so difficult to achieve.
Recently, negotiations over our long-run fiscal policies have become tied to the issue of raising the statutory limit for federal debt. I fully understand the desire to use the debt limit deadline to force some necessary and difficult fiscal policy adjustments, but the debt limit is the wrong tool for that important job. Failing to raise the debt ceiling in a timely way would be self-defeating
Maybe, but he’s just guessing.
if the objective is to chart a course toward a better fiscal situation for our nation.
The current level of the debt and near-term borrowing needs reflect spending and revenue choices that have already been approved by the current and previous Congresses and Administrations of both political parties. Failing to raise the debt limit would require the federal government to delay or renege on payments for obligations already entered into. In particular, even a short suspension of payments on principal or interest on the Treasury’s debt obligations could cause severe disruptions in financial markets and the payments system, induce ratings downgrades of U.S. government debt, create fundamental doubts about the creditworthiness of the United States, and damage the special role of the dollar and Treasury securities in global markets in the longer term.
All of which has happened to Japan, with no adverse consequences on the currency or interest rates, as is necessarily the case for the issuer of a non-convertible currency and floating exchange rate.
Interest rates would likely rise, slowing the recovery and, perversely, worsening the deficit problem by increasing required interest payments on the debt for what might well be a protracted period.3
Some have suggested that payments by the Treasury could be prioritized to meet principal and interest payments on debt outstanding, thus avoiding a technical default on federal debt. However, even if that were the case, given the current size of the deficit and the uneven time pattern of government receipts and payments, the Treasury would soon find it necessary to prioritize among and withhold critical disbursements, such as Social Security and Medicare payments and funds for the military.
Yes, as congress is well aware, to the point that it’s no longer about a debt default, but about a partial shutdown of the rest of the govt.
This has been yesterday’s speech. Congress has moved on from the risk of debt default to the risk of partial govt shutdown.
Moreover, while debt-related payments might be met in this scenario, the fact that many other government payments would be delayed could still create serious concerns about the safety of Treasury securities among financial market participants.
That doesn’t follow?
The Hippocratic oath holds that, first, we should do no harm. In debating critical fiscal issues, we should avoid unnecessary actions or threats that risk shaking the confidence of investors in the ability and willingness of the U.S. government to pay its bills.
Our reps take a different oath
In raising this concern, I am by no means recommending delay or inaction in addressing the nation’s long-term fiscal challenges–quite the opposite. I urge the Congress and the Administration to work in good faith to quickly develop and implement a credible plan to achieve long-term sustainability. I hope, though, that such a plan can be achieved in the near term without resorting to brinksmanship or actions that would cast doubt on the creditworthiness of the United States.
What would such a plan look like? Clear metrics are important, together with triggers or other mechanisms to establish the credibility of the plan. For example, policymakers could commit to enacting in the near term a clear and specific plan for stabilizing the ratio of debt to GDP within the next few years and then subsequently setting that ratio on a downward path.
Again, the falling sky trumps concerns over output and employment.
Indeed, such a trajectory for the ratio of debt to GDP is comparable to the one proposed by the National Commission on Fiscal Responsibility and Reform.4To make the framework more explicit, the President and congressional leadership could agree on a definite timetable for reaching decisions about both shorter-term budget adjustments and longer-term changes. Fiscal policymakers could look now to find substantial savings in the 10-year budget window, enforced by well-designed budget rules, while simultaneously undertaking additional reforms to address the long-term sustainability of entitlement programs.
In other words, cuts in the social security and Medicare budgets. This at a time of record excess capacity.
If only the sky wasn’t falling…
Such a framework could include a commitment to make a down payment on fiscal consolidation by enacting legislation to reduce the structural deficit over the next several years.
Conclusion
The task of developing and implementing sustainable fiscal policies is daunting, and it will involve many agonizing decisions and difficult tradeoffs. But meeting this challenge in a timely manner is crucial for our nation. History makes clear that failure to put our fiscal house in order will erode the vitality of our economy, reduce the standard of living in the United States, and increase the risk of economic and financial instability.
And what history might that be? There’s no such thing as a currency issuer ever not being able to make timely payment.
Madison sq garden will not run out of points to post on the scoreboard.
And check out the references. He relies on the information from the group he’s addressing:
References
Committee for a Responsible Federal Budget (2010). The CRFB Medium and Long-Term Baselines. Washington: CRFB, August.
Congressional Budget Office (2010). The Long-Term Budget Outlook. Washington: Congressional Budget Office, June (revised August).
National Commission on Fiscal Responsibility and Reform (2010). The Moment of Truth: Report of the National Commission on Fiscal Responsibility and Reform. Washington: NCFRR, December.
Zivney, Terry L., and Richard D. Marcus (1989). “The Day the United States Defaulted on Treasury Bills,” Financial Review, vol. 24 (August), pp. 475-89.
Comments on Summers latest
The deficit hawks have ripped the headline deficit doves to shreds.
The problem is the deficit doves, as previously discussed.
Again, here’s why:
How to avoid our own lost decade
By Lawrence Summers
June 12 (FT) — Even with the 2008-2009 policy effort that successfully prevented financial collapse, the US is now halfway to a lost economic decade. In the past five years, our economy’s growth rate averaged less than one per cent a year, similar to Japan when its bubble burst. At the same time, the fraction of the population working has fallen from 63.1 per cent to 58.4 per cent, reducing the number of those in jobs by more than 10m. Reports suggest growth is slowing.
True!
Beyond the lack of jobs and incomes, an economy producing below its potential for a prolonged interval sacrifices its future. To an extent once unimaginable, new college graduates are moving back in with their parents. Strapped school districts across the country are cutting out advanced courses in maths and science. Reduced income and tax collections are the most critical cause of unacceptable budget deficits now and in the future.
True!
You cannot prescribe for a malady unless you diagnose it accurately and understand its causes. That the problem in a period of high unemployment, as now, is a lack of business demand for employees not any lack of desire to work is all but self-evident, as shown by three points: the propensity of workers to quit jobs and the level of job openings are at near-record low; rises in non-employment have taken place among all demographic groups; rising rates of profit and falling rates of wage growth suggest employers, not workers, have the power in almost every market.
True!
A sick economy constrained by demand works very differently from a normal one. Measures that usually promote growth and job creation can have little effect, or backfire.
A ‘normal’ economy is one with sufficient demand for full employment, so there’s no particular need to promote even more demand.
When demand is constraining an economy, there is little to be gained from increasing potential supply.
True. The mainstream theory is that increased supply will lower prices so the same incomes and nominal spending will buy the additional output. But it doesn’t work because the lower prices (in theory) work to lower incomes to where the extra supply doesn’t get sold and therefore doesn’t get produced. And it’s all because the currency is a (govt) monopoly, and a shortage in aggregate demand can only be overcome by either a govt fiscal adjustment and/or a drop in non govt savings desires, generally via increased debt. And in a weak economy with weak incomes the non govt sectors don’t tend to have the ability or willingness to increase their debt.
In a recession, if more people seek to borrow less or save more there is reduced demand, hence fewer jobs. Training programmes or measures to increase work incentives for those with high and low incomes may affect who gets the jobs, but in a demand-constrained economy will not affect the total number of jobs. Measures that increase productivity and efficiency, if they do not also translate into increased demand, may actually reduce the number of people working as the level of total output remains demand-constrained.
True!
Traditionally, the US economy has recovered robustly from recession as demand has been quickly renewed. Within a couple of years after the only two deep recessions of the post first world war period, the economy grew in the range of 6 per cent or more – that seems inconceivable today.
True!
Why?
Inflation dynamics defined the traditional postwar US business cycle. Recoveries continued and sometimes even accelerated until they were murdered by the Federal Reserve with inflation control as the motive. After inflation slowed, rapid recovery propelled by dramatic reductions in interest rates and a backlog of deferred investment, was almost inevitable.
Not so true, but not worth discussion at this point.
Our current situation is very different. With more prudent monetary policies, expansions are no longer cut short by rising inflation and the Fed hitting the brakes. All three expansions since Paul Volcker as Fed chairman brought inflation back under control in the 1980s have run long. They end after a period of overconfidence drives the prices of capital assets too high and the apparent increases in wealth give rise to excessive borrowing, lending and spending.
Not so true, but again, I’ll leave that discussion for another day.
After bubbles burst there is no pent-up desire to invest. Instead there is a glut of capital caused by over-investment during the period of confidence – vacant houses, malls without tenants and factories without customers. At the same time consumers discover they have less wealth than they expected, less collateral to borrow against and are under more pressure than they expected from their creditors.
True!
Pressure on private spending is enhanced by structural changes. Take the publishing industry. As local bookstores have given way to megastores, megastores have given way to internet retailers, and internet retailers have given way to e-books, two things have happened. The economy’s productive potential has increased and its ability to generate demand has been compromised as resources have been transferred from middle-class retail and wholesale workers with a high propensity to spend up the scale to those with a much lower propensity to spend.
Probably has some effect.
What, then, is to be done? This is no time for fatalism or for traditional political agendas. The central irony of financial crisis is that while it is caused by too much confidence, borrowing and lending, and spending, it is only resolved by increases in confidence, borrowing and lending, and spending. Unless and until this is done other policies, no matter how apparently appealing or effective in normal times, will be futile at best.
Partially true. It’s all about spending and sales. We lost 8 million jobs almost all at once a few years back because sales collapsed. Businesses hire to service sales. So until we get sales high enough to keep everyone employed who’s willing and able to work we will have over capacity, an output gap, and unemployment.
The fiscal debate must accept that the greatest threat to our creditworthiness is a sustained period of slow growth.
NOT TRUE!!! And here’s where the headline deficit doves lose the battles and now the war. There is no threat to the credit worthiness of the US Government. We can not become the next Greece- there simply is no such thing for the issuer of its currency. Credit worthiness applies to currency users, not currency issuers.
Discussions about medium-term austerity need to be coupled with a focus on near-term growth.
There he goes again. This is the open door the deficit hawks have used to win the day, with both sides now agreeing on the need for long term deficit reduction. And in that context, the deficit dove position that we need more deficit spending first, and then deficit reduction later comes across as a ploy to never cut the deficit, and allow the ‘problem’ to compound until it buries us, etc.
Without the payroll tax cuts and unemployment insurance negotiated last autumn we might now be looking at the possibility of a double dip.
They certainly helped, and ending work for pay hurt, and even with whatever support that provided, we are still facing the prospect of a double dip.
Substantial withdrawal of fiscal stimulus at the end of 2011 would be premature. Stimulus should be continued and indeed expanded by providing the payroll tax cut to employers as well as employees.
True, except the extension to employers works to lower prices, as it lowers business costs. This is a good thing, but it adds to aggregate demand only very indirectly. To get it right, I’d suspend all FICA taxes to increase take home pay of those working for a living which will help sales and employment, and to cut business costs, which, in competitive markets, works to lower prices.
Raising the share of payroll from 2 per cent to 3 per cent is desirable, too. These measures raise the prospect of sizeable improvement in economic performance over the next few years.
True, as far as it goes. Too bad he reinforces the overhanging fears of deficit spending per se. You’d think he’d realize everyone would like to cut taxes, and that it’s the fears of deficit spending that are in the way…
At the same time we should recognize that it is a false economy to defer infrastructure maintenance and replacement,
True!
and take advantage of a moment when 10-year interest rates are below 3 per cent
Bad statement!!! This implies that if rates were higher it would make a difference with regards to our infrastructure needs during times of a large output gap, as it perpetuates the myths about the govt somehow being subjected to market forces with regard to its ability to deficit spend. Again, this mainstream deficit dove position only serves to support the deficit hawk fear mongering that’s won the day.
and construction unemployment approaches 20 per cent to expand infrastructure investment.
It is far too soon for financial policy to shift towards preventing future bubbles and possible inflation, and away from assuring adequate demand.
True! But, as above, he’s already defeated himself by reinforcing the fears of deficits and borrowing.
The underlying rate of inflation is still trending downwards and the problems of insufficient borrowing and investing exceed any problems of overconfidence. The Dodd-Frank legislation is a broadly appropriate response to the challenge of preventing any recurrence of the events of 2008. It needs to be vigorously implemented. But under-, not overconfidence is the problem, and needs to be the focus of policy.
Policy in other dimensions should be informed by the shortage of demand that is a defining characteristic of our economy. The Obama administration is doing important work in promoting export growth by modernising export controls, promoting US products abroad and reaching and enforcing trade agreements. Much more could be done through changes in visa policy to promote exports of tourism as well as education and health services. Recent presidential directives regarding relaxation of inappropriate regulatory burdens should also be rigorously implemented.
Too bad he’s turned partisan here, as I’m sure he’s aware of how exports are real costs, and imports real benefits, and how real terms of trade work to alter standards of living. So much for intellectual honesty…
Perhaps the US’ most fundamental strength is its resilience. We averted Depression in 2008/2009 by acting decisively. Now we can avert a lost decade by recognising economic reality.
First we need to recognize financial reality, and unfortunately he and the other headline deficit doves continue to provide the support for the deficit myths and hand it all over to the deficit hawks. Note that, as per the President, everything must be on the table, including Social Security and Medicare. To repeat, fearing becoming the next Greece is working to turn ourselves into the next Japan.
The writer is Charles W. Eliot University Professor at Harvard and former US Treasury Secretary. He is an FT contributing editor
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