The Obama Administration's Best Bet: Take the Common Sense Approach

The unifying theme in President George W. Bush's two terms was his wealth of self-assurance. He was certain he knew the answers. He stuck hard to the principles in which he believed. He had too much faith in the amen chorus with which he surrounded himself, and gave them too much free rein.

The cost was enormous. Year after year, casualties in Iraq grew while the war continued with no end in sight. Even as military expenditures rose sharply, taxes were dramatically cut with little thought seemingly given to the long term consequences. The federal deficit ballooned, but we were told to take comfort from the beneficial effects that would come from making the wealthy wealthier. The financial markets were provided with vast amounts of cheap credit, and given a deregulatory atmosphere in which to mainline it. Real estate was favored because, in defiance of economic reality, it supposedly would be the golden goose of legend, the asset that would never fall in value. Derivatives were given the Mother of all legal loopholes, which led to the stealth creation of a vast, multi-trillion dollar unregulated banking system that went unnoticed by regulators until it collapsed.

Absent from the picture was a decent measure of proportion, moderation, and common sense. Adherence to the administration's received truths took precedence over contact with reality. Apostates were banished and true believers drew closer together in the firmness of their beliefs.

The Bush Adminstration's rigidity was one of the main advantages Barack Obama had going into last fall's general election. The electorate had had its fill of closed-minded, inflexible wackiness that threw away lives and money. The voters wanted change.

They've gotten less than they might have hoped for. The Obama administration has generally followed the same approach in dealing with the financial and economic crises as their predecessors. There is momentary calm, but really big deficits loom and the real estate market's problems have been swept under the carpet instead of being resolved. Its health insurance reform proposal is being shouted down, with volume substituting for reason. The American war in Iraq is winding down (although the Iraqi war isn't). However, the American war in Afghanistan is ramping up, as is the American proxy war in Pakistan.

It's important for the Obama administration to take some big steps back from the extremes of the Bush administration's policies. That's what Barack Obama was elected to do. At the same time, it's important for him not to become caught up in new extremes. We need some common sense.

For health insurance reform, let's institute the Great American Compromise. Like all industrialized nations, America spent much of the 20th Century coming to grips with the harshness of capitalism. While the free enterprise system is wonderful for innovation and economic growth, it spawns great inequality of wealth that triggers social unrest. Not all of the 20th Century solutions for this problem worked well (see history of Nazi Germany and the Soviet Union for illustrative examples). However, the American solution was to establish safety nets: unemployment compensation for wage earners innocently caught in economic downdrafts, Social Security to alleviate the poverty of the elderly and those unable to work, Medicare and Medicaid, and various welfare programs. The free enterprise system was largely left unchanged. People kept their private property, pursued their personally chosen careers, and in many cases vigorously exercised their Constitutional right to cuss out the government.

It's clear that those with good health insurance coverage don't want to give it up for the sake of health insurance reform. Nor should they have to. The biggest need is for a safety net--basic health insurance for those who can't find a private insurer. We already have such a system--it's called Medicare in some manifestations and Medicaid in others. These programs were created to provide health insurance for the elderly and poor, who would generally be uninsured anyway. Allowing other uninsured people to participate wouldn't be a terribly difficult modification. Their premiums could be adjusted for their ability to pay--a laid-off Wall Street millionaire would pay fair market rates while a laid-off furniture worker in North Carolina would get a break. Sidestep all the mouth-frothing about a National Health Service or single payer system. Just extend the safety net.

In Afghanistan and Pakistan, the U.S. and its allies are largely fighting members of just one ethic group, the Pashtun. The membership of the Taliban consists primarily of Pashtuns. They have successfully partitioned off part of Pakistan for their own country within a country, and give sanctuary to Al Queda in keeping with longstanding Pashtun traditions of hospitality and refuge for visitors in need. The United States has no strong interest in fighting the Taliban or other Pashtuns. They did not attack the World Trade Center or the Pentagon (the mostly Arab Al Queda did that). The U.S. should open channels of communication with the Taliban and other Pashtun groups, making it clear that harboring Al Queda will result in robust U.S. military action, but that peace is attainable if the house guests take a hike. It may seem implausible that the Taliban would make a deal with America. But the Shiites in Iraq did just that during the recent surge, and gave Al Queda the boot from their country. We should focus on destroying Al Queda, not fighting people who have not sought to fight with us.

The really big looming deficits stem from both the Bush administration's unwavering belief that they could get a free lunch--finance a tremendously expensive war in Iraq while sharply cutting taxes while increasing Medicare benefits (with Medicare D, the prescription drug program)--and the Obama administration's stimulus package. Since some 80% of government spending consists of entitlements like Social Security and Medicare, the government can't cut its way out of the fiscal mess. It will have to increase tax collections. That's just common sense. Letting the Bush tax cuts lapse would be a simple way of doing that--they're built into the Bush legislation anyway so nothing needs to be pushed through an increasingly rancorous Congress. But not fixing the alternative minimum tax would be a mistake. The alternative minimum tax is the stupidest tax in the Internal Revenue Code, taking back what the regular tax structure allows and hitting the middle class whom Barack Obama promised to protect against tax increases. The AMT has long ceased to serve its intended purpose and should be repealed or permanently adjusted way upward to hit only the wealthy (and kept upward with an automatic annual inflation adjustment, like the regular tax structure). Maybe more taxes will ultimately be needed. But let's start with the simple thing and let the Bush tax laws take their prescribed course.

In terms of financial and economic policy, the government has thus far dodged the difficult problems (like toxic bank assets, the festering illness that remains in the housing market and the spreading illness in commercial real estate) and softened their impact with the Federal Reserve's printing presses and stimulus legislation. But those problems haven't gone away, and with the real estate market likely to stagnate for years, they won't go away by themselves. These losses--cleverly pushed by Bush administration policies into President Obama's stewardship--will have to be booked eventually. That process is happening already, with each Friday afternoon's announcements of the past week's tally of failed banks. We're up to 84 failed banks for this year already, and many more collapses are expected. Real estate losses and losses from toxic assets will be booked one way or another. The only question is how and when. The banking system won't resume large scale lending while these zombie assets remain on its books. And the Federal Reserve can't keep printing money; indeed, it's trying to figure out how to get all those printed dollars back. Resolving these problems won't be simple. But common sense tells us that we can't avoid them indefinitely, and allowing them to fester may well make things worse in the long run. Green shoots can be overcome by noxious weeds.

One final common sense point. It's time for the administration to ignore the stock market. There is a fin de siecle quality to the market. Upwards of 40% of last week's trading on the New York Stock Exchange was in 4 financial stocks: Citigroup, Bank of America, Fannie Mae and Freddie Mac. There's nothing publicly known about these four companies that justifies this much attention. AIG stock is up some 250% for the month of August to date. That's even weirder, considering that there's no news about AIG, except that the new CEO has reportedly had some conversations with a former CEO, Hank Greenberg. Some rumors have it that Greenberg might be thinking of buying AIG back. But let's recall that the U.S. government, through the SEC, just settled an enforcement lawsuit against Greenberg, charging him with responsibility for improper accounting. He agreed (without admitting or denying wrongdoing) to pay $15 million. Do we really think that the U.S. government, which effectively owns AIG, would sell the company back to a guy it just punished? And then there's GM stock, which has traded all summer at a positive price. That's looney. The publicly traded GM stock is for ownership in the residual company that's going to be liquidated. The U.S. government bailed out, Fiat affiliated company that is making the Chevy Volt isn't traded publicly at all right now. The common stock of the residual company is worthless. But apparently not to numerous buyers in the stock market.

The market rally has become increasingly concentrated in a few large cap stocks. This brings to mind the halcyon days of late 1999 and early 2000, just before the big tech stock collapse. The market rally of those days also became increasingly concentrated in a few big stocks. If that handful of stocks stumbled, then the house would be revealed to be made of collapsing cards. They did, and it was.

Day trading is becoming fashionable again. That's always a bad sign, because the least knowledgeable and most inexperienced traders tend to jump in just before indexes nose dive. The fact that corporate insiders are now selling about 30 times as much of their own companies' stock as they buy (as opposed to an average of 7 times sales to buys) is another hint that the salad days will be short-lived. If the smartest money is selling heavily, what's the logic to buying?

Of course, all presidential administrations deny that their policies are affected by the stock market. But there hasn't been one yet that doesn't scrutinize market indexes. If the Obama administration fixates on stock market movements, it will find itself straitened into dysfunction or adopting policies that exacerbate problems instead of cure them. At some point, common sense dictates that governments can't stop lunacy snd shouldn't try.