With the postponement of the House of Representatives' vote on repealing Obamacare twice in two days, one must ask whether the Republicans can govern. They control Congress and the White House, but they weren't able to fulfill one of their signature promises from last year's elections. Dissidents on the far right and in the moderate middle couldn't, for different reasons, sign up for the repeal measure. President Trump, drawing on his dealmaking experience in business, gave them a take it or leave it compromise--and they left it. In business, if you pass on a good deal and go for a great deal, you can blow the deal. But in politics, as Trump may be learning, you can often score points with your constituents by going for a great deal and losing the deal instead of compromising. Politicians get ahead by telling voters what they want to hear--indeed, that's how Donald Trump got himself elected President. But doing things that leave voters with mixed feelings--like compromising--places politicians at risk in the next round of primaries. It's better to look and sound good than doing anything that could leave you open to criticism.
Obamacare will now become a permanent part of the American landscape. Its essential features--universal access to coverage, subsidies or Medicaid for those unable to pay, no exclusion of pre-existing conditions, and substantial coverage of health problems--will form the foundation of American health insurance for the future. Surely, Obamacare will be modified over time. But Barack Obama's greatest legacy will live on.
For the Republicans, the Party of No, a more important question is whether they even understand what it takes to govern. It's necessary to compromise, and to take the heat from compromising. The Republican Party, like the Democratic Party, is a coalition. If coalition members don't work together, governance does not happen. The next great challenge for the Republicans will probably be the budget bill and tax reform, which will have to go hand-in-hand if the Republicans hope to accomplish everything they've promise. Their problem is they've made too many promises for the amount of tax revenues the federal government will collect. They can't boost defenses spending by $54 billion, build the Wall at the border with Mexico, cut corporate taxes, cut taxes for the wealthy (which is an unstated but obvious goal of theirs, given that the proposed repeal of Obamacare was more a bill to cut taxes on the wealthy than improve the health insurance system), and rebuild America's infrastructure, all at the same time. Something has to give. Either taxes are raised, federal deficit spending increases, and/or the Republicans give up on some of their goals. The Republicans will have to compromise to accomplish anything. But their failure to work out a compromise to repeal Obamacare does not portend well for their future.
Although virtually powerless right now, the Democrats must have gotten a lift today. Their fortunes have started to turn around. As devastating as their defeat in 2016 was, it's not the end of the world, or of their party.
Showing posts with label federal budget. Show all posts
Showing posts with label federal budget. Show all posts
Friday, March 24, 2017
Tuesday, February 28, 2017
Will Donald Trump Be a Traitor to His Class?
The most important legislative priorities of the Trump administration--tax and health insurance reform--will be enacted within a matter of months. Both of these measures will greatly impact the working class whites who propelled Trump to the White House--either for better or for worse.
Preliminary assessments of the proposed tax reform indicate that taxes for the middle class will drop about a couple hundred dollars. One percenters can look forward to many thousands in tax savings. This isn't exactly what folks in small town America were hoping for. To make up for the loss of income tax revenues from these cuts, the President may endorse a border adjustment tax (basically, a tariff on imports that would likely increase the prices of the inexpensive food and goods that low and moderate income Americans rely on). To many, this might feel like another kick in the teeth.
Health insurance reform is turning out to be a very tough nut to crack. President Trump has said he wants to preserve the protections that many low and moderate income Americans count on--guaranteed acceptance, coverage against pre-existing medical conditions, and subsidies for those unable to pay full freight. But these conditions are very expensive. How will the President cover the costs? There seems to be little consideration of progressive taxation of the wealthy or increasing the federal debt. Yet there's no free lunch. One possible "solution," so to speak, would be to offer low cost policies with skimpy coverage--prior medical conditions would be covered but total coverage might go only up to $25,000 or $50,000 a year. This would be expedient, but would effectively deprive people of coverage when they needed it the most.
On top of this, the President's desire to turn Medicaid into a program of block grants for the states has significant potential to reduce coverage for the low income. Many of these people voted for him. Where will they go for care without health insurance? Medicaid covers around 74 million Americans--almost 1 in 4. Cuts to this program could mean many millions of people mad at the President.
President Trump's problems are exacerbated by his proposal to increase military spending by $54 billion. Where will this money come from? The Republicans in Congress won't agree to more deficit spending. So the President can either raise taxes, or piss off many millions of voters by cutting other federal programs.
Donald Trump is President at a time when stark choices are necessary. He was elected as an insurgent. But he's stacked his cabinet with establishment Republican types, people who have no demonstrated concern or sympathy for his core constituents. The Republicans who control Congress gave him scant and faint-hearted support during his campaign. But today they stack the legislative agenda with bills that would make the rich richer and offer the working class hardly more than a crumb or two--and stale ones at that.
If the President really wants to help his constituents, he'll have to be a traitor to his class. He'll have to offer substantial improvements in life to the working class, and sorry to say, but wealthier people will have to pay for them. America got itself into its current mess by believing that somehow everyone can get more of everything all the time at no cost to anyone else. The last two large nations to subscribe to this notion--the Soviet Union and Communist China--had to abandon their illusions and now struggle with the consequences of the their wishful thinking.
Franklin Delano Roosevelt, the greatest President of the Twentieth Century, was labelled a traitor to his class. And he was. He endorsed legislation like Social Security and a strengthening of protections for workers and labor unions that uplifted many millions of ordinary Americans out of poverty and into the middle class. The cost was born to a large degree by a sharp increase in federal income taxes paid by the well-to-do. The rich grumbled and plotted against him. But he ushered in the prosperity of the 1950's and 1960's, now viewed as a golden age in America. America's perceived decline from those days also correspond with ever increasing inequality of wealth and income. If Donald Trump really wants to make America great again, he'll have to make it great for the working class. That isn't the direction he's been going in since his inauguration. The next few months, when his most consequential legislative initiatives will be enacted, will likely make him both a traitor--either to his core constituents or to his class--and a hero--to the wealthy, many of whom didn't support him but are glad to free-ride on his policies and program, or to the working class that vaulted him into office. The choice is his.
Preliminary assessments of the proposed tax reform indicate that taxes for the middle class will drop about a couple hundred dollars. One percenters can look forward to many thousands in tax savings. This isn't exactly what folks in small town America were hoping for. To make up for the loss of income tax revenues from these cuts, the President may endorse a border adjustment tax (basically, a tariff on imports that would likely increase the prices of the inexpensive food and goods that low and moderate income Americans rely on). To many, this might feel like another kick in the teeth.
Health insurance reform is turning out to be a very tough nut to crack. President Trump has said he wants to preserve the protections that many low and moderate income Americans count on--guaranteed acceptance, coverage against pre-existing medical conditions, and subsidies for those unable to pay full freight. But these conditions are very expensive. How will the President cover the costs? There seems to be little consideration of progressive taxation of the wealthy or increasing the federal debt. Yet there's no free lunch. One possible "solution," so to speak, would be to offer low cost policies with skimpy coverage--prior medical conditions would be covered but total coverage might go only up to $25,000 or $50,000 a year. This would be expedient, but would effectively deprive people of coverage when they needed it the most.
On top of this, the President's desire to turn Medicaid into a program of block grants for the states has significant potential to reduce coverage for the low income. Many of these people voted for him. Where will they go for care without health insurance? Medicaid covers around 74 million Americans--almost 1 in 4. Cuts to this program could mean many millions of people mad at the President.
President Trump's problems are exacerbated by his proposal to increase military spending by $54 billion. Where will this money come from? The Republicans in Congress won't agree to more deficit spending. So the President can either raise taxes, or piss off many millions of voters by cutting other federal programs.
Donald Trump is President at a time when stark choices are necessary. He was elected as an insurgent. But he's stacked his cabinet with establishment Republican types, people who have no demonstrated concern or sympathy for his core constituents. The Republicans who control Congress gave him scant and faint-hearted support during his campaign. But today they stack the legislative agenda with bills that would make the rich richer and offer the working class hardly more than a crumb or two--and stale ones at that.
If the President really wants to help his constituents, he'll have to be a traitor to his class. He'll have to offer substantial improvements in life to the working class, and sorry to say, but wealthier people will have to pay for them. America got itself into its current mess by believing that somehow everyone can get more of everything all the time at no cost to anyone else. The last two large nations to subscribe to this notion--the Soviet Union and Communist China--had to abandon their illusions and now struggle with the consequences of the their wishful thinking.
Franklin Delano Roosevelt, the greatest President of the Twentieth Century, was labelled a traitor to his class. And he was. He endorsed legislation like Social Security and a strengthening of protections for workers and labor unions that uplifted many millions of ordinary Americans out of poverty and into the middle class. The cost was born to a large degree by a sharp increase in federal income taxes paid by the well-to-do. The rich grumbled and plotted against him. But he ushered in the prosperity of the 1950's and 1960's, now viewed as a golden age in America. America's perceived decline from those days also correspond with ever increasing inequality of wealth and income. If Donald Trump really wants to make America great again, he'll have to make it great for the working class. That isn't the direction he's been going in since his inauguration. The next few months, when his most consequential legislative initiatives will be enacted, will likely make him both a traitor--either to his core constituents or to his class--and a hero--to the wealthy, many of whom didn't support him but are glad to free-ride on his policies and program, or to the working class that vaulted him into office. The choice is his.
Thursday, April 17, 2014
The Shrinking Deficit: a Plus for the Market
The federal deficit is projected by the Congressional Budget Office to be just under $500 billion this fiscal year (the year ending Sept. 30, 2014). (See http://www.cnbc.com/id/101581648.) That's a lot of money, but only one-third the deficit of five years ago. In other words, the deficit is lower by a trillion dollars, compared to half a decade ago. That's a whopping huge drop, which leaves this year's deficit at 2.8% of GDP, below its historical norm of 3%.
When deficits fall, the government competes less in the credit markets against private sector borrowers. This makes it easier for private interests to secure investment capital, a key predicate to economic growth.
Stocks tend to rise during periods of falling federal deficits. The late 1940s and the 1950s are one example. The 1990s are another. The fact that stocks have risen steadily from their 2009 lows indicates that we are in another period of falling deficits and rising stocks.
The future direction of the deficit is unclear. The CBO predicts that it will fall a bit more next year and then begin to rise. However, five years ago CBO didn't come close to predicting the deficit reduction we now have. The weird, dysfunctional cognitive dissonance that is today's federal governance somehow managed to produce this beneficial result. Who knows whether it might stumble its way to more good outcomes. If the deficit stays moderate (near 3%), the markets will probably benefit. While there are many other factors fueling volatility today, the federal deficit, improbably, isn't one of them.
When deficits fall, the government competes less in the credit markets against private sector borrowers. This makes it easier for private interests to secure investment capital, a key predicate to economic growth.
Stocks tend to rise during periods of falling federal deficits. The late 1940s and the 1950s are one example. The 1990s are another. The fact that stocks have risen steadily from their 2009 lows indicates that we are in another period of falling deficits and rising stocks.
The future direction of the deficit is unclear. The CBO predicts that it will fall a bit more next year and then begin to rise. However, five years ago CBO didn't come close to predicting the deficit reduction we now have. The weird, dysfunctional cognitive dissonance that is today's federal governance somehow managed to produce this beneficial result. Who knows whether it might stumble its way to more good outcomes. If the deficit stays moderate (near 3%), the markets will probably benefit. While there are many other factors fueling volatility today, the federal deficit, improbably, isn't one of them.
Sunday, December 22, 2013
Why the Economy Could Grow: the Peace Dividend
Contrary to the expectations of many economists and financial market professionals, the U.S. economy seems to be growing reasonably well. In the third quarter of 2013, growth was 4.1%. For a mature, industrial economy, a 4.1% rate is good. The Cassandras among pundits warn that it can't last. They could be right--but they also could be wrong.
When one looks at what would impel further growth, many of the usual suspects don't seem to be helping much. Business investment is tepid. Income growth in the aggregate is even more tepid. Only the the top few percent have no fear of the Grinch this Christmas. The federal government is reducing its spending growth--primarily due to sequestration, but even the new budget deal doesn't offer major spending increases. U.S. exports have been an economic bright spot the last few years, but America isn't an export driven nation and exports can't turn the economy around by themselves.
What, then, could be producing the growth? The Federal Reserve's accommodative policies no doubt play a role, although much of the case for reducing quantitative easing is that its marginal impact is diminishing, and very possibly evaporating. The Fed hasn't done anything lately to produce a growth spurt. Its primary role has been to keep a thumb in the dike until other forces cause the economy to perk up.
But one factor to bear in mind is that America may be starting to enjoy a peace dividend. The end of major wars is almost always followed by a period of prosperity. The Civil War was followed by the rapid growth of the Gilded Age. World War I was followed by the Roaring Twenties. World War II was followed by decades of prosperity. And the conclusion of the Cold War in 1990 was followed by the prosperity of the 1990s. Only the end of the Vietnam War wasn't followed by a growth spurt, and that might well be attributable to the oil price shocks administered by OPEC, which transferred a great deal of wealth to oil producers and away from the consumers who comprise two-thirds of the U.S. economy.
Even though America remains embroiled in seemingly never-ending conflict, we have a peace dividend in the offing. The war in Iraq is over. The war in Afghanistan is winding down. Although U.S. military and security personnel continue to confront challenges in the Middle East, Africa, Asia and Latin America, none of them involve the expenditure of hundreds of billions of dollars, as did the recent Iraq and Afghan wars. Large amounts of America's wealth that were being spent on weapons and fighting overseas can now be shelled out for double bacon cheeseburgers, big screen TVs, three-quarter ton pickup trucks, smart phones, Legos sets, kitchen re-modelings, really big cups of soda in New York City, vacuous tattoos, frisbees, pre-mixed cocktails, trips to Graceland, and doggie pedicures. And a lot of other stuff as well. Giving peace a chance could be the best federal economic policy of the times. Even though there surely will be ups and downs in the economy in the coming years, the peace dividend offers a powerful reason to hope for the best.
When one looks at what would impel further growth, many of the usual suspects don't seem to be helping much. Business investment is tepid. Income growth in the aggregate is even more tepid. Only the the top few percent have no fear of the Grinch this Christmas. The federal government is reducing its spending growth--primarily due to sequestration, but even the new budget deal doesn't offer major spending increases. U.S. exports have been an economic bright spot the last few years, but America isn't an export driven nation and exports can't turn the economy around by themselves.
What, then, could be producing the growth? The Federal Reserve's accommodative policies no doubt play a role, although much of the case for reducing quantitative easing is that its marginal impact is diminishing, and very possibly evaporating. The Fed hasn't done anything lately to produce a growth spurt. Its primary role has been to keep a thumb in the dike until other forces cause the economy to perk up.
But one factor to bear in mind is that America may be starting to enjoy a peace dividend. The end of major wars is almost always followed by a period of prosperity. The Civil War was followed by the rapid growth of the Gilded Age. World War I was followed by the Roaring Twenties. World War II was followed by decades of prosperity. And the conclusion of the Cold War in 1990 was followed by the prosperity of the 1990s. Only the end of the Vietnam War wasn't followed by a growth spurt, and that might well be attributable to the oil price shocks administered by OPEC, which transferred a great deal of wealth to oil producers and away from the consumers who comprise two-thirds of the U.S. economy.
Even though America remains embroiled in seemingly never-ending conflict, we have a peace dividend in the offing. The war in Iraq is over. The war in Afghanistan is winding down. Although U.S. military and security personnel continue to confront challenges in the Middle East, Africa, Asia and Latin America, none of them involve the expenditure of hundreds of billions of dollars, as did the recent Iraq and Afghan wars. Large amounts of America's wealth that were being spent on weapons and fighting overseas can now be shelled out for double bacon cheeseburgers, big screen TVs, three-quarter ton pickup trucks, smart phones, Legos sets, kitchen re-modelings, really big cups of soda in New York City, vacuous tattoos, frisbees, pre-mixed cocktails, trips to Graceland, and doggie pedicures. And a lot of other stuff as well. Giving peace a chance could be the best federal economic policy of the times. Even though there surely will be ups and downs in the economy in the coming years, the peace dividend offers a powerful reason to hope for the best.
Tuesday, November 26, 2013
Are We Stuck With a Powerless Government?
Despite its image as an overbearing ogre, the federal government may be largely powerless these days. The President has managed to undercut himself with an astonishingly bad non-launch of the federal health insurance exchange. Is there anyone in his administration with executive or management ability? Could anyone in his administration succeed as evening shift supervisor at the local McDonald's?
On the foreign policy front, the President managed to set his foot downrange and pull the trigger over Syria's use of poison gas. Only an embarrassing intervention by Russia prevented the President from a real morass of a morass. Now, the administration touts a deal with Iran to freeze its nuclear program, even though it can continue to enrich uranium to the 5% level. Not very frozen, but perhaps global warming is having an impact. One wonders whether this deal with Iran is a sign of strength or weakness on the part of the President.
Meanwhile, over on Capitol Hill, Congress remains essentially non-functional. The Democratically controlled Senate was able to approve the appointment of a few judges by changing its rules, although scowling Republicans made many dire and threatening predictions that the Dems would be sorry for doing this. Nothing like a love fest to make folks feel collegial. As for the federal budget and the debt ceiling, they aren't likely to trigger new crises, but will be resolved by kicking the can down the road.
The only institution that seems to be doing anything is the Federal Reserve. And even it may be losing some of its mojo. The most recently released minutes of the Open Market Committee meeting in October have been interpreted to mean that the Fed may be thinking about pulling back soon on quantitative easing. Antacid sales on Wall Street have jumped. If the efficacy of Fed money printing is diminishing, we may find ourselves in a public policy Sahara with very few water holes.
A powerful government can be scary. A powerless one can be scarier. The problem is this isn't a horror movie and we can't get up and leave the theater if we don't like the show.
On the foreign policy front, the President managed to set his foot downrange and pull the trigger over Syria's use of poison gas. Only an embarrassing intervention by Russia prevented the President from a real morass of a morass. Now, the administration touts a deal with Iran to freeze its nuclear program, even though it can continue to enrich uranium to the 5% level. Not very frozen, but perhaps global warming is having an impact. One wonders whether this deal with Iran is a sign of strength or weakness on the part of the President.
Meanwhile, over on Capitol Hill, Congress remains essentially non-functional. The Democratically controlled Senate was able to approve the appointment of a few judges by changing its rules, although scowling Republicans made many dire and threatening predictions that the Dems would be sorry for doing this. Nothing like a love fest to make folks feel collegial. As for the federal budget and the debt ceiling, they aren't likely to trigger new crises, but will be resolved by kicking the can down the road.
The only institution that seems to be doing anything is the Federal Reserve. And even it may be losing some of its mojo. The most recently released minutes of the Open Market Committee meeting in October have been interpreted to mean that the Fed may be thinking about pulling back soon on quantitative easing. Antacid sales on Wall Street have jumped. If the efficacy of Fed money printing is diminishing, we may find ourselves in a public policy Sahara with very few water holes.
A powerful government can be scary. A powerless one can be scarier. The problem is this isn't a horror movie and we can't get up and leave the theater if we don't like the show.
Friday, March 8, 2013
Political Risks of Social Insecurity
The financial press has reported that the United States ranks 19th worldwide in the retirement security, lagging behind Slovenia, the Czech Republic and Slovakia, among other nations. http://www.cnbc.com/id/100534205. We're one step ahead of Britain, but well behind France and Germany. The Scandinavian countries rank at the top, along with Switzerland, Austria, the Netherlands and tiny Luxembourg. Even Japan, after more than two decades of economic malaise, ranks 15th, four steps higher than America.
This probably doesn't surprise many Americans, particularly those who are approaching or in retirement. They have probably already viscerally sensed their comparative insecurity. Herein lies great risk for politicians who would reduce America's social safety net. Our net is modest compared to the protections offered by most of the industrialized world. If it's cut, the pain--particularly for moderate and lower income Americans--could be pronounced. It's one thing if your retirement benefits may not cover as many restaurant meals as you would like. It's another if your cost of living increase is so paltry that you can't afford needed prescription medications.
That we have a fiscal imbalance is because our taxes are even lower on a comparative basis. (See http://usatoday30.usatoday.com/money/perfi/taxes/2009-11-25-oecd25_ST_N.htm.) America could without enormous pain pay for its current social safety net without having to borrow. We just don't want the taxes it would take to get there.
Many politicians in Washington sound off about cutting Social Security and Medicare benefits. This isn't just Republicans. President Obama has been quick to offer reductions in Social Security. One is to change the Social Security inflation adjustment from the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) to the Personal Consumption Price Expenditures Index (PCE). The effect of this change would to gradually erode the relative value of Social Security benefits, with the most elderly being the hardest hit over time. Is is really a good thing to whack the most vulnerable, who may have exhausted their savings and be unable to work?
Consciously or subconsciously, Americans know that their retirement benefits aren't great. And many of them won't be happy with politicians who make their retirements bleaker. If the President and the Republicans somehow reach a Grand Bargain to stabilize or even balance the budget, the political impact may surprise them. As Republicans clumsily attempt to embrace diversity, their core of older, white Americans may abandon them if they lead the charge to cut retirement benefits. President Obama, instead of being viewed as a latter day FDR, may end up appearing to fall into the mold of Herbert Hoover. And the liberal left, annoyingly shrill as they can sometimes be, may end up inheriting the White House in 2016.
This probably doesn't surprise many Americans, particularly those who are approaching or in retirement. They have probably already viscerally sensed their comparative insecurity. Herein lies great risk for politicians who would reduce America's social safety net. Our net is modest compared to the protections offered by most of the industrialized world. If it's cut, the pain--particularly for moderate and lower income Americans--could be pronounced. It's one thing if your retirement benefits may not cover as many restaurant meals as you would like. It's another if your cost of living increase is so paltry that you can't afford needed prescription medications.
That we have a fiscal imbalance is because our taxes are even lower on a comparative basis. (See http://usatoday30.usatoday.com/money/perfi/taxes/2009-11-25-oecd25_ST_N.htm.) America could without enormous pain pay for its current social safety net without having to borrow. We just don't want the taxes it would take to get there.
Many politicians in Washington sound off about cutting Social Security and Medicare benefits. This isn't just Republicans. President Obama has been quick to offer reductions in Social Security. One is to change the Social Security inflation adjustment from the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) to the Personal Consumption Price Expenditures Index (PCE). The effect of this change would to gradually erode the relative value of Social Security benefits, with the most elderly being the hardest hit over time. Is is really a good thing to whack the most vulnerable, who may have exhausted their savings and be unable to work?
Consciously or subconsciously, Americans know that their retirement benefits aren't great. And many of them won't be happy with politicians who make their retirements bleaker. If the President and the Republicans somehow reach a Grand Bargain to stabilize or even balance the budget, the political impact may surprise them. As Republicans clumsily attempt to embrace diversity, their core of older, white Americans may abandon them if they lead the charge to cut retirement benefits. President Obama, instead of being viewed as a latter day FDR, may end up appearing to fall into the mold of Herbert Hoover. And the liberal left, annoyingly shrill as they can sometimes be, may end up inheriting the White House in 2016.
Thursday, February 28, 2013
No Fiscal Discipline in the Stock Market
As the federal government belly flops into sequestration, the stock market merrily rolls along. Europe is sinking into recession, an inevitable result of its austerity and deleveraging policies. Japan is in recession, and has pledged to worship at the altar of monetary accommodation in an effort to revive its economy. American consumers are creeped out by continued government dysfunction, continued economic dysfunction and an increase in Social Security taxes. Retailers are reaching for the little paper bag in the seatback on front of them. But stocks are delirious.
Of course, it's all because Federal Reserve Chairman Ben Bernanke yesterday swore up and down that central bank accommodation is next to godliness, or something to that effect. If the most powerful agency in the United States government promised to subsidize you indefinitely, you'd be delirious, too.
By ignoring real world problems, and flying high on the Fed's fiat paper meth lab, the market is letting Congress off the hook. Without someone or something twisting their arms behind their backs, the members of Congress have little or no incentive to get real and work out the nation's fiscal problems. The stock market has the leverage to make Congress devote its full attention to a problem. In the fall of 2008, when the financial system teetered on the brink, Congress voted down a rescue package. The market promptly nosedived, and squashed 401(k) accounts from sea to shining sea. Constituents deluged Congressional offices with negative commentary (that's putting it mildly). Congress immediately reversed course and enacted the TARP rescue legislation.
Today, however, fed by the Fed with printed money, the market romps. Congress fiddles. And the rest of us get nervous about the smell of smoke that waffles through the air. By not holding Congress accountable, the market enables government dysfunction. The market can be quite effective when it imposes discipline. But an undisciplined market is scary.
Of course, it's all because Federal Reserve Chairman Ben Bernanke yesterday swore up and down that central bank accommodation is next to godliness, or something to that effect. If the most powerful agency in the United States government promised to subsidize you indefinitely, you'd be delirious, too.
By ignoring real world problems, and flying high on the Fed's fiat paper meth lab, the market is letting Congress off the hook. Without someone or something twisting their arms behind their backs, the members of Congress have little or no incentive to get real and work out the nation's fiscal problems. The stock market has the leverage to make Congress devote its full attention to a problem. In the fall of 2008, when the financial system teetered on the brink, Congress voted down a rescue package. The market promptly nosedived, and squashed 401(k) accounts from sea to shining sea. Constituents deluged Congressional offices with negative commentary (that's putting it mildly). Congress immediately reversed course and enacted the TARP rescue legislation.
Today, however, fed by the Fed with printed money, the market romps. Congress fiddles. And the rest of us get nervous about the smell of smoke that waffles through the air. By not holding Congress accountable, the market enables government dysfunction. The market can be quite effective when it imposes discipline. But an undisciplined market is scary.
Friday, December 7, 2012
Will Stocks Drop Over the Cliff?
The stock market has been eerily calm in spite of all the sturm und drang over the fiscal cliff. After a brief sell-off following President Obama's re-election, the Dow Jones Industrial Average has treaded water right around the 13,000 mark. Evidently, the market believes the anonymously leaked assurances from both the Republican and Democratic sides that a deal on the fiscal cliff will be reached. And, rationally speaking, that should happen. So maybe the market is justified in its equanimity.
But is it? Looking back at the most recent comparable instance of fiscal dysfunction, the 2011 debt ceiling scrum, we find that "resolution" of the political problem was followed by a drop in the market.
The debt ceiling fight simmered until June and July 2011, when all hell broke loose and records were set for political dysfunction in Washington. Only at the last minute, on August 2, 2011, was a deal to lift the debt ceiling finalized and approved by Congress. The Dow, which floated around in the 12,000s during July, fell below 11,000 within a week. One might have thought that resolution of the debt ceiling battle would produce a market rally. But, no, just the reverse happened.
The debt ceiling fight revealed the depths of America's political dysfunction. Standard & Poor's cut America's credit rating on August 5, 2011. The future looked, if anything, more uncertain than before the debt ceiling crisis. The resolution to the debt ceiling problem was to kick the can down the road, and defer confronting the government's tax and spending issues until after the November 2012 elections. Stalling and delaying isn't the kind of thing to inspire investors. The market's frothiness before the deal and its drop after the deal seemed like a classic case of buy on the rumor and sell on the news.
Well, that may be where we are headed today. There are plenty of nice sounding rumors being floated by politicians who have plenty of incentive to shade the truth. Reality is that whatever compromise the Republicans and Democrats reach on the fiscal cliff will surely be ugly. The pie is too small to be apportioned in a way that will make many, if any, happy. With the "resolution" to the fiscal cliff likely to make most of the nation grumpy, stocks aren't likely to be exuberant. Whatever you do, don't bet on politics to produce investment gains.
But is it? Looking back at the most recent comparable instance of fiscal dysfunction, the 2011 debt ceiling scrum, we find that "resolution" of the political problem was followed by a drop in the market.
The debt ceiling fight simmered until June and July 2011, when all hell broke loose and records were set for political dysfunction in Washington. Only at the last minute, on August 2, 2011, was a deal to lift the debt ceiling finalized and approved by Congress. The Dow, which floated around in the 12,000s during July, fell below 11,000 within a week. One might have thought that resolution of the debt ceiling battle would produce a market rally. But, no, just the reverse happened.
The debt ceiling fight revealed the depths of America's political dysfunction. Standard & Poor's cut America's credit rating on August 5, 2011. The future looked, if anything, more uncertain than before the debt ceiling crisis. The resolution to the debt ceiling problem was to kick the can down the road, and defer confronting the government's tax and spending issues until after the November 2012 elections. Stalling and delaying isn't the kind of thing to inspire investors. The market's frothiness before the deal and its drop after the deal seemed like a classic case of buy on the rumor and sell on the news.
Well, that may be where we are headed today. There are plenty of nice sounding rumors being floated by politicians who have plenty of incentive to shade the truth. Reality is that whatever compromise the Republicans and Democrats reach on the fiscal cliff will surely be ugly. The pie is too small to be apportioned in a way that will make many, if any, happy. With the "resolution" to the fiscal cliff likely to make most of the nation grumpy, stocks aren't likely to be exuberant. Whatever you do, don't bet on politics to produce investment gains.
Wednesday, November 28, 2012
Political Risks of the Fiscal Cliff
Who faces the greatest political risks from the fiscal cliff? It ain't the Democrats. They could do nothing, and watch the pre-Bush tax rates go back into effect in 2013. While this would have a near term negative impact on consumer spending, it would lower the federal deficit. That would promote long term economic growth. The President would take some heat for the economic slowdown, but the Democrats would have four years to recover before facing the 2016 Presidential election. By then, the economy might well be improving.
If there is a deal on the fiscal cliff, it would probably include some cuts to Medicare and Medicaid, and perhaps to Social Security (although the latter is less likely, since Social Security is actually much less of a fiscal problem and more visible to the voting public). The Democrats would blame these cuts on Republican insistence (of which there is plenty). Meanwhile, the Democrats would take credit for whatever tax increases or enhancements or whatever else would be part of the deal, which probably would fall more heavily on the rich than the 99%.
The Republican insistence on no tax rate increases allows President Obama to replay his winning electoral strategy of advocating tax increases for the rich. Republicans believe too much in their own P.R., that all taxes increases are invariably bad and that spending cuts would somehow be made to prevent taxes from increasing. A majority of the electorate thinks otherwise, and the Republicans conceded these voters (let's call them the 51%) to President Obama.
The baseline problem with the Bush tax cuts is that they reduce federal revenues to the point where Social Security and Medicare--the two most sacred bovines of American politics--are imperiled. It's one thing to attack federal funding of bridges leading to nowhere. It's another to take away bread and butter from the elderly. Republicans have managed to put themselves in a corner where they seek to protect low taxes for the wealthy while trying to squeeze pensioners having modest incomes. They ultimately can't protect the wealthy from a tax increase--the Democrats can do nothing and those increases will take effect at midnight, Jan. 1, 2013. But the Republicans can manage to look like Scrooge during the Christmas season as they advocate cuts for moderate income retirees. Politically, it won't be the Democrats who tumble over the fiscal cliff.
If there is a deal on the fiscal cliff, it would probably include some cuts to Medicare and Medicaid, and perhaps to Social Security (although the latter is less likely, since Social Security is actually much less of a fiscal problem and more visible to the voting public). The Democrats would blame these cuts on Republican insistence (of which there is plenty). Meanwhile, the Democrats would take credit for whatever tax increases or enhancements or whatever else would be part of the deal, which probably would fall more heavily on the rich than the 99%.
The Republican insistence on no tax rate increases allows President Obama to replay his winning electoral strategy of advocating tax increases for the rich. Republicans believe too much in their own P.R., that all taxes increases are invariably bad and that spending cuts would somehow be made to prevent taxes from increasing. A majority of the electorate thinks otherwise, and the Republicans conceded these voters (let's call them the 51%) to President Obama.
The baseline problem with the Bush tax cuts is that they reduce federal revenues to the point where Social Security and Medicare--the two most sacred bovines of American politics--are imperiled. It's one thing to attack federal funding of bridges leading to nowhere. It's another to take away bread and butter from the elderly. Republicans have managed to put themselves in a corner where they seek to protect low taxes for the wealthy while trying to squeeze pensioners having modest incomes. They ultimately can't protect the wealthy from a tax increase--the Democrats can do nothing and those increases will take effect at midnight, Jan. 1, 2013. But the Republicans can manage to look like Scrooge during the Christmas season as they advocate cuts for moderate income retirees. Politically, it won't be the Democrats who tumble over the fiscal cliff.
Sunday, November 20, 2011
Why the Congressional Supercommittee Can't Reach a Budget Deal
Today, news services report that the Congressional supercommittee tasked with the responsibility for reaching a $1.2 trillion budget deficit reduction deal has a snowball's chance in a convection oven of success. That's really not surprising. Even though last summer's debt ceiling debacle taught every member of Congress that fooling around with the federal government's financial standing is reckless, the problem is that the American electorate doesn't want a deal. We have a Democratic President and Senate, and a Republican House. We want fiscal stimulus to combat with the nation's economic woes, but we also want fiscal conservatism to constrain long term debt growth. In other words, we want to have it both ways. That's not how to reach the compromises needed for a deficit deal. That's a formula for failure.
Look at California. The Golden State is the home of the no new taxes movement. In 1978, an amendment to the California Constitution severely limiting real estate taxes was approved by the state's voters in a referendum called Proposition 13. The antitax sentiment that propelled Proposition 13 to success set down deep roots in the state, and today California is a fiscal mess. Voters want good public services and schools. But they don't want to pay for them. To accommodate voters that want to have it both ways, California's state and local governments made fools of themselves with budgetary and borrowing shenanigans that accomplished little except kick the can down the road while schools and other public services deteriorated. Everyone--voters, politicians, public sector unions, and government employees--are to blame. There's no meaningful solution in sight. California has governmental gridlock that makes the federal government look somewhat functional even on bad days.
California, first in so many trends, will be America's fiscal future, unless we make up our minds to grow up. We have to pay for what we want, which could mean raising taxes. We also have to live within our means, which could mean cutting back on federal expenditures. We have to elect a government that can and will make decisions. But today, in Washington and across the nation, we are a house divided. That does not portend well for the future.
Of course, if there is no debt deal and the financial markets panic, all eyes will turn toward the Federal Reserve. This moment, if it occurs, will reveal the fallacy in the Federal Reserve's policy of endless accommodation. Because the Fed has been there when everything else failed, everyone now assumes that the Fed will always be there for us. Neither Congress nor the President have the incentive to actually do anything. Doing things in Washington necessarily means you will make enemies. And elected politicians always prefer to avoid making enemies. So it's better to do nothing and wait for the appointed officials and career civil servants at the Fed bail us out, because we know they will try. Of course, a few disheveled Cassandras foam at the mouth about moral hazard and the limitations of monetary policy. But ebullient pronouncements by inflation doves on the Federal Reserve Board allow the rest of the government to hear what it wants to hear and rationalize inaction. So Washington bubbles along, believing six impossible things before breakfast, and peering through the looking glass for the imminent arrival of prosperity that won't cost us anything.
Look at California. The Golden State is the home of the no new taxes movement. In 1978, an amendment to the California Constitution severely limiting real estate taxes was approved by the state's voters in a referendum called Proposition 13. The antitax sentiment that propelled Proposition 13 to success set down deep roots in the state, and today California is a fiscal mess. Voters want good public services and schools. But they don't want to pay for them. To accommodate voters that want to have it both ways, California's state and local governments made fools of themselves with budgetary and borrowing shenanigans that accomplished little except kick the can down the road while schools and other public services deteriorated. Everyone--voters, politicians, public sector unions, and government employees--are to blame. There's no meaningful solution in sight. California has governmental gridlock that makes the federal government look somewhat functional even on bad days.
California, first in so many trends, will be America's fiscal future, unless we make up our minds to grow up. We have to pay for what we want, which could mean raising taxes. We also have to live within our means, which could mean cutting back on federal expenditures. We have to elect a government that can and will make decisions. But today, in Washington and across the nation, we are a house divided. That does not portend well for the future.
Of course, if there is no debt deal and the financial markets panic, all eyes will turn toward the Federal Reserve. This moment, if it occurs, will reveal the fallacy in the Federal Reserve's policy of endless accommodation. Because the Fed has been there when everything else failed, everyone now assumes that the Fed will always be there for us. Neither Congress nor the President have the incentive to actually do anything. Doing things in Washington necessarily means you will make enemies. And elected politicians always prefer to avoid making enemies. So it's better to do nothing and wait for the appointed officials and career civil servants at the Fed bail us out, because we know they will try. Of course, a few disheveled Cassandras foam at the mouth about moral hazard and the limitations of monetary policy. But ebullient pronouncements by inflation doves on the Federal Reserve Board allow the rest of the government to hear what it wants to hear and rationalize inaction. So Washington bubbles along, believing six impossible things before breakfast, and peering through the looking glass for the imminent arrival of prosperity that won't cost us anything.
Thursday, July 28, 2011
A Glimmer of Hope for a Debt Ceiling Deal
As the House of Representatives struggles tonight to hold a futile, symbolic vote on Speaker John Boehner's debt ceiling proposal--which the Senate will reject, so the vote achieves nothing except to throw more mud at the other side--there is a glimmer of hope for a resolution. It comes not from a smoke filled room on Capitol Hill, but the stock market.
For five days in a row, the Dow Jones Industrial Average has fallen, dropping a total of almost 4%. The S&P 500 has dropped four days in a row, for a total loss of over 3%. The Nasdaq went slightly off message today, rising 0.05%. However, in the preceding three trading sessions, it dropped a total of over 3%. Although these numbers don't come close to a correction, let alone a bear market, they are large enough to make many registered voters get nervous about their 401(k) accounts. If voters were wondering why the debt ceiling mattered, well, now they know.
The politics of the debt ceiling issue have become more convoluted than the serpents that served as Medusa's tresses. The impasse over the debt ceiling comes, to a large degree, from Tea Partiers and other conservatives seeing the ceiling as a matter of ideology. Just about everyone else understands it's a matter of financial management. But ideologues tend not to compromise on matters of ideology. So the trains no longer run on time in the processes of the federal government.
However, on Wall Street, Main Street and even Pennsylvania Avenue, money talks and bullswaggle walks. When the House got all wound up over TARP and voted it down on September 29, 2008, the market dropped about 8%. Constituents from sea to shining sea communicated with their representatives promptly, frankly and not positively. This captured the full attention of the House, and an amended TARP bill was promptly passed on a second try.
The principal activity of members of Congress is to tell their constituents what they want to hear; that's how they get elected. The debt ceiling squabble has devolved into a lot of posturing for the choir, which not surprisingly admires the Representative's new clothes. Representatives aren't getting enough objective feedback from the political process.
The stock market is just about the only means for imposing legislative discipline. There's no chance of a compromise before this weekend. Another down day in the market tomorrow might work wonders in opening hearts and minds on Capitol Hill to the joys of productive dialogue. Even though more market drops mean investment losses, there is no way to reach a resolution on the debt ceiling problem without pain. If there is no resolution, the pain from the financial markets will be much more acute that what we've experienced so far. If the markets fall again tomorrow, view it as filling the glass halfway.
For five days in a row, the Dow Jones Industrial Average has fallen, dropping a total of almost 4%. The S&P 500 has dropped four days in a row, for a total loss of over 3%. The Nasdaq went slightly off message today, rising 0.05%. However, in the preceding three trading sessions, it dropped a total of over 3%. Although these numbers don't come close to a correction, let alone a bear market, they are large enough to make many registered voters get nervous about their 401(k) accounts. If voters were wondering why the debt ceiling mattered, well, now they know.
The politics of the debt ceiling issue have become more convoluted than the serpents that served as Medusa's tresses. The impasse over the debt ceiling comes, to a large degree, from Tea Partiers and other conservatives seeing the ceiling as a matter of ideology. Just about everyone else understands it's a matter of financial management. But ideologues tend not to compromise on matters of ideology. So the trains no longer run on time in the processes of the federal government.
However, on Wall Street, Main Street and even Pennsylvania Avenue, money talks and bullswaggle walks. When the House got all wound up over TARP and voted it down on September 29, 2008, the market dropped about 8%. Constituents from sea to shining sea communicated with their representatives promptly, frankly and not positively. This captured the full attention of the House, and an amended TARP bill was promptly passed on a second try.
The principal activity of members of Congress is to tell their constituents what they want to hear; that's how they get elected. The debt ceiling squabble has devolved into a lot of posturing for the choir, which not surprisingly admires the Representative's new clothes. Representatives aren't getting enough objective feedback from the political process.
The stock market is just about the only means for imposing legislative discipline. There's no chance of a compromise before this weekend. Another down day in the market tomorrow might work wonders in opening hearts and minds on Capitol Hill to the joys of productive dialogue. Even though more market drops mean investment losses, there is no way to reach a resolution on the debt ceiling problem without pain. If there is no resolution, the pain from the financial markets will be much more acute that what we've experienced so far. If the markets fall again tomorrow, view it as filling the glass halfway.
Thursday, July 7, 2011
Solution for the Debt Ceiling Crisis: An Early Vote in Congress
A way to resolve the debt ceiling crisis would be to introduce legislation that would force an early vote in Congress (i.e., a week or so before the August 2, 2011 deadline). Why would this work? Because the Tea Partiers and other conservatives would reject it. The ensuing market consternation would force all concerned to quickly reach an effective compromise.
Recall TARP. On September 29, 2008, the House rejected an initial version of TARP due in large part to anti-bailout sentiment. The Dow Jones Industrial Average dropped 777 points that afternoon, pummeling voters' 401(k) accounts. Public reaction to Congress was swift and not favorable. Four days later, duly woodshedded, the House signed off on an amended version of TARP. Voters, if smacked in the pocketbook, deal with reality and insist on Congress dealing with reality.
An early rejection of a debt ceiling bill would trigger financial market dismay. Perhaps not as severe as the initial rejection of TARP, if the debt ceiling vote were held early enough to allow time for a second vote for the House to get it right. But a moderately melodramatic swoon by the Dow might work wonders in clarifying the thinking of members of Congress up to their left ears in revisionist misinterpretation of the unverified statements of the supposed Founders (not excluding those of elementary school age).
Recall TARP. On September 29, 2008, the House rejected an initial version of TARP due in large part to anti-bailout sentiment. The Dow Jones Industrial Average dropped 777 points that afternoon, pummeling voters' 401(k) accounts. Public reaction to Congress was swift and not favorable. Four days later, duly woodshedded, the House signed off on an amended version of TARP. Voters, if smacked in the pocketbook, deal with reality and insist on Congress dealing with reality.
An early rejection of a debt ceiling bill would trigger financial market dismay. Perhaps not as severe as the initial rejection of TARP, if the debt ceiling vote were held early enough to allow time for a second vote for the House to get it right. But a moderately melodramatic swoon by the Dow might work wonders in clarifying the thinking of members of Congress up to their left ears in revisionist misinterpretation of the unverified statements of the supposed Founders (not excluding those of elementary school age).
Monday, June 20, 2011
From Family Farm to Government Benefits to What Next?
It might be constructive if we could just, for a moment, step back from all the screaming and yelling, and look at our current fiscal situation from a historical standpoint. We got to our current social structure, with substantial governmental benefits and a substantial government budget, because of structural change in the economy. At the end of the 19th century, America's population was about 70% rural, living on the quintessential family farm. Multiple generations lived and worked together. Because the farm produced much of their basic needs, people were more self-sufficient than they are today, particularly if they diversified the crops they planted and kept a few hogs to sell for cash if needed.
The expansion of the industrial sector, particularly after the Civil War, when the robber barons consolidated entire industries under a single corporate roof or in collusive, oligopolistic arrangements, gave rise to a large worker class. These wage earners moved off the land, and into economic dependency. Their livelihoods depended entirely on the actions and abilities of remote corporate chieftains, and on the vagaries of business and financial markets cycles that were beyond the comprehension of most Americans. Astonishing exploitation of labor was commonplace in the 19th century and early 20th century, with employees paid poorly (and sometimes in company scrip rather than cash), required to work in dangerous environments, provided little or no benefits if injured on the job, and fired for any reason whatsoever. These practices reflected the harsh competitiveness of pure capitalism, and the big government we have today evolved gradually over the course of the 20th century to soften the cruelties of the unregulated marketplace. In so doing, big government made capitalism palatable for ordinary citizens.
Without a government stepping in and protecting the working class (and here we mean not only blue collar employees, but today's more numerous white collar workers, who are mostly blue collar workers with cleaner work environments), capitalism would likely not have survived in a democratic nation like America. The working class would have voted it out of existence. Indeed, Franklin Delano Roosevelt, so often lambasted as a traitor to his class, was in actuality the savior of the wealthy. His New Deal allowed the holders of capital to maintain their grip on economic power while ameliorating the distress of the less well-off. The big government, big benefits structure allowed capitalists to continue to operate with relative freedom to hire, fire, and transfer as they saw fit, thus facilitating flexibility and innovation in the U.S. economy. Although pure rapacity is largely prohibited, America's capitalists still can indulge their buccaneering urges to a greater extent than their counterparts in most other developed nations.
Then the train went of the tracks. The problem was debt. A lot of people got it into their heads that they'd be better off if they borrowed their way to a nice standard of living, instead of working for it. Max out credit cards, get a home equity loan, and presto, we're all living large. Bankers, who never more clearly demonstrated that they really are mostly from the middle of the b-school class, made this all very easy with exceptionally stupid lending standards and the dimwitted belief that real estate would never, on a nationwide basis, fall in value. Having drunk of this Kool-aid, the banks extended mountains of credit to one and all who had a pulse and a signature. Requiring borrowers to have the ability to repay was discarded as a quaint notion reminiscent of horses and buggies. Everyone forgot that no asset rises indefinitely in value and that debt eventually has to be repaid.
When illusions and reality collide, reality always wins. We're now stuck with shiploads of debt--mortgage debt, home equity debt, consumer credit, governmental debt, and commercial debt--that can't be repaid. There is enormous political and legal struggle over who should bear the burden of this bad debt. Borrowers unable to repay can't. Taxpayers are rebelling over the idea that they should bear more than they've already borne. Corporations and other business interests are trying to pull every political string, employ every legal tactic, and pressure every regulator in sight to shift their losses onto consumers and anyone who files a tax return. Things are ugly and getting uglier because the losses and other burdens must eventually be borne by someone.
One striking dysfunction is that losses no longer fall where market forces would have placed them--on creditors. Instead, losses are dumped on taxpayers via government bailouts and other government policies. You could say that combatants have been able to steer bullets and shrapnel away from themselves toward innocent bystanders. Why stop shooting if you won't take the hits? Why stop taking risks when the losses will be dumped on those who are less powerful while you collect the profits? With market forces in retreat, the specter of oligarchic plutocracy looms.
It was one thing for 20th century Presidents to ask American taxpayers to pay substantial costs in order to stabilize and improve the functioning of the capitalist system. This accommodated the dramatic structural changes industrial-scale capitalism was bringing to America and paved the way to greater prosperity for all. It's another to burden taxpayers with the costs of capitalist excess, while bailing out the financial system so Wall Streeters can resume collecting Brobdingnagian bonuses.
One episode of this sordid drama is being broadcast from Greece. Ordinary citizens are abandoning their government and taking to the streets because they have nothing left to lose. They face lower living standards if they knuckle under to the European Union's demands for fiscal austerity. With little or no stake in the EU any more, why wouldn't ordinary Greeks give their northerly neighbors a digital salute? One wacko truth is that if Greece walks away from its current debt and issues is own currency again, it will probably be able to resume borrowing soon in the international markets. Self-help bankruptcy, as it were. And if the debt contagion spreads to other countries, they may also conclude they're better off saluting as well.
The question now, as governments worldwide struggle with the problems of too much private and public debt, is what social structure will ameliorate today's problems while giving everyone a continuing stake in the system? This isn't a question of what produces the greatest economic efficiency, or the greatest short term economic growth (as measured by GDP, an increasingly meaningless figure). It's a question of what produces social equanimity. The answer matters to any nation that aspires to be a democracy. Plutocrats can't always have their way in a democracy.
The precise features of a workable system for the future aren't easily agreed upon, because everyone wants to eat their cake and have it too. Tea Partiers want tax and debt cuts, but no cuts in Social Security or Medicare. Many on the right resist cuts in defense spending, even while they propose major tax cuts. Dreamers on the left argue for more federal deficit spending, while ignoring the spectacle in Greece. There is such a thing as too much government debt, even for America, the nation that issues the world's reserve currency.
One reality is that economic growth may be modest or stagnant for quite a while. This is unavoidable because the burdens of excess debt are falling on our heads, and inhibit consumer spending. These burdens include higher unemployment, less government spending and lower government benefits, higher taxes (or revenue enhancements, or whatever euphemism becomes fashionable), and, consequently, less extravagant standards of living. It's clear, after three years of Fed money printing and federal fiscal stimulus, that there are no more magic bullets, no more bazookas.
What hope, then, is there for the future? The current political climate offers little reason to expect constructive action from the government any time soon. And Wall Street, by all indications, is determined to resume its bad old ways. The one avenue open to most Americans is to properly structure, and restructure if necessary, our own lives. Spend carefully, save plenty, avoid debt, and live well--but remember that living well doesn't mean displaying every tasteless urge to consume endless amounts of crap.
As a democracy, America is vulnerable to the irrationalities of crowds, and has taken big detours from the sensible and rational at times. At the same time, America has displayed a remarkable resilience and determination to survive and succeed, which carried it through a horrendous civil war, and a monumental world war with fascism. We will probably spend the next two or three decades fashioning the compromises needed for a new social structure. Trends toward greater inequality of income and wealth will come under scrutiny. Some economic inequality is inherent in capitalism and serves salutary purposes. But much of today's inequality doesn't come from market or commercial prowess. It comes from political influence and manipulation of regulatory processes. Such advantages are unfair in a democracy and will have to be reversed.
Until the process of reform is finished, keep a healthy balance in your emergency fund, and keep pumping part of each pay check into a retirement account. If you just take care of yourself, a lot of other problems won't seem so big.
The expansion of the industrial sector, particularly after the Civil War, when the robber barons consolidated entire industries under a single corporate roof or in collusive, oligopolistic arrangements, gave rise to a large worker class. These wage earners moved off the land, and into economic dependency. Their livelihoods depended entirely on the actions and abilities of remote corporate chieftains, and on the vagaries of business and financial markets cycles that were beyond the comprehension of most Americans. Astonishing exploitation of labor was commonplace in the 19th century and early 20th century, with employees paid poorly (and sometimes in company scrip rather than cash), required to work in dangerous environments, provided little or no benefits if injured on the job, and fired for any reason whatsoever. These practices reflected the harsh competitiveness of pure capitalism, and the big government we have today evolved gradually over the course of the 20th century to soften the cruelties of the unregulated marketplace. In so doing, big government made capitalism palatable for ordinary citizens.
Without a government stepping in and protecting the working class (and here we mean not only blue collar employees, but today's more numerous white collar workers, who are mostly blue collar workers with cleaner work environments), capitalism would likely not have survived in a democratic nation like America. The working class would have voted it out of existence. Indeed, Franklin Delano Roosevelt, so often lambasted as a traitor to his class, was in actuality the savior of the wealthy. His New Deal allowed the holders of capital to maintain their grip on economic power while ameliorating the distress of the less well-off. The big government, big benefits structure allowed capitalists to continue to operate with relative freedom to hire, fire, and transfer as they saw fit, thus facilitating flexibility and innovation in the U.S. economy. Although pure rapacity is largely prohibited, America's capitalists still can indulge their buccaneering urges to a greater extent than their counterparts in most other developed nations.
Then the train went of the tracks. The problem was debt. A lot of people got it into their heads that they'd be better off if they borrowed their way to a nice standard of living, instead of working for it. Max out credit cards, get a home equity loan, and presto, we're all living large. Bankers, who never more clearly demonstrated that they really are mostly from the middle of the b-school class, made this all very easy with exceptionally stupid lending standards and the dimwitted belief that real estate would never, on a nationwide basis, fall in value. Having drunk of this Kool-aid, the banks extended mountains of credit to one and all who had a pulse and a signature. Requiring borrowers to have the ability to repay was discarded as a quaint notion reminiscent of horses and buggies. Everyone forgot that no asset rises indefinitely in value and that debt eventually has to be repaid.
When illusions and reality collide, reality always wins. We're now stuck with shiploads of debt--mortgage debt, home equity debt, consumer credit, governmental debt, and commercial debt--that can't be repaid. There is enormous political and legal struggle over who should bear the burden of this bad debt. Borrowers unable to repay can't. Taxpayers are rebelling over the idea that they should bear more than they've already borne. Corporations and other business interests are trying to pull every political string, employ every legal tactic, and pressure every regulator in sight to shift their losses onto consumers and anyone who files a tax return. Things are ugly and getting uglier because the losses and other burdens must eventually be borne by someone.
One striking dysfunction is that losses no longer fall where market forces would have placed them--on creditors. Instead, losses are dumped on taxpayers via government bailouts and other government policies. You could say that combatants have been able to steer bullets and shrapnel away from themselves toward innocent bystanders. Why stop shooting if you won't take the hits? Why stop taking risks when the losses will be dumped on those who are less powerful while you collect the profits? With market forces in retreat, the specter of oligarchic plutocracy looms.
It was one thing for 20th century Presidents to ask American taxpayers to pay substantial costs in order to stabilize and improve the functioning of the capitalist system. This accommodated the dramatic structural changes industrial-scale capitalism was bringing to America and paved the way to greater prosperity for all. It's another to burden taxpayers with the costs of capitalist excess, while bailing out the financial system so Wall Streeters can resume collecting Brobdingnagian bonuses.
One episode of this sordid drama is being broadcast from Greece. Ordinary citizens are abandoning their government and taking to the streets because they have nothing left to lose. They face lower living standards if they knuckle under to the European Union's demands for fiscal austerity. With little or no stake in the EU any more, why wouldn't ordinary Greeks give their northerly neighbors a digital salute? One wacko truth is that if Greece walks away from its current debt and issues is own currency again, it will probably be able to resume borrowing soon in the international markets. Self-help bankruptcy, as it were. And if the debt contagion spreads to other countries, they may also conclude they're better off saluting as well.
The question now, as governments worldwide struggle with the problems of too much private and public debt, is what social structure will ameliorate today's problems while giving everyone a continuing stake in the system? This isn't a question of what produces the greatest economic efficiency, or the greatest short term economic growth (as measured by GDP, an increasingly meaningless figure). It's a question of what produces social equanimity. The answer matters to any nation that aspires to be a democracy. Plutocrats can't always have their way in a democracy.
The precise features of a workable system for the future aren't easily agreed upon, because everyone wants to eat their cake and have it too. Tea Partiers want tax and debt cuts, but no cuts in Social Security or Medicare. Many on the right resist cuts in defense spending, even while they propose major tax cuts. Dreamers on the left argue for more federal deficit spending, while ignoring the spectacle in Greece. There is such a thing as too much government debt, even for America, the nation that issues the world's reserve currency.
One reality is that economic growth may be modest or stagnant for quite a while. This is unavoidable because the burdens of excess debt are falling on our heads, and inhibit consumer spending. These burdens include higher unemployment, less government spending and lower government benefits, higher taxes (or revenue enhancements, or whatever euphemism becomes fashionable), and, consequently, less extravagant standards of living. It's clear, after three years of Fed money printing and federal fiscal stimulus, that there are no more magic bullets, no more bazookas.
What hope, then, is there for the future? The current political climate offers little reason to expect constructive action from the government any time soon. And Wall Street, by all indications, is determined to resume its bad old ways. The one avenue open to most Americans is to properly structure, and restructure if necessary, our own lives. Spend carefully, save plenty, avoid debt, and live well--but remember that living well doesn't mean displaying every tasteless urge to consume endless amounts of crap.
As a democracy, America is vulnerable to the irrationalities of crowds, and has taken big detours from the sensible and rational at times. At the same time, America has displayed a remarkable resilience and determination to survive and succeed, which carried it through a horrendous civil war, and a monumental world war with fascism. We will probably spend the next two or three decades fashioning the compromises needed for a new social structure. Trends toward greater inequality of income and wealth will come under scrutiny. Some economic inequality is inherent in capitalism and serves salutary purposes. But much of today's inequality doesn't come from market or commercial prowess. It comes from political influence and manipulation of regulatory processes. Such advantages are unfair in a democracy and will have to be reversed.
Until the process of reform is finished, keep a healthy balance in your emergency fund, and keep pumping part of each pay check into a retirement account. If you just take care of yourself, a lot of other problems won't seem so big.
Monday, June 13, 2011
Will Wall Street Weaken America's National Security?
The defense budget will shrink. That's inevitable, given the toxic swirl of today's federal budget/debt ceiling/tax laws politics. A lousy economy generates less tax revenue. Social Security, Medicare and Medicaid are hard to cut because you'd have to hurt a lot of voters. The federal payroll and the non-Defense, non-entitlement portions of the federal budget are relatively small. Cuts to them won't have much numerical impact. The Defense budget is large, and wears an obvious bullseye on its back.
Outgoing Secretary of Defense Robert Gates has already warned of cuts. He also gave our NATO allies a deserved lecture on increasing their defense capabilities so they can contribute more effectively to the alliance. When America stepped into the background, NATO's air campaign against Muammar Gaddafi sagged, and almost left the Libyan rebels high and dry. The major powers of Europe, unable to effectively spank a crummy tinpot dictator on the other side of the Mediterranean? Gates' admonishment to NATO is another signal that America won't have the resources to be the world's full-time peace officer.
Let's remember that all this goes back to the financial crisis of 2007-08, which originated from greed, recklessness, idiocy, and appallingly bad risk management on Wall Street. However much one might blame Presidents Bush and Obama for proposing taxpayer funded bailouts, however much one might criticize Alan Greenspan, Ben Bernanke and their colleagues at the Fed for printing money and creating asset bubbles and inflation, the root of the problem lies with the big banks. When executives from the major banks now whine about the costs of regulation and heightened capital requirements, bear in mind that America's international stature suffered gravely and will continue to suffer gravely because of the bank-spawned financial crisis. And America's ability to defend itself has been and will be reduced because the big banks weren't kept in line. This is a threat that shouldn't be allowed to recur.
Outgoing Secretary of Defense Robert Gates has already warned of cuts. He also gave our NATO allies a deserved lecture on increasing their defense capabilities so they can contribute more effectively to the alliance. When America stepped into the background, NATO's air campaign against Muammar Gaddafi sagged, and almost left the Libyan rebels high and dry. The major powers of Europe, unable to effectively spank a crummy tinpot dictator on the other side of the Mediterranean? Gates' admonishment to NATO is another signal that America won't have the resources to be the world's full-time peace officer.
Let's remember that all this goes back to the financial crisis of 2007-08, which originated from greed, recklessness, idiocy, and appallingly bad risk management on Wall Street. However much one might blame Presidents Bush and Obama for proposing taxpayer funded bailouts, however much one might criticize Alan Greenspan, Ben Bernanke and their colleagues at the Fed for printing money and creating asset bubbles and inflation, the root of the problem lies with the big banks. When executives from the major banks now whine about the costs of regulation and heightened capital requirements, bear in mind that America's international stature suffered gravely and will continue to suffer gravely because of the bank-spawned financial crisis. And America's ability to defend itself has been and will be reduced because the big banks weren't kept in line. This is a threat that shouldn't be allowed to recur.
Monday, April 25, 2011
A Question for the Chairman: Is the Fed Doing Its Part to Reduce the Federal Deficit?
This week, Chairman Ben Bernanke of the Federal Reserve holds the first ever press conference by a Fed Chairman. The wisdom of opening himself up to volleys of dumb, loaded, and unfair questions isn't crystal clear. Since, however, he's voluntarily decided to position the seat of his pants in the middle of a firing range, here's a question that should be posed to him.
It's Econ 101 that the lower the price of something, the more of it people will consume. Isn't the Fed making it easy for the federal government to run massive deficits by keeping interest rates ultra low?
The stated purpose of low interest rates is to stimulate the economy. But they also stimulate government borrowing. Look at Japan. Its public debt is something like 200% of its GDP (America's is around 70%). But interest rates in Japan are so low that the government's annual bill for borrowing all this moola isn't terribly painful. Most Japanese government debt is held by Japanese citizens, who seem perfectly willing to refinance the government every time its debt falls due, asking for scarcely any interest income at all. From an economic standpoint, it makes sense for the Japanese government to keep borrowing. Since it can roll over maturing debt at will for ultra low rates, it never really needs to control its deficits and can keep borrowing more at minimal interest expense. The U.S. Treasury, too, can easily roll over its debt at historically low prices. So its need to reduce deficits isn't pressing.
The Fed's low interest rate policy is inflating commodities and equities, but its impact beyond that is unclear. Big banks aren't increasing the net amounts of their loan portfolios and small businesses still limp along with working capital from their owners' credit cards. Real estate remains moribund, with more of the same expected for the future. Raising interest rates will make financial markets speculators unhappy. But let's remember that central bank manipulation of asset prices doesn't produce lasting prosperity, but indeed the opposite (for further reading, see 2007-08 financial crisis).
For all the political hoopla over deficits, reality is that money talks and bullsh . . . uh, political dialogue walks. What's forced Greece, Ireland, Portugal and other Euro bloc nations to rein in their spending? Not frowning bureaucrats in Brussels, but rising interest rates demanded by their creditors. Chairman Bernanke recently scolded Congress and the administration for not doing enough to reduce the deficit. Well, remember, Mr. Chairman, money talks and bu . . . well, you know. If you want the government to reduce the deficit, make it pay for borrowing.
It's Econ 101 that the lower the price of something, the more of it people will consume. Isn't the Fed making it easy for the federal government to run massive deficits by keeping interest rates ultra low?
The stated purpose of low interest rates is to stimulate the economy. But they also stimulate government borrowing. Look at Japan. Its public debt is something like 200% of its GDP (America's is around 70%). But interest rates in Japan are so low that the government's annual bill for borrowing all this moola isn't terribly painful. Most Japanese government debt is held by Japanese citizens, who seem perfectly willing to refinance the government every time its debt falls due, asking for scarcely any interest income at all. From an economic standpoint, it makes sense for the Japanese government to keep borrowing. Since it can roll over maturing debt at will for ultra low rates, it never really needs to control its deficits and can keep borrowing more at minimal interest expense. The U.S. Treasury, too, can easily roll over its debt at historically low prices. So its need to reduce deficits isn't pressing.
The Fed's low interest rate policy is inflating commodities and equities, but its impact beyond that is unclear. Big banks aren't increasing the net amounts of their loan portfolios and small businesses still limp along with working capital from their owners' credit cards. Real estate remains moribund, with more of the same expected for the future. Raising interest rates will make financial markets speculators unhappy. But let's remember that central bank manipulation of asset prices doesn't produce lasting prosperity, but indeed the opposite (for further reading, see 2007-08 financial crisis).
For all the political hoopla over deficits, reality is that money talks and bullsh . . . uh, political dialogue walks. What's forced Greece, Ireland, Portugal and other Euro bloc nations to rein in their spending? Not frowning bureaucrats in Brussels, but rising interest rates demanded by their creditors. Chairman Bernanke recently scolded Congress and the administration for not doing enough to reduce the deficit. Well, remember, Mr. Chairman, money talks and bu . . . well, you know. If you want the government to reduce the deficit, make it pay for borrowing.
Thursday, April 14, 2011
The Point Missed in the Budget Debate
It's become all the rage in Washington to froth over the federal deficit and produce sound bite-driven proposals on how to reduce it. In the relentless quest for media coverage, everyone involved in the budget debate has something accusatory to say about someone else. As in sports, trash talking and cheap shots get more attention than real accomplishments.
The lack of attention to real accomplishments allows an important point about the budget deficit to go unnoticed. When we talk about splitting up a pie, the size of the pie is crucial. A large, fast growing pie is much easier to divide than a smaller, slowly growing pie. A stagnant or shrinking pie can be poisonous to the debate. Right now, we have a slowly growing pie that may go stagnant or shrink soon given the rising costs of energy and food. And the debate is indeed poisonous.
We need to focus more on expanding the pie, not in the Federal Reserve short term-next quarter, money printing, inflation-risky way, but for the long term. We also can't look to the federal government to solve all our problems. At the risk of asking Americans to behave like adults, it would be better if we looked for some non-federal ways to boost long term economic growth. There is a limit to the effectiveness of federal policies, which are mostly subsidies and handouts, and we pretty much surpassed that limit a while ago. What should be done?
Embrace Innovation. Innovation was the key to America's spectacular growth in the past two centuries. Railroads, the telegraph, the telephone, the airplane, automation of farming, new energy technologies, electronics and computers were essential factors in making America an economic powerhouse. We celebrate the concept of innovation today, but don't encourage it enough. Immigration rules for the highly educated should be relaxed--we'll never recapture manufacturing from Asia, but we can try to bring more of their brainpower to America. Many of Asia's smartest people want to live here, at least for a while and maybe for the rest of their lives. Brains produce innovation; tariffs don't. America's economic future will be in the production of high value added goods and services. (And not, contrary to what the Fed thinks, a revival of housing, which can't be revived by the government because it remains buried under a crushing load of bad debt, and only politically unacceptable levels of taxpayer subsidies will revive housing.) Innovation was the key to America's past prosperity and will be the key to its future.
Hug nerds. America's educational system is roundly criticized for failing to teach many students the basics. That's a valid point, but we're too focused on making America's schools training facilities for corporate employers. Schools should also be a place for exploration and creative thinking. They're not. Today's elite universities' admissions standards place enormous emphasis on being well-rounded, having not only fantastic grades, but athletic achievement, public service, experience in the arts, internships left and right, and international travel. The people admitted will make good corporate executives, management consultants, corporate lawyers, accountants, and doctors. Those with good math skills may become Wall Streeters. Most likely, none will create innovative technologies or establish major businesses. It's not an accident that Bill Gates, Steve Jobs, and Larry Ellison were all college dropouts. (So was Mark Zuckerberg, although it's not yet clear if Facebook is a transformational company or a fad-and-fade like Yahoo.) America's leading universities don't embrace original thinkers; they favor compliant kids who know how to manipulate and please their elders. Today's elite schools don't encourage or even tolerate the wacked out thinking that transformational economic change requires. Gates, Jobs and Ellison had to swim upstream to accomplish what they did. One can only wonder how many dozens, hundreds and maybe thousands of other free thinking, but slightly less determined kids have been discouraged from fostering innovative change. We need to think outside the box to make America grow again, and one way would be to encourage, and indeed embrace, kids who think outside the box.
Improve transportation and communications. America is a big country. Look on a globe, and you'll find very few other countries as large. We need really good transportation systems, because ultimately goods and many services need to be physically delivered. One can't live off Internet access alone. State and federal governments in the 19th Century did a much better job in this respect than their counterparts today. The Erie Canal was sponsored by New York state. The railroads were subsidized by the federal government. In the 20th Century, air transportation and the interstate highway system were creations of federal policy, and local governments took on much of the burden of building suburban infrastructure. America became wealthy from the massive markets permitted by these government supported transportation systems. Today, highways need to be maintained, bridges repaired, and subway systems renovated and expanded. Suburban roads need maintenance and improvement--remember that most economic growth is in suburban areas, in spite of renewal in a few urban areas. Roads and other transportation systems don't have powerful lobbyists, so they are easily ignored. That is a serious mistake.
Fostering high-speed Internet access for all should be a priority. This would include hard wired access and wireless access. The easier it is to communicate, the more innovation we'll have. And, let's face it, the more consumption we'll have since we're approaching the point where you can buy almost anything over the Internet. Way too many people share way too much about themselves in the Internet. But speed of communication speeds up economic activity. Even if some people are tacky and tasteless, others will increase their productivity--and, along with it, our prosperity.
The lack of attention to real accomplishments allows an important point about the budget deficit to go unnoticed. When we talk about splitting up a pie, the size of the pie is crucial. A large, fast growing pie is much easier to divide than a smaller, slowly growing pie. A stagnant or shrinking pie can be poisonous to the debate. Right now, we have a slowly growing pie that may go stagnant or shrink soon given the rising costs of energy and food. And the debate is indeed poisonous.
We need to focus more on expanding the pie, not in the Federal Reserve short term-next quarter, money printing, inflation-risky way, but for the long term. We also can't look to the federal government to solve all our problems. At the risk of asking Americans to behave like adults, it would be better if we looked for some non-federal ways to boost long term economic growth. There is a limit to the effectiveness of federal policies, which are mostly subsidies and handouts, and we pretty much surpassed that limit a while ago. What should be done?
Embrace Innovation. Innovation was the key to America's spectacular growth in the past two centuries. Railroads, the telegraph, the telephone, the airplane, automation of farming, new energy technologies, electronics and computers were essential factors in making America an economic powerhouse. We celebrate the concept of innovation today, but don't encourage it enough. Immigration rules for the highly educated should be relaxed--we'll never recapture manufacturing from Asia, but we can try to bring more of their brainpower to America. Many of Asia's smartest people want to live here, at least for a while and maybe for the rest of their lives. Brains produce innovation; tariffs don't. America's economic future will be in the production of high value added goods and services. (And not, contrary to what the Fed thinks, a revival of housing, which can't be revived by the government because it remains buried under a crushing load of bad debt, and only politically unacceptable levels of taxpayer subsidies will revive housing.) Innovation was the key to America's past prosperity and will be the key to its future.
Hug nerds. America's educational system is roundly criticized for failing to teach many students the basics. That's a valid point, but we're too focused on making America's schools training facilities for corporate employers. Schools should also be a place for exploration and creative thinking. They're not. Today's elite universities' admissions standards place enormous emphasis on being well-rounded, having not only fantastic grades, but athletic achievement, public service, experience in the arts, internships left and right, and international travel. The people admitted will make good corporate executives, management consultants, corporate lawyers, accountants, and doctors. Those with good math skills may become Wall Streeters. Most likely, none will create innovative technologies or establish major businesses. It's not an accident that Bill Gates, Steve Jobs, and Larry Ellison were all college dropouts. (So was Mark Zuckerberg, although it's not yet clear if Facebook is a transformational company or a fad-and-fade like Yahoo.) America's leading universities don't embrace original thinkers; they favor compliant kids who know how to manipulate and please their elders. Today's elite schools don't encourage or even tolerate the wacked out thinking that transformational economic change requires. Gates, Jobs and Ellison had to swim upstream to accomplish what they did. One can only wonder how many dozens, hundreds and maybe thousands of other free thinking, but slightly less determined kids have been discouraged from fostering innovative change. We need to think outside the box to make America grow again, and one way would be to encourage, and indeed embrace, kids who think outside the box.
Improve transportation and communications. America is a big country. Look on a globe, and you'll find very few other countries as large. We need really good transportation systems, because ultimately goods and many services need to be physically delivered. One can't live off Internet access alone. State and federal governments in the 19th Century did a much better job in this respect than their counterparts today. The Erie Canal was sponsored by New York state. The railroads were subsidized by the federal government. In the 20th Century, air transportation and the interstate highway system were creations of federal policy, and local governments took on much of the burden of building suburban infrastructure. America became wealthy from the massive markets permitted by these government supported transportation systems. Today, highways need to be maintained, bridges repaired, and subway systems renovated and expanded. Suburban roads need maintenance and improvement--remember that most economic growth is in suburban areas, in spite of renewal in a few urban areas. Roads and other transportation systems don't have powerful lobbyists, so they are easily ignored. That is a serious mistake.
Fostering high-speed Internet access for all should be a priority. This would include hard wired access and wireless access. The easier it is to communicate, the more innovation we'll have. And, let's face it, the more consumption we'll have since we're approaching the point where you can buy almost anything over the Internet. Way too many people share way too much about themselves in the Internet. But speed of communication speeds up economic activity. Even if some people are tacky and tasteless, others will increase their productivity--and, along with it, our prosperity.
Monday, February 21, 2011
Taxpayer Liability for Banks: the Missing Link in Balancing the Federal Budget
As if the federal budget balancing debate weren't complicated enough, a key issue is absent from the discussion. Virtually no attention is being paid to the potential budget-busting problem of taxpayer liability for the banking system. Although this is a contingent liability, it can wreak astounding havoc when the banking system hits the fan. Ireland illustrates the problem.
Like so many other nations, Ireland rode to seeming prosperity on a rising real estate market. Its banks were instrumental in financing this bubble. When Lehman Brothers collapsed in September 2008, Irish banks rapidly slipped off the precipice. Their stock prices fell and a liquidity crisis loomed. The Irish government moved posthaste to stem the panic, guaranteeing some $570 billion of bank liabilities (which should be compared to Ireland's GDP of approximately $170 billion). Eventually, the Irish government nationalized one major bank, Anglo Irish. While the Irish government's direct debt is about 65% of GDP (not much different from the U.S. government's direct debt), its guarantee of bank liabilities vastly increased its potential obligations. The resulting morass was so bad that Ireland needed an EU bailout earlier this year.
The U.S. government (and American taxpayers) are on the hook for the liabilities of the largest American banks. Not officially, but we all know they'll get a bailout if they need one. In addition, taxpayers are liable for the housing banks--Fannie Mae, Freddie Mac, the FHA and Ginnie Mae. The amounts of all these contingent liabilities are unclear but likely very large. Illiquid real estate assets held by banks (so-called Level 3 assets) may be overvalued by hundreds of billions. Vast numbers of defaulted mortgages remain in limbo as the foreclosure mess crawls toward a resolution that will probably entail more losses for banks. The continued decline of the real estate market means more mortgages going underwater, and probably more defaults.
In addition, the largest banks have trillions of dollars of derivatives exposure. Much of the derivatives exposure is hard to see right now. Current accounting standards allow banks sometimes to net derivatives assets against derivatives liabilities. Netting means we don't see them on balance sheets. Once international accounting standards replace U.S. generally accepted accounting principles (probably within a couple of years), a lot of current netting of derivatives holdings would likely have to be unwound. Balance sheets of the largest banks could balloon by more than $7 trillion, in the aggregate. America's GDP is around $14 trillion, while annual federal spending is around $3.5 trillion. Readers may painfully recall that during the 2007-08 financial crisis, derivatives assets had a scary way of losing value while derivatives liabilities remained unwavering. Taxpayers would be on the hook for the losses. Reining in the amounts of bank derivatives exposure may be necessary to reducing the potential bite on taxpayers.
So, we can see that balancing the budget doesn't just mean getting expenditures down and government revenues up. It also means limiting contingent liabilities. Ireland's government didn't flagrantly overspend. Profligate lending by too big to fail Irish banks made it fail. Fortunately, Ireland's not too big to be bailed out by the EU. But there's no brother big enough to bail out America. Truly balancing the U.S. government's budget requires limiting taxpayer exposure to the banking system.
Progress on that front is painfully slow. The Volcker Rule is constraining some of the riskier activity. But reform of the derivatives market is hard to spot, even on sunny days at high noon. Banks remain Brobdingnagian in size, and executive compensation may soon run wild again. Implementation of the Dodd-Frank provisions for improved financial regulation is hindered by lack of funding. Fannie, Freddie and the FHA guarantee almost all new mortgages. Proposals for limiting the burdens they place on taxpayers will be obstinately contested by the real estate industry. Although neither Republicans or Democrats want to face the tough issues in balancing the budget--entitlement programs like Medicare, Medicaid and Social Security--we will eventually have to reform those programs. But all the pain and controversy we will endure squabbling over entitlements will be for naught if there is another financial crisis. And another crisis hardly seems any less likely than the one we still haven't recovered from.
Like so many other nations, Ireland rode to seeming prosperity on a rising real estate market. Its banks were instrumental in financing this bubble. When Lehman Brothers collapsed in September 2008, Irish banks rapidly slipped off the precipice. Their stock prices fell and a liquidity crisis loomed. The Irish government moved posthaste to stem the panic, guaranteeing some $570 billion of bank liabilities (which should be compared to Ireland's GDP of approximately $170 billion). Eventually, the Irish government nationalized one major bank, Anglo Irish. While the Irish government's direct debt is about 65% of GDP (not much different from the U.S. government's direct debt), its guarantee of bank liabilities vastly increased its potential obligations. The resulting morass was so bad that Ireland needed an EU bailout earlier this year.
The U.S. government (and American taxpayers) are on the hook for the liabilities of the largest American banks. Not officially, but we all know they'll get a bailout if they need one. In addition, taxpayers are liable for the housing banks--Fannie Mae, Freddie Mac, the FHA and Ginnie Mae. The amounts of all these contingent liabilities are unclear but likely very large. Illiquid real estate assets held by banks (so-called Level 3 assets) may be overvalued by hundreds of billions. Vast numbers of defaulted mortgages remain in limbo as the foreclosure mess crawls toward a resolution that will probably entail more losses for banks. The continued decline of the real estate market means more mortgages going underwater, and probably more defaults.
In addition, the largest banks have trillions of dollars of derivatives exposure. Much of the derivatives exposure is hard to see right now. Current accounting standards allow banks sometimes to net derivatives assets against derivatives liabilities. Netting means we don't see them on balance sheets. Once international accounting standards replace U.S. generally accepted accounting principles (probably within a couple of years), a lot of current netting of derivatives holdings would likely have to be unwound. Balance sheets of the largest banks could balloon by more than $7 trillion, in the aggregate. America's GDP is around $14 trillion, while annual federal spending is around $3.5 trillion. Readers may painfully recall that during the 2007-08 financial crisis, derivatives assets had a scary way of losing value while derivatives liabilities remained unwavering. Taxpayers would be on the hook for the losses. Reining in the amounts of bank derivatives exposure may be necessary to reducing the potential bite on taxpayers.
So, we can see that balancing the budget doesn't just mean getting expenditures down and government revenues up. It also means limiting contingent liabilities. Ireland's government didn't flagrantly overspend. Profligate lending by too big to fail Irish banks made it fail. Fortunately, Ireland's not too big to be bailed out by the EU. But there's no brother big enough to bail out America. Truly balancing the U.S. government's budget requires limiting taxpayer exposure to the banking system.
Progress on that front is painfully slow. The Volcker Rule is constraining some of the riskier activity. But reform of the derivatives market is hard to spot, even on sunny days at high noon. Banks remain Brobdingnagian in size, and executive compensation may soon run wild again. Implementation of the Dodd-Frank provisions for improved financial regulation is hindered by lack of funding. Fannie, Freddie and the FHA guarantee almost all new mortgages. Proposals for limiting the burdens they place on taxpayers will be obstinately contested by the real estate industry. Although neither Republicans or Democrats want to face the tough issues in balancing the budget--entitlement programs like Medicare, Medicaid and Social Security--we will eventually have to reform those programs. But all the pain and controversy we will endure squabbling over entitlements will be for naught if there is another financial crisis. And another crisis hardly seems any less likely than the one we still haven't recovered from.
Monday, January 3, 2011
A Tale of Two Recoveries
Near unanimity reigns on Wall Street that the economy will keep expanding and the stock market will rise further this year. Corporate profits are growing as worker productivity improves. Commodities prices are levitating. Retail sales have moderately increased. Even junk bond yields are relatively benign. Stock market investors, even if still shell shocked from two years ago, are doing better. In the tonier parts of Standard Metropolitan Statistical Areas, things are looking up.
Evidence of recovery is harder to find elsewhere. Food banks remain heavily patronized. Unemployment levels cling tenaciously near the 10% level. The long term unemployed are becoming entrenched in joblessness. Wages are stagnant. Many unemployed who find jobs have to accept lower incomes. Real estate prices are dropping again, after a brief and shallow upswing. Mortgage rates have risen off record lows, dampening refinancings and home purchases.
There has never been a lasting economic recovery without a restoration of full employment and a strong housing market. Neither seems to be in the offing, not for years. America is dividing into two camps. There are the relatively few well-off, who own most of the assets and are the least likely to be laid off. They have more resources to ride out the bad times and greater opportunities to profit from a rebound. Then, there is everyone else, for whom the Great Recession continues.
Today's politics only exacerbate the divide. Many moderate and middle income taxpayers, frustrated by the disparate impact of the recovery, became Tea Partiers and voted Republican. But the resurgent Republicans made sure that the wealthy were protected in the tax deal they cut with President Obama this past fall. The same tax deal also gave everyone a 2% cut in Social Security taxes, while the more progressive $400 Making Work Pay tax credit wasn't renewed. The first legislative maneuver by the new Republican majority in the House is to schedule a vote to repeal last year's health insurance reform law. This symbolic digital salute will do nothing to improve the economy or help the unemployed.
Deficit reduction is on every politician's list of resolutions for this year. But you know how it goes with New Year's resolutions. There's more water to be found in the Sahara than spending cuts in Washington. Last fall's tax deal, the first major product of the new bipartisanship, widened the deficit. The only way to truly reduce the deficit is to cut Social Security and Medicare spending, and/or raise taxes. Recent polls show that a large majority of Americans, from Millenials to the World War II generation, oppose cuts in either program. Yet there is no way today's Republican-controlled House would sign off on tax increases (even though a recent poll shows most Americans favor increasing taxes on the well-to-do in order to balance the budget). So the new bipartisanship will produce, at best, nominal deficit reductions in highly visible ways (a la the two-year pay freeze for federal employees, which hardly affects the deficit but sounds good in press releases). Given that today's recovery is largely due to deficit spending and the slackest monetary policy ever adopted by the Fed, there is little incentive in Washington to control deficits. No politician wants to be the grinch that stole the recovery.
But for most Americans (i.e., the majority trapped in stagnation), there hasn't been much of a recovery to steal. Current projections are for high unemployment and depressed real estate prices to linger for years after 2012. America may be morphing into a society where a small group of elites enjoy prosperity while everyone else just gets by (or not). That's not a good development for a nation dedicated to the pursuit of happiness. America was founded by immigrants aspiring for better lives. If hope dies, the essence of the nation is lost. The damage from the Great Recession will be great, indeed, if the nation loses its heart.
Evidence of recovery is harder to find elsewhere. Food banks remain heavily patronized. Unemployment levels cling tenaciously near the 10% level. The long term unemployed are becoming entrenched in joblessness. Wages are stagnant. Many unemployed who find jobs have to accept lower incomes. Real estate prices are dropping again, after a brief and shallow upswing. Mortgage rates have risen off record lows, dampening refinancings and home purchases.
There has never been a lasting economic recovery without a restoration of full employment and a strong housing market. Neither seems to be in the offing, not for years. America is dividing into two camps. There are the relatively few well-off, who own most of the assets and are the least likely to be laid off. They have more resources to ride out the bad times and greater opportunities to profit from a rebound. Then, there is everyone else, for whom the Great Recession continues.
Today's politics only exacerbate the divide. Many moderate and middle income taxpayers, frustrated by the disparate impact of the recovery, became Tea Partiers and voted Republican. But the resurgent Republicans made sure that the wealthy were protected in the tax deal they cut with President Obama this past fall. The same tax deal also gave everyone a 2% cut in Social Security taxes, while the more progressive $400 Making Work Pay tax credit wasn't renewed. The first legislative maneuver by the new Republican majority in the House is to schedule a vote to repeal last year's health insurance reform law. This symbolic digital salute will do nothing to improve the economy or help the unemployed.
Deficit reduction is on every politician's list of resolutions for this year. But you know how it goes with New Year's resolutions. There's more water to be found in the Sahara than spending cuts in Washington. Last fall's tax deal, the first major product of the new bipartisanship, widened the deficit. The only way to truly reduce the deficit is to cut Social Security and Medicare spending, and/or raise taxes. Recent polls show that a large majority of Americans, from Millenials to the World War II generation, oppose cuts in either program. Yet there is no way today's Republican-controlled House would sign off on tax increases (even though a recent poll shows most Americans favor increasing taxes on the well-to-do in order to balance the budget). So the new bipartisanship will produce, at best, nominal deficit reductions in highly visible ways (a la the two-year pay freeze for federal employees, which hardly affects the deficit but sounds good in press releases). Given that today's recovery is largely due to deficit spending and the slackest monetary policy ever adopted by the Fed, there is little incentive in Washington to control deficits. No politician wants to be the grinch that stole the recovery.
But for most Americans (i.e., the majority trapped in stagnation), there hasn't been much of a recovery to steal. Current projections are for high unemployment and depressed real estate prices to linger for years after 2012. America may be morphing into a society where a small group of elites enjoy prosperity while everyone else just gets by (or not). That's not a good development for a nation dedicated to the pursuit of happiness. America was founded by immigrants aspiring for better lives. If hope dies, the essence of the nation is lost. The damage from the Great Recession will be great, indeed, if the nation loses its heart.
Tuesday, December 7, 2010
The Balanced Federal Budget: Easy Come, Easy Go
If you keep up with the news, you might remember something about balancing the federal budget. Like maybe some commission chaired by a couple of old guys made a proposal for the government to stop borrowing so much g.d. money. But that austerity stuff is so last week. Economic stimulus has come back into vogue, and the smart set in Washington is doing the supply side shuffle. President Obama has been accused of being Keynesian. But he offloaded his outdated economic advisers and has apparently gone Reaganesque. His deal with Congressional Republicans for a two-year extension of the Bush II tax cuts, a one-year 2% cut in Social Security taxes, plus an extension of unemployment benefits for another 13 months, guarantees that the federal deficit will yaw wide or wider. A mild version of the federal estate tax (35% with a $5 million exemption) is supposed to be reinstated. But the parameters of this tax are designed to raise less money than the increase in the deficit this deal will foster.
The Democrats in Congress, who seemed to have dallied with the notion that they and the President belonged to the same party, are ripsh . . . well, very upset, about being excluded from the President's back door negotiations with Republicans. That, evidently, is the price those frumpy Dems pay for not being au courant. Wanting to have the pre-Bush tax brackets apply to people who made $250,000 plus, or, heck, even just those at $1 million or more, makes the Dems strangely look prudent. Oh well, federal debt securities really are soignee, if you look at them the right way.
The concept of this deal as economic stimulus produces cognitive dissonance. Since the deal would continue the status quo (the Bush tax cuts being currently effective and unemployment benefits having continued through November), and add only a 2% Social Security tax cut while reimposing an estate tax, the new deal (small caps intended) doesn't change much. And the government can't cut spending, can it? Because spending cuts would reduce stimulus, and stimulus is now all the rage.
Sure, the President and Republicans would say that they are serious about deficit reduction and the current deficits are just a temporary measure while the economy is swooning. But, in Washington, temporary measures that benefit important constituencies tend to have long life spans. Federal agricultural price subsidies, to take an example, were a temporary measure instituted when Franklin Delano Roosevelt was jauntily waving his cigarette holder. They still live on like welfare queens that never have a health problem.
If you listen closely, you might hear a little mouse in the corner of the Oval Office clearing its throat and muttering something about voodoo economics. Somehow, one gets the sense that somewhere, someone has made a doll called American prosperity and has a pin posed over it. The new supply side economics aren't like the Laffer yucks of yore. We now have a Federal Reserve that never saw an interest rate it didn't want to bash down (although that's turned into a game of whack-a-mole with today's rising rates). Plus a federal government that never misses a chance to borrow. The Fed is, more or less, monetizing the federal debt (i.e., printing money to buy federal debt, which brings a risk of inflation), although it would vehemently deny doing so. Having the First National Bank of Accommodation fund the giddiest of big spenders may well be a formula for disaster. And depression. The bond market dropped today. Stocks bought into the hype for most of the trading day, but sobered up as the market closed.
Tea Partiers and other pro-Republican voters from the mid-term elections might be fighting a touch of queasiness in their tummies. There isn't much in this deal for them. Ambitious Democrats are surely making preliminary estimates of their chances in the 2012 presidential primaries, and might be quietly chatting with a fund raiser or two. The President and the Republicans are trying to pitch their proposal as bipartisanship. But, in truth, it's just an old-fashioned political deal, like the kind made in the smoke-filled back rooms of yesteryear, done more to avoid problems (like reinstatement of the higher pre-Bush tax rates) than to accomplish anything. And like so many back room deals, it may ultimately create more problems than it solves.
The Democrats in Congress, who seemed to have dallied with the notion that they and the President belonged to the same party, are ripsh . . . well, very upset, about being excluded from the President's back door negotiations with Republicans. That, evidently, is the price those frumpy Dems pay for not being au courant. Wanting to have the pre-Bush tax brackets apply to people who made $250,000 plus, or, heck, even just those at $1 million or more, makes the Dems strangely look prudent. Oh well, federal debt securities really are soignee, if you look at them the right way.
The concept of this deal as economic stimulus produces cognitive dissonance. Since the deal would continue the status quo (the Bush tax cuts being currently effective and unemployment benefits having continued through November), and add only a 2% Social Security tax cut while reimposing an estate tax, the new deal (small caps intended) doesn't change much. And the government can't cut spending, can it? Because spending cuts would reduce stimulus, and stimulus is now all the rage.
Sure, the President and Republicans would say that they are serious about deficit reduction and the current deficits are just a temporary measure while the economy is swooning. But, in Washington, temporary measures that benefit important constituencies tend to have long life spans. Federal agricultural price subsidies, to take an example, were a temporary measure instituted when Franklin Delano Roosevelt was jauntily waving his cigarette holder. They still live on like welfare queens that never have a health problem.
If you listen closely, you might hear a little mouse in the corner of the Oval Office clearing its throat and muttering something about voodoo economics. Somehow, one gets the sense that somewhere, someone has made a doll called American prosperity and has a pin posed over it. The new supply side economics aren't like the Laffer yucks of yore. We now have a Federal Reserve that never saw an interest rate it didn't want to bash down (although that's turned into a game of whack-a-mole with today's rising rates). Plus a federal government that never misses a chance to borrow. The Fed is, more or less, monetizing the federal debt (i.e., printing money to buy federal debt, which brings a risk of inflation), although it would vehemently deny doing so. Having the First National Bank of Accommodation fund the giddiest of big spenders may well be a formula for disaster. And depression. The bond market dropped today. Stocks bought into the hype for most of the trading day, but sobered up as the market closed.
Tea Partiers and other pro-Republican voters from the mid-term elections might be fighting a touch of queasiness in their tummies. There isn't much in this deal for them. Ambitious Democrats are surely making preliminary estimates of their chances in the 2012 presidential primaries, and might be quietly chatting with a fund raiser or two. The President and the Republicans are trying to pitch their proposal as bipartisanship. But, in truth, it's just an old-fashioned political deal, like the kind made in the smoke-filled back rooms of yesteryear, done more to avoid problems (like reinstatement of the higher pre-Bush tax rates) than to accomplish anything. And like so many back room deals, it may ultimately create more problems than it solves.
Thursday, December 2, 2010
Where the Deficit Commission Missed the Boat
The National Commission on Fiscal Responsibility and Reform hasn't issued its final proposal (that comes after a vote tomorrow on its contents). But the draft report, available at http://www.fiscalcommission.gov/, shows that the commission missed the boat in several important respects.
End the Bush Wars. The federal deficit has been eliminated three times in the past 100 years: in the 1920s, in the late 1940s and most of the 1950s, and in the 1990s. Each instance followed the conclusion of a major war (World War I, World War II and the Cold War). Wars are expensive, and peace dividends are large. The federal budget hasn't been balanced in over a century without giving peace a chance. The deficit commission made wonky recommendations about putting national security and war spending on budgets, overlooking the fact that nations don't fight wars on a budget. War is an emotional process where combatants spend their way to ruin rather than lose (see fall of the British Empire for more information).
Our national security and military budgets are large, probably larger than the public realizes--many details are obscured in order to keep potential adversaries in the dark. The best way to reduce defense spending is to reduce the reasons for defense spending. America has no real stake fighting the Taliban in order to secure Hamid Karzai's power. And wealth, which he may be enhancing by siphoning off American aid, along with payoffs he reportedly extracts from the Iranians. American troops, it would seem, now fight and die for the greater prosperity of Hamid Karzai. The Taliban haven't tried to launch attacks on America. Al Queda (remember them?), now operationally located in Yemen, is our adversary. American forces should concentrate on the real enemy, and not fight people who would leave us alone if we left them alone.
Nor should U.S. troops maintain a significant presence in Iraq. If Iraq descends into civil war, do we really think American troops will roll out of their bases and intervene? Would the American public stand for more casualties just because the Shiites and Sunnis in Mesopotamia still don't get along after centuries of strife? Some 50,000 American troops remain in Iraq. Bring them home. It's time to end the Bush Wars. They've taken too many lives and too much money, and produced too little. The deficit commission wanted to avoid involving itself in war policy. But balanced budgets and wars don't mix. If we really want to reduce the federal deficit, we have to stop fighting wars that really don't matter to us.
Emphasize innovation, research and development, and growth. The deficit commission acknowledges that innovation, R&D and economic growth are worthy goals. But it does not seem to understand the importance of prosperity to reducing federal deficits. Earlier periods of balanced budgets enjoyed robust expansions of the economy. Growth boosts national income, and therefore tax revenues. Increasing federal cash flow may run counter to the conservative agendas of some commission members, who seem to favor doctrinal parsimony over practicality. But ideology is a poor substitute for results. Cutting and slashing federal spending simply can't reduce the deficit all that much. Boosting federal tax revenues, preferably through accelerated growth, is essential.
This is an instance where the best defense is a good offense. The deficit commission should have placed more emphasis on government policies and programs that would promote growth. More incentives and funding for research and development, including basic research, are needed. Transportation and communications infrastructure need to be repaired and improved. Greater civilian access to technologies developed for military use may offer big payoffs--the Internet and GPS are classic examples of Defense Department projects that evolved into highly valuable civilian sector systems. America's economic future rests on the efficient production and distribution of high value added products and services. The government should do more to move the nation down this path.
Deal with demographics. America's population is aging, and this changing demographic aggravates the problems of financing Social Security and Medicare. The deficit commission doesn't address the demographic question. It says nothing about family friendly policies. Raising kids is a ton of work, but it's a lot better than poverty in old age. The commission says nothing about immigration. Okay, this is a political red hot potato. But the immigration of the past 30 to 40 years is an important reason why America's demographics are still fairly sound, compared to the potentially catastrophic situations in some other industrialized nations. Immigrants are mostly young, and a well thought out policy favoring valuable workers could help significantly to keep America young, and not just at heart.
The deficit commission's parsimonious scoldings land like lumps of coal on the holiday season. Frowning a dour, parental austerity that clashes with America's heritage of optimism and faith in the future, the commission obsesses over myriad wonky prescriptions that bring to mind the over-attentiveness to detail of the Carter Administration and the national self-flagellation it seemed to encourage. In the past, America attained fiscal balance not by diving into policy minutiae but by ending wars, growing through innovation and risk taking, and absorbing the talented, ambitious and hard working from around the globe. Political reality is that many, and probably most, of the commission's proposals won't survive the legislative process. The ones that are enacted will probably leave large deficits in place. We simply can't cut our way to a balanced budget. They're like walks and singles where a home run is needed. We might as well swing for the fences.
End the Bush Wars. The federal deficit has been eliminated three times in the past 100 years: in the 1920s, in the late 1940s and most of the 1950s, and in the 1990s. Each instance followed the conclusion of a major war (World War I, World War II and the Cold War). Wars are expensive, and peace dividends are large. The federal budget hasn't been balanced in over a century without giving peace a chance. The deficit commission made wonky recommendations about putting national security and war spending on budgets, overlooking the fact that nations don't fight wars on a budget. War is an emotional process where combatants spend their way to ruin rather than lose (see fall of the British Empire for more information).
Our national security and military budgets are large, probably larger than the public realizes--many details are obscured in order to keep potential adversaries in the dark. The best way to reduce defense spending is to reduce the reasons for defense spending. America has no real stake fighting the Taliban in order to secure Hamid Karzai's power. And wealth, which he may be enhancing by siphoning off American aid, along with payoffs he reportedly extracts from the Iranians. American troops, it would seem, now fight and die for the greater prosperity of Hamid Karzai. The Taliban haven't tried to launch attacks on America. Al Queda (remember them?), now operationally located in Yemen, is our adversary. American forces should concentrate on the real enemy, and not fight people who would leave us alone if we left them alone.
Nor should U.S. troops maintain a significant presence in Iraq. If Iraq descends into civil war, do we really think American troops will roll out of their bases and intervene? Would the American public stand for more casualties just because the Shiites and Sunnis in Mesopotamia still don't get along after centuries of strife? Some 50,000 American troops remain in Iraq. Bring them home. It's time to end the Bush Wars. They've taken too many lives and too much money, and produced too little. The deficit commission wanted to avoid involving itself in war policy. But balanced budgets and wars don't mix. If we really want to reduce the federal deficit, we have to stop fighting wars that really don't matter to us.
Emphasize innovation, research and development, and growth. The deficit commission acknowledges that innovation, R&D and economic growth are worthy goals. But it does not seem to understand the importance of prosperity to reducing federal deficits. Earlier periods of balanced budgets enjoyed robust expansions of the economy. Growth boosts national income, and therefore tax revenues. Increasing federal cash flow may run counter to the conservative agendas of some commission members, who seem to favor doctrinal parsimony over practicality. But ideology is a poor substitute for results. Cutting and slashing federal spending simply can't reduce the deficit all that much. Boosting federal tax revenues, preferably through accelerated growth, is essential.
This is an instance where the best defense is a good offense. The deficit commission should have placed more emphasis on government policies and programs that would promote growth. More incentives and funding for research and development, including basic research, are needed. Transportation and communications infrastructure need to be repaired and improved. Greater civilian access to technologies developed for military use may offer big payoffs--the Internet and GPS are classic examples of Defense Department projects that evolved into highly valuable civilian sector systems. America's economic future rests on the efficient production and distribution of high value added products and services. The government should do more to move the nation down this path.
Deal with demographics. America's population is aging, and this changing demographic aggravates the problems of financing Social Security and Medicare. The deficit commission doesn't address the demographic question. It says nothing about family friendly policies. Raising kids is a ton of work, but it's a lot better than poverty in old age. The commission says nothing about immigration. Okay, this is a political red hot potato. But the immigration of the past 30 to 40 years is an important reason why America's demographics are still fairly sound, compared to the potentially catastrophic situations in some other industrialized nations. Immigrants are mostly young, and a well thought out policy favoring valuable workers could help significantly to keep America young, and not just at heart.
The deficit commission's parsimonious scoldings land like lumps of coal on the holiday season. Frowning a dour, parental austerity that clashes with America's heritage of optimism and faith in the future, the commission obsesses over myriad wonky prescriptions that bring to mind the over-attentiveness to detail of the Carter Administration and the national self-flagellation it seemed to encourage. In the past, America attained fiscal balance not by diving into policy minutiae but by ending wars, growing through innovation and risk taking, and absorbing the talented, ambitious and hard working from around the globe. Political reality is that many, and probably most, of the commission's proposals won't survive the legislative process. The ones that are enacted will probably leave large deficits in place. We simply can't cut our way to a balanced budget. They're like walks and singles where a home run is needed. We might as well swing for the fences.
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