Globalization

Deficits Matter -- But Right Now, Not So Much as Stimulus

The conventional Washington wisdom is that the key to economic policy today is deficit reduction for 2011, and battles over spending cuts almost certainly will dominate our politics for the next several months.  This so-called wisdom is the economic-policy equivalent of snake oil.  Britain and Germany both tried it, and now both are struggling with significant slowdowns.  The U.S. recovery remains modest, and the tax stimulus passed last December is the main reason why our economy should be able to take the fiscal drag from spending cuts without stumbling – and might well pick up if we forgo significant reductions.  Don’t take my word for it – just look at recent economic data.

The most important signals are coming from finance and housing, the two areas that ignited the financial meltdown of 2008-2009 and the deep recession that followed.  The Federal Reserve knows the real story, which is why it pumped another $200 billion into the long end of the bond market early this year.  The Fed’s goal is to keep long-term interest rates low so housing and business investment can pick up.  Well, it’s not working, at least not yet.  John Mason, a Penn State economist, has sifted through the latest banking data and found, as expected, that the cash assets at commercial banks increased by some $280 billion since early January.  Here’s the rub: Only one-third of that increase shows up on the balance sheets of American banks, while two-thirds are logged to the accounts of foreign-owned banks operating here. 

The second round of the Fed’s “quantitative easing” program has made foreign banks here cash flush, but they aren’t serious lenders to American businesses or consumers.  The main business of these foreign-owned banks is to keep credit flowing for the American operations of their big corporate customers from back home.  As for our own banks, loans and leases generated by the 25 largest U.S.-chartered banks dropped by $50 billion since the New Year, mostly in shrinking consumer lending.  The loan portfolios of the rest of the U.S. banking system expanded a little, but not in residential lending or commercial real estate, each of which declined by more than $20 billion.  More important, overall commercial bank lending is contracting.  The big banks also dumped $67 billion in Treasury securities since the first of the year, while smaller U.S. banks expanded their Treasury holdings nearly as much.  The big banks know what they’re doing: They sold to take their profits as Treasury rates inched up.  

The data on business investment since January 1, 2011, aren’t out yet, but the trend isn’t very bullish.  Business investments (not including inventories) grew throughout 2010.  But their rate of growth has slowed since mid-year, from gains of over 17 percent in the second quarter of 2010, down to 10 percent in the third quarter and down again to 4.4 percent in the fourth quarter. That trend closely tracks the winding down of the 2009-2010 stimulus, which was largely spent out by mid-year.  Consumer spending has been rising since the end of 2009 – again, thanks largely to the stimulus -- but the increases have been too modest to drive strong gains in business investment or jobs.

The main reason why consumer spending remains pretty weak, even with the big stimulus, is housing.  Once again, you can take the Fed’s word for that.  The primary asset of most Americans is their homes – the bottom 80 percent of U.S. households hold 40 percent of the total value of all U.S. residential assets, compared to just 7 percent of the total value of all U.S. financial assets.  And the value of those residential assets continues to fall.  According to the latest data, housing prices fell another 0.5 percent last December and stood 2.4 percent below their levels a year earlier.  That’s why 27 percent of all single family homes with mortgages today are worth less than their outstanding mortgage loans.  And the most powerful force driving down those home values are the home foreclosures which have been rising steadily since 2008 -- and are expected to increase another 20 percent this year.   The Fed’s latest $200 billion quantitative easing was designed to revive housing and business investment.  But that can’t happen when two-thirds of it is taken up by foreign-owned banks to meet the weekly credit needs of foreign-owned companies here.

There is another cloud forming on the economy’s horizon, and that’s rising energy prices.  The uprisings in the Middle East have rattled oil markets, and oil prices are up 25 percent since Thanksgiving.  Four of the last six U.S. downturns were triggered by oil price shocks, including the first phase of the 2007-2009 recession. If the revolutions stop at Libya, they shouldn’t have any major economic effects on our economy.  But if they spread to the really big producers like Iran and Saudi Arabia, an economy still beset by weak business investment, falling housing prices, and fragile consumer demand could take a big hit.  The most positive news is that last December’s tax stimulus – which, by the way, doesn’t include the Bush tax cuts, since they were already in place – should bolster consumer and business spending later this year.  The only reasonable conclusion is that the last thing the American economy needs right now is more spending cuts.  

Event: Today at 12pm - National Economic Council Deputy Director Jason Furman on "Winning the Future"

Furman

Today at 12pm NDN and the New Policy Institute will host Dr. Jason Furman, Assistant to the President for Economic Policy and the Principal Deputy Director of the National Economic Council, for an important discussion of the Obama Administration’s economic strategy. The conversation will focus on President Obama’s budget and efforts to "Win the Future" in the competitive, global economy of the 21st century. Dr. Furman will deliver brief remarks and NDN Globalization Initiative Chair Dr. Robert Shapiro will lead a discussion.

The event will be held from 12-1:15pm at NDN/NPI headquarters – 729 15th St NW, First Floor.

Lunch will be available. Click here to RSVP. The event will be live webcast starting at 12:15pm.

Event: Tuesday, Feb 22 - National Economic Council Deputy Director Jason Furman on "Winning the Future"

Furman

On Tuesday, February 22, NDN and the New Policy Institute will host Dr. Jason Furman, Assistant to the President for Economic Policy and the Principal Deputy Director of the National Economic Council, for an important discussion of the Obama Administration’s economic strategy. The conversation will focus on President Obama’s budget and efforts to "Win the Future" in the competitive, global economy of the 21st century. Dr. Furman will deliver brief remarks and NDN Globalization Initiative Chair Dr. Robert Shapiro will lead a discussion.

The event will be held from 12-1:15pm at NDN/NPI headquarters – 729 15th St NW, First Floor.
Lunch will be available. Click here to RSVP. The event will be live webcast.

This Week in the Economy: All Budget, All the Time

The President and Senate Democrats are calling it from the same playbook. Today leadership released their plan to "Win the Future" by, you guessed it, "Out-Innovating, Out-Educating, and Out-Building" and out-deficit reducing, as they signed on to the President's five year freeze on domestic discretionary spending.

The Federal Reserve now projects economic growth in 2011 to reach 3.4 to 3.9 percent. That's a nicely upgraded forecast from the previous range of 3.0 to 3.6. The employment picture is less good - 8.8 to 9 percent projected unemployment.

Former Bush speechwriter David Frum explains the conservative budget conundrum as follows:

Today though it's more relevant to think of conservatism as an attempt to draw a line connecting four points:

1) No tax increase
2) No defense cuts
3) No Medicare cuts
4) Rapid move to a balanced budget.

Obviously it's impossible to meet all four of those commitments. It would be difficult enough to combine #4 with even two of the first three.

Much of the struggle within the conservative world can be understood as a quiet debate over which of those commitments to jettison.

Steven Pearlstein declares the beginning of the budget fight by imagining what would have happened if the President had proposed a 60 cent hike in the gas tax a year ago. (The increase came anyway, but just because of increased gas prices.)

Since its budget time, and people are out there complaining about deficits and debt, here's the Most Important Budget Graph in the World, courtesy of the CBO:

What's it say? If you want to control deficits and debt, you've got to tackle healthcare.

For more on the budget and the economy, join NDN and the New Policy Institute for two major events. On Friday, February 18, we will host a discussion with a group of budget experts and economists, and on Tuesday, February 22, we will host a converastion with National Economic Council Deputy Director Jason Furman. Details on both available here.

The Economics and Politics of Cutting Deficits

The 2011 battle over the budget brings to mind the U.S.-Soviet nuclear arms talks of the 1970s and 1980s.  The issue is not whether the antagonists can settle everything at once, but whether each will accept modest concessions and keep on talking until the next round, when more incremental compromises can be reached, and so on into subsequent rounds.   The negotiations to contain deficits in the 1980s, early-1990s and latter-1990s all proceeded in just this way, one step at a time once the two sides had found a common frame of reference.  This week shows that any meeting of partisan minds is still a long way off, since President Obama and congressional Republicans haven’t found common ground to begin the process. 

Both sides agree that whacking away at deficits running at 10 percent of GDP is an economic necessity, but they remain far apart on what those economics actually portend.  The President sees the effort as part of the larger challenge of bolstering the competitiveness of American businesses and workers.  So, his administration’s case hinges on combining targeted public investments with targeted spending cuts and tax increases for upper-income Americans.  This “cut-and-invest” approach with a side order of taxes comes directly from Bill Clinton’s 1992 campaign program, and it’s no coincidence that Obama’s top economic adviser, Gene Sperling, helped manage economic policy in that campaign.  The approach is drawn directly from mainstream economics: Invest in things that support growth across industries and regions –basic R&D, infrastructure, and education and training – while gradual deficit reduction frees up capital for private investment.  As the public investments nudge up the returns on private investment, businesses will use the freed-up capital to develop new products and services, expand operations, and hire more workers.  Finally, the deficit cuts should come gradually so they don’t squelch the natural upswing in Americans’ demand for everything businesses produce. 

The best argument for the President’s approach is that it worked last time.  When Clinton followed this script, what followed included the longest expansion on record, as well as the strongest gains in business investment, jobs and incomes in 30 years.  To be sure, Japan demonstrated in the 1990s that waves of infrastructure spending for a slow economy can be wasteful, especially when powerful interests determine where that spending goes.  And the United States isn’t immune from that dynamic – the 2009-2010 stimulus had less long-term benefits than it might have, once Congress substituted its own parochial priorities for the broad public investments that Obama had laid out in his original plan.

The Republican budget proposals are targeted very differently.  Defense and entitlement programs are still off-limits; and since those two areas account for most federal spending, the GOP cuts for everything else are much deeper and don’t distinguish between public investments and other kinds of spending.  Moreover, the GOP economic logic doesn’t accommodate either higher revenues or a gradual glide path to lower deficits.  Much like David Cameron in Britain, they believe that without draconian cuts very soon, investors will give up on the United States and America could face a Greek-style default of its public debt.  

The trouble with the conservatives’ case is that the markets don’t buy it.  If investors believed that America’s credit worthiness is at any genuine risk, we would see sharp increases in the interest rate on long-term federal bonds as those investors demanded higher returns to offset that risk.  That’s simply not happening – though not because those investors don’t take deficit projections seriously.  Rather, based on the historic record, they still trust that the two parties will find a way to contain those deficits, just as they always did in the past. 

Despite this week’s threats by both sides, the markets are probably right that the economic costs of ignoring huge, unending deficits will eventually nudge the antagonists to the negotiating table.  The calendar suggests that Democrats may well blink first: The prospect that House Republicans may really refuse to raise the debt limit will likely extract larger spending cuts from the President and congressional Democrats, if only because they know that voters would probably hold the President responsible in 2012 for any economic cataclysm that might follow.  After that, it will be the Republicans’ turn to swallow higher taxes, much as Ronald Reagan did in 1982, 1983 and again in 1984.  The base will howl, but John Boehner and Mitch McConnell know that without more revenues, they’ll be forced to embrace program cuts that would make most Americans recoil.  And broad tax reform may give them some welcome cover -- for example, to bring down the corporate rate in exchange for measures to raise more revenues from the same high-income households that will benefit most from lower corporate taxes.  

All of this would be the prelude to a later round of even more consequential discussions, when entitlement reform takes center stage.  Serious talks on Medicare and Social Security almost certainly will require a foundation of trust absent today, built on prior agreements on other spending and taxes.  But if that trust remains unattainable, there will be no deus ex machina of the sort that finally resolved the nuclear arms race – the Soviet Union’s collapse under its own economic deadweight – to bail out the American economy in the next generation. 

For more on the budget, please join us at NDN on Friday at noon for a discussion of the budget and the economy. Details available here.

Two Major Economic Events: Feb 18 - The Budget; Feb 22 - NEC Deputy Director Jason Furman

NDN and the New Policy Institue will be hosting two events on the economy in the budget in the next week. I hope you will join us for both.

Friday, Feb 18 - The Budget and the Economy 

The release of President Obama's budget on Monday marked an important moment in the debate about the economic and fiscal future of the United States. Americans of all points of view are looking to this budget to understand the specifics of the President's approach to the great challenges of the day, from a competitive, global economy of the 21st century, to the need to accelerate innovation and growth, to long-term debt.

On Friday, February 18, NDN and the New Policy Institute will host a group of economic and budget experts to discuss these matters.

Robert J. Shapiro, Chair, NDN Globalization Initiative

Stan Collender, Partner, Qorvis Communications and author, Capital Gains and Games

William Gale, Senior Fellow, Economic Studies, The Brookings Institution

Kevin Hassett, Senior Fellow and Director of Economic Policy Studies, The American Enterprise Institute

The event will be held from 12-1:30 pm at NDN/NPI headquarters - 729 15th St NW, First Floor.
Lunch will be available. Click here to RSVP. The event will be live webcast.


Tuesday, Feb 22 - National Economic Council Deputy Director Jason Furman on "Winning the Future"

Furman

On Tuesday, February 22, NDN and the New Policy Institute will host Dr. Jason Furman, Assistant to the President for Economic Policy and the Principal Deputy Director of the National Economic Council, for an important discussion of the Obama Administration’s economic strategy. The conversation will focus on President Obama’s budget and efforts to "Win the Future" in the competitive, global economy of the 21st century. Dr. Furman will deliver brief remarks and NDN Globalization Initiative Chair Dr. Robert Shapiro will lead a discussion.

The event will be held from 12-1:15pm at NDN/NPI headquarters – 729 15th St NW, First Floor.
Lunch will be available. Click here to RSVP. The event will be live webcast.

A Budget that Cuts and Invests

This morning, as President Obama releases his budget, it's clear that his strategy is one best labeled "cut and invest." Jackie Calmes in The New York Times describes it:

The budget reflects Mr. Obama’s cut-and-invest agenda: It creates winners and big losers as he proposes to slash spending in some domestic programs to both reduce deficits and make room for increases in education, infrastructure, clean energy, innovation and research to promote long-term economic growth and global competitiveness.

The president is unveiling his budget to emphasize one of the winners: He will do so on Monday morning during a visit to a middle school and technology center in Baltimore.

Among the losers are programs that Mr. Obama has supported, even expanded, in the past: Popular programs for home-heating aid to poor families and for community services block grants would be cut in half, and a multi-state Great Lakes cleanup project would lose a quarter of its money compared to 2010.

Pell grants for needy college students would be eliminated for summer classes, and graduate students would start accruing interest immediately on federal loans, though they would not have to pay until after they graduate; both changes are intended to help save $100 billion over 10 years to offset the costs of maintaining Pell grants for 9 million students, according to administration officials.

Officials contrast the administration’s budgetary approach with that of House Republicans, who are voting this week to slash the current year’s spending by much larger amounts, sparing few programs from cuts and increasing spending on none.

“The debate in Washington is not whether to cut or to spend,” said a senior administration official on Sunday, speaking on condition of anonymity to brief reporters on the budget in advance of Mr. Obama’s Monday announcement of the spending plan. “We both agree we should cut. The question is how we cut and what we cut.”

There are some cuts that should be obvious, and the President outlined them in his State of the Union. Eliminating fossil fuel subsidies, for example, starts the list of corporate welfare that should be phased out. For more on a cut and invest strategy, I recommend reading Dr. Robert Shapiro's paper from 1997 entitled, "Cut and Invest to Grow." As the strategy around the budget becomes clearer over the coming days, it will ring familiar.

The underpinning for much of the Clinton era economic strategy, "cut and invest" is even more important now, following 8 years of economic and fiscal mismanagement coupled with a recession that was tough on the fiscal picture. No one should miss the irony in OMB Director Jack Lew's White House Whiteboard talk today, when he notes that there was a budget surplus last time he held that job.

For more on the budget, please join NDN and the New Policy Institute this Friday, as Rob Shapiro leads a discussion with budget expert Stan Collender, Brookings' William Gale, and AEI's Kevin Hassett.

President Obama's Weekly Address: Cut What We Can't Afford and Invest in the Future

In his weekly address, President Obama previews the release of the budget on Monday:

For more on the budget, join us on Friday, February 18 for a discussion with economists and budget experts and on Tuesday, February 22 as National Economic Council Deputy Director Jason Furman discusses the President's vision for winning the future.

NDN Event, Feb 18 - The Budget and the Economy

The release of President Obama's budget on Monday marks an important moment in the debate about the economic and fiscal future of the United States. Americans of all points of view will be looking to this budget to understand the specifics of the President's approach to the great challenges of the day, from a competitive, global economy of the 21st century, to the need to accelerate innovation and growth, to long-term debt.

On Friday, February 18, NDN and the New Policy Institute will host a group of economic and budget experts to discuss these matters.

Robert J. Shapiro, Chair, NDN Globalization Initiative

Stan Collender, Partner, Qorvis Communications and author, Capital Gains and Games

William Gale, Senior Fellow, Economic Studies, The Brookings Institution

Kevin Hassett, Senior Fellow and Director of Economic Policy Studies, The American Enterprise Institute

The event will be held from 12-1:30 pm at NDN/NPI headquarters - 729 15th St NW, First Floor.
Lunch will be available. Click here to RSVP.

I hope you will join us for this important discussion.

The Budget and the Economy

The release of President Obama's budget on Monday marks an important moment in the debate about the economic and fiscal future of the United States. Americans of all points of view will be looking to this budget to understand the specifics of the President's approach to the great challenges of the day, from a competitive, global economy of the 21st century, to the need to accelerate innovation and growth, to long-term debt.

On Friday, February 18, NDN and the New Policy Institute hosted a group of economic and budget experts to discuss these matters.

Robert J. Shapiro, Chair, NDN Globalization Initiative

Stan Collender, Partner, Qorvis Communications and author, Capital Gains and Games

William Gale, Senior Fellow, Economic Studies, The Brookings Institution

Kevin Hassett, Senior Fellow and Director of Economic Policy Studies, The American Enterprise Institute

 

 

 

 

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