US Econ Intellectual Policy Void Becoming Painfully Clear
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15 September 2010. By David Caploe PhD, Chief Political Economist, EconomyWatch.com
Even before coming aboard here at EconomyWatch, we have long argued that one of the major aspects of the American crisis was the intellectual emptiness of those vaunted centers of higher learning and research.
And as the US lurches from one clearly weak or bad “solution” to another in trying to get itself out of its mess,
15 September 2010. By David Caploe PhD, Chief Political Economist, EconomyWatch.com
Even before coming aboard here at EconomyWatch, we have long argued that one of the major aspects of the American crisis was the intellectual emptiness of those vaunted centers of higher learning and research.
And as the US lurches from one clearly weak or bad “solution” to another in trying to get itself out of its mess,
this intellectual weakness has become painfully clear to almost all informed observers.
To be sure, this lack of ideas is hardly restricted to the US,
But no other country claims to be as academically prestigious –
which is, to be sure, something quite different from intellectual rigor –
as the US, so, even by its own standards, the current failure of the US policy intellectual elite to come up with anything more than the standard –
and by now discredited – formulas must be considered meaningful in a larger context.
And so this review of potential economic options is a grim reminder of how badly this supposed “structural strength” of the US is hardly that at all.
The American economy is once again clearly tilting toward danger.
Despite an aggressive regimen of treatments from the conventional to the exotic —
more than $800 billion in federal spending, and trillions of dollars worth of credit from the Federal Reserve —
fears of a second recession are growing,
along with worries the country will face several more years of lean prospects.
Last month, Ben Bernanke, chairman of the Fed, speaking in the measured tones of a man whose word choices can cause billions of dollars to move,
acknowledged that the economy was weaker than hoped,
while promising to consider new policies to invigorate it, should conditions worsen.
Yet even as vital signs weaken —
plunging home sales, a bleak job market and confirmation that the quarterly rate of economic growth had slowed to 1.6 percent —
a sense has taken hold that government policy makers cannot deliver meaningful intervention.
The situation has left American fortunes pinned to an uncertain remedy: hoping that things somehow get better.
It increasingly seems as if the policy makers attending like physicians to the American economy
are peering into their medical kits and coming up empty,
their arsenal of pharmaceuticals largely exhausted
and the few that remain deemed too experimental or laden with risky side effects.
The patient — who started in critical care — may have been showing
potential signs of improvement in the convalescent ward earlier this year,
but has since deteriorated.
The doctors cannot agree on a diagnosis,
let alone administer an antidote with confidence.
This is where the Great Recession has taken the world’s largest economy,
to a Great Ambiguity over what lies ahead, and what can be done now.
Economists debate the benefits of previous policy prescriptions,
but their sterile debates have an air of irrelevance and unreality.
And this lack of connection to observable realities has had an effect on the dynamics of the political system as well.
The future is now so colored in red ink that running up the debt seems risky in the months before the Congressional elections,
even in the name of creating jobs and generating economic growth.
The result is Democrats and Republicans have both foresworn virtually any course that involves spending serious money.
As we have pointed out countless times, the growing impression of a weakening economy, combined with a dearth of policy options,
has reinvigorated concerns that the United States risks sinking into the sort of economic stagnation
that captured Japan during its so-called Lost Decade in the 1990s.
Then, as now, trouble began when a speculative real estate frenzy ended,
leaving banks awash in debts they preferred not to recognize
and hoping that bad loans would turn good, or at least be forgotten.
The crisis was deepened by indecisive policy,
as the ruling party fruitlessly explored ways around a painful reckoning —
boosting exports, tinkering with accounting standards.
“There are many ways in which you can see us almost surely being in a Japan-style malaise,”
said the Nobel-laureate economist Joseph Stiglitz,
who has accused the Obama administration of underestimating the dangers weighing on the economy.
“It’s just really hard to see what will bring us out.”
Japan’s years of pain were made worse by deflation — falling prices —
an affliction that assailed the United States during the Great Depression
and may be gathering force again.
While falling prices can be good news for people in need of cars, housing and other wares,
a sustained, broad drop discourages businesses from investing and hiring.
Less work and lower wages translates into less spending power,
which reinforces a predilection against hiring and investing — a downward spiral.
Deflation is both symptom and cause of an economy whose basic functioning has stalled.
It reflects too many goods and services in the marketplace with not enough people able to buy them.
For more than a decade, the global economy was fueled by monumental spending power
underwritten by a pair of investment booms in America —
the Internet explosion in the 1990s, then the exuberance over real estate.
As housing prices soared, homeowners borrowed against rising values,
distributing their dollars to furniture dealers in suburban malls,
and furniture factories in coastal China.
But the collapse of American housing prices severed that artery of finance.
Homeowners could not borrow, and they cut spending,
shrinking sales for businesses and prompting layoffs.
Early this year, some economists declared that the cycle was finally righting itself.
Businesses were restocking inventories, yielding modest job growth in factories.
Hopes flowered that these new wages would be spent in ways that led to the hiring of more workers — a virtuous cycle.
But the hopes failed to account for how extensively spending power had dropped in the American economy,
and how uneasy people were made by every snippet of data showing that
houses were not selling, employers were not hiring, and stock prices were foundering.
Now, a new cause for concern is growing:
the flat trajectory of prices,
which might metastasize into a full-blown case of deflation.
The primary way to attack deflation is to inject credit into the economy,
giving reluctant consumers the wherewithal to spend.
The chief deflation fighter is the Federal Reserve,
which traditionally adjusts a benchmark overnight rate for banks
that influences rates on car loans, mortgages and other forms of credit.
Unfortunately, just as in Japan, the Fed pulled this lever long ago,
and has kept its target rate near zero since late 2008.
The Fed has also been more pro-active,
albeit in a way that was not only questioned at the time, but has yet to bear any visible fruit.
During Black September, the Fed lightened the load of those poor, Too-Big-To-Fail banks,
relieving them of their troubled investments,
many linked to mortgages, to give the banks room to make new loans.
Of course, the banks have COMPLETELY failed to do this,
instead just sitting on all that money, given to them by the Fed for NO INTEREST.
Well, that’s not exactly correct.
True, they haven’t loaned it to businesses,
which is why this – completely unnecessary – Great Recession is rapidly looking like a Depression.
They HAVE put it into short-term loans,
so they are actually making a quick profit from that money
that was SUPPOSED to go out into the economy.
But as we have said many times, it’s only in China that politicians tell banks what to do –
apparently everywhere else in the world, as in the US, it’s the bankers who are in charge.
This engendered the sort of debate likely to fill doctoral dissertations for generations –
promising more irrelevance and lack of connection to obvious real world problems.
Most economists – they’re they are again – praise the Fed for confronting the possibility of another depression.
But the Fed added to the nation’s debts, which, of course, had been run up beyond all belief
by the Reagan/Bush/Cheney policies of massive borrowing –
usually for totally unnecessary military spending – AND cutting taxes.
Of course, most Americans forget this, since their time frame barely extends to two years in the past, if that –
with the exception, of course, of traumas like 9/11 that allow them to express their usually unspoken prejudices.
The dramatic expansion of the national debt —
which began with Reagan, and exploded during the Cheney / Bush nightmare —
has ratcheted up fears that, one day, creditors like China and Japan
might demand sharply higher interest rates to finance American spending.
Of course, since the US is the biggest export market of BOTH these countries,
they would have NO reason to do anything like this,
since they NEED a prosperous America,
Japan to get out of its own deflation by actually selling products,
and China to make sure its efforts to stimulate its economy don’t result in runaway inflation,
but are undergirded by real sales outside the country.
But don’t bother trying to tell that to Americans –
it’s WAAAY too complicated for them to imagine a scenario of
NECESSARY US co-operation with the old and new Asian giants.
In this imaginary scenario, put forward by the extremely wealthy and their “running dogs” in the Republican party,
those rates would spread through the economy and inflict the reverse of deflation:
inflation, or rising prices, as merchants lose faith in the sanctity of the dollar
and demand more dollars in exchange for oil, electronics and other items.
However, there IS such a thing as reality.
So far, the reverse has happened.
As investors lose faith in real estate and stocks,
they are flooding into government savings bonds, keeping interest rates exceedingly low.
Still, inflation worries occupy the people who have a lot of money and those who do their bidding, not least the governors of the Fed.
The Fed has been seeking a graceful exit from its interventions, aiming to unload its cache of mortgage-linked investments –
although who’s going to actually BUY these legitimately named “toxic assets” remains a complete mystery –
and — likely in the far future — lift interest rates.
See what we mean about the lack of intellectual heft –
let alone connection to observable reality – in policymaking circles ???
But the recent disturbing economic news has delayed those plans.
What a surprise.
Last month, the Fed said it would take the proceeds from its mortgage-linked investments
and buy Treasury bills to keep longer-term interest rates down.
The Wall Street Journal reported this decision came amid substantial disagreement among the Fed’s governors,
suggesting future action will be constrained by fears of – completely non-existent and imaginary – inflation.
Some point to Germany as an example of how “austerity” works.
But we have already shown that the key domestic factor in German job stability has been the kurzarbeit/short work system,
which is a system the right in the US would NEVER allow to be instituted,
and externally how dependent Germany is on exports to China for its “prosperity.”
Thankfully, most economists who are close to the policy making arena for both parties
take the position that austerity is the wrong medicine for what ails the American economy,
and they dismiss warnings about inflation as akin to focusing on the side effects of chemotherapy in the face of cancer.
First, they argue, take the medicine and stave off the lethal threat; then deal with the collateral problems.
A rare example of real-world sensibility from the policy-making elite – but only in the sense of pointing out what NOT to do.
They’re still more than clueless when it comes to developing a positive policy
that might actually improve the current conditions.
Alan Blinder, a former vice chairman of the Federal Reserve,
and now an economist at Princeton, my graduate alma mater,
argues that a lost decade now looms as “a much bigger risk.”
The Fed appears to be running out of powder.
“Its really powerful ammunition has been expended,” Mr. Blinder says.
And yet despite the guaranteed lifetime employment that comes with tenure,
conventional academic economics still has yet to change its “models,”
let alone come up with realistic proposals for improving people’s lives.
And no one, unfortunately, exemplifies this UN-willingness to change than Fed head, and former Princeton professor, Bernanke.
Just listen to this guy.
“The issue at this stage is not whether we have the tools to help support economic activity and guard against disinflation,” he said. “We do.”
Oh really ???
Then why haven’t they been used ???
“The issue is instead whether, at any given juncture, the benefits of each tool, in terms of additional stimulus,
outweigh the associated costs or risks of using the tool.”
Brilliant, dude – only, as the saying goes, “if not now, WHEN ???”
Are you saying that you don’t know what the “side effects” are going to be,
so even though, rest assured America and the world, we DO have the appropriate tools to fix the mess
that everyone but China / India / SE Asia is in,
we’re NOT going to use them because we’re not sure what else might happen ???
If so, Ben, then what GOOD are all these economics departments –
and the literally hundreds of millions of parents’ tuition dollars in salaries and benefits they command –
if, some two years AFTER Black September 2008,
they STILL don’t have the slightest idea of what to actually DO
to help the US & global economies improve ???
If the answer that pops into your head is, “they’re not much good at all”, don’t throw it away – you’re on the right track.
Right now, many homeowners owe the bank more than their homes are worth,
prompting some to abandon properties, adding inventory to a market choked with vacant addresses.
An Obama administration program allegedly aimed at slowing foreclosures has prolonged trouble, say some economists,
by failing to relieve borrowers of unsustainable debt burdens
or making transparent the extent of losses yet to be confronted by the financial system.
“The big question is, who’s going to swallow the losses,”
says Mr. Stiglitz, as we have been arguing for years.
“It should be the banks, but they don’t want to.”
And it certainly doesn’t look like Obama ever intended to even TRY to make them take responsibility for THEIR mistakes.
Instead he goes along with the banks’ obvious plans to dump the mess on the taxpayers.
“We’re likely to be in paralysis for years if they prevail,”
according to this article in the New York Times.
Indeed, Joe, which is why we have been talking about “Lost DecadeS” in the US and EU ever since Black September 2008.
The Treasury sits in the middle, concerned by the continued weakness of housing,
yet unwilling to pressure banks to write down mortgage balances.
Like their Japanese counterparts a decade ago,
Treasury officials worry that forcing the banks to take losses could weaken them and risk another crisis.
By default, muddling through has emerged as the prescription of the moment.
And that, of course, is the grisly confirmation of the intellectual void at the center of the American economic policy making elite.
Aside from a few, basically de-legitimated in the “profession”,
voices like Stiglitz / Roubini / Krugman
[ except when he goes on, in the most conventional way, about Chinese currency values … for reasons we’ve already cited that are clearly wrong ]are ignored and ridiculed by the “mainstream” of academic economics.
That is one MAJOR reason the US is in the mess it’s in today,
and will continue to muck around in, for the foreseeable future.
David Caploe
Editor-in-Chief
EconomyWatch.com
President / acalaha.com
