No Stomach for Stimulant Care

Financial Review

PUBLISHED: 14 Apr 2012

Anna Bernasek

A second marriage, in the immortal words of Samuel Johnson, represents the triumph of hope over experience. That’s a good assessment of US economic policy.

It’s been four years since the great recession came and the best to be said about the US economy is it may recover in a few more years. Last year real gross domestic product grew 1.7 per cent and most economists forecast growth of 2 to 2.5 per cent for 2012. No one expects much change in 2013 and 2014.

Unemployment is stuck above 8 per cent and recent signs of life in the labour market seem fading. The latest employment data show jobs growth stalled in March, barely keeping up with rising population.

Yet policymakers aren’t ready to act. They hope that somehow everything will turn out just fine.

At the Federal Reserve, the chairman and board have adopted a wait and see attitude. Recall the central bank’s dual mandate. Not only is the Fed charged with keeping prices stable, it also must promote full employment.

Inflation is in the comfort zone at about 2 per cent, but 8 per cent unemployment is perhaps double what it should be. Yet comments from Fed chairman Ben Bernanke and minutes from a recent board meeting suggest that the central bank has no intention of further monetary stimulus unless things go horribly wrong.

And that’s despite the central bank’s own forecast of persistently high unemployment and moderate growth until well into 2014. So you can forget about the dual mandate.

What about Congress? As usual, America’s legislators seem far more concerned with ideology than economics. Whenever economic policy comes up, so do cries for spending cuts. But fiscal tightening, at least right now, is exactly the opposite of what sound economics calls for. A move to cut government spending would only make matters worse. Even the Fed’s assumption of a slow recovery may have to be revised if Congress gets its way.

The quality of the political debate is even worse than you might think. Earlier this month, Republicans released their budget proposal, drafted by Representative Paul Ryan, a Wisconsin Republican who chairs the budget committee.

The main idea behind the Ryan budget is to shrink government in order to reduce the deficit. Laissez-faire groups such as the misleadingly named Club for Growth were quick to criticize Ryan’s plan for not cutting spending enough. Democrats made the rather obvious point that cutting benefits to the poor while giving the super-rich further tax cuts might prove unpopular.

Even some seemingly reasonable commentators have lost the plot, commenting favourably on the Ryan proposal. They’ve had trouble getting a simple idea: the economy, and in particular employment, could use a boost rather than a further handicap.

But suppose, for a moment, you are willing to forego helping the economy in the interest of deficit reduction. The deficit and US government debt, after all, are big long-term economic problems. Yet despite all the attention it has received, the Ryan budget is not credible on deficit reduction.

Together with spending cuts, it proposes $US4.6 trillion in tax cuts over the next 10 years. That amount is going to be made up, says Ryan, by closing unspecified “loopholes”.

There’s just one little problem, though. Americans only want to close loopholes they don’t personally use. So there is not much prospect of closing them across the board, thereby raising taxes on all of the beneficiaries.

Meanwhile, Ryan’s proposal details spending cuts with laser-like precision. He would remove about $US3.3 trillion from low -income programs over 10 years, according to the Centre on Budget and Policy Priorities. For those who believe in extreme self-reliance, that may be fine. But in an election year such austerity looks like a dead letter.

Then there’s Ryan’s take on military spending. His budget won’t cut anything. With two deeply unpopular wars begging to be downsized, propping up military spending seems a bit out of touch.

The trouble with taking Ryan’s plan seriously is that it’s merely an ideological place holder. Ryan shifted the policy debate away from jobs and onto the hoary old chestnut of smaller government, at a time when the economy can’t easily withstand a contraction in fiscal policy.

Stepping back for a moment, it seems that lots of people in Washington can live with 8 per cent unemployment.

After all, unemployment doesn’t seem to be harming everyone equally. The stockmarket has been fairly strong. Corporate profits look good. And a big pool of unemployed workers keeps wages down and inflation in check. There’s no social unrest to speak of and, admittedly, unemployment has come down from 10 per cent.

Unless something really bad happens, don’t expect any change on economic policy. It’s actually right where the 1 per cent wants it to be.