Republicans are fond of saying that the U.S. doesn’t have a revenue problem, it has a spending problem. They are dead wrong. We have neither a revenue problem, nor a spending problem. The critical issue of the day is that the U.S. has a GROWTH problem.(Or a jobs problem, if you prefer. But we can’t get more jobs without growth).
Sadly, the whole fight over the budget deficit is a misguided waste of time and energy. The real problem facing the US is a growth deficit. As this blog always holds central to any understanding of the current and future global economy, the world’s demographics are changing. The US is aging, most of the global growth in the labor force of young workers is happening overseas, and so growth in rich developed nations is getting harder to come by.
Staying competitive would have required major changes in our educational system, investments to repair and improve our infra-structure, support for basic research, expanded deals to facilitate our international trade, and encouragement to immigrant entrepreneurs and workers. But in all these areas, we slipped or moved backwards for most of the last two decades. The financial wizardry that let us sustain artificially high growth rates up to 2007 by producing ever more arcane debt instruments steered more and more of our economy’s profits to the financial sector, and left us perched on the edge of a cliff of leverage, from which we have now fallen. What is amazing is that after the initial stimulus and Fed quantitative easing programs stopped our fall, we have now essentially stopped even trying
to get back up.
The financial wizardry that let us sustain artificially high growth rates up to 2007 by producing ever more arcane debt instruments left us perched on the edge of a cliff of leverage, from which we have now fallen. What is amazing is that after the initial stimulus and QE programs stopped our fall, we have now essentially stopped trying to even get back up.
The US stock market had a quick fall (although a substantial recovery) because up to July 29, it had priced in a continuing recovery from the 2008-2009 recession — based on the previously published GDP data. But on July 29, the Commerce department released its revised GDP growth figures for 2008-2010, and they did not look good.
I do not understand why these data revisions have not gotten more play in the media. Here are the numbers from the Commerce Department Report:
“From the fourth quarter of 2007 to the first quarter of 2011, real GDP decreased at an average annual rate of 0.2 percent; in the previously published estimates, real GDP had increased at an average annual rate of 0.2 percent.”
That’s right — the revision says that instead of growing by 0.2% per year, for the last three years, the GDP actually was shrinking by that amount, over this period. For 2009, the decline in GDP was increased in the revision by almost a full percentage point, from -2.6% to -3.5%!
So yes, Virginia, things really were worse in 2007-2010 than the media and politicians seemed to think.
And while 2010 looked like the start of a promising recovery (the revision here was positive, increasing annual GDP growth from 2.9 percent that year to 3.0 percent) 2011 now looks downright awful. The new estimates of GDP growth for this year are an increase of 0.4 percent in the 1st quarter and 1.3% in the second quarter, or about 0.8% at an annual rate for the first half of the year. That means growth in 2011 was only about one-quarter as fast as in 2010.
Of course, there were circumstances that affected growth, from the Japanese earthquake and nuclear disaster to the European debt crisis to terrible weather and drought in the US. But will we bounce back from these setbacks? Or will the continued political wrangling and S&P downgrade and other ‘circumstances’ continue to keep down growth?
These are the questions that are really driving the volatility in the stock market.
So where do we go from here? Will we have 1% growth for all of 2011? Or will growth bounce back to a 3% annual rate in the rest of the year?
I fear that hoping for 3% growth for the second half of 2011 is wildly optimistic. The European debt problem is far from solved; US consumer debt and deleveraging continue to weigh on the economy; the government stimulus, including aid to automakers and state governments that did a great deal to bring us 3.0% annual growth in 2010 is not going to be repeated; and the frantic, misleading, and distracting debates on the Federal budget deficit look to occupy the political scene through the rest of the year, driving out any effort to develop policies to promote growth.
It is really sad, sad, sad, that we are inflicting these losses on ourselves. If the economy had grown at a normal rate of 3.0% per year from 2007 through the first half of 2011, it would have grown by $2 trillion dollars (in constant 2006 dollars). In fact, according to these latest revisions, the U.S. economy grew by about $180 billion dollars over this four-and-a-half year period. Lack of growth meant we lost about $1.7 trillion dollars in potential earnings, enough to have put 7.5 million workers per year on the job at jobs paying an average of $50,000 per year.
So it is really simple — either we return to reasonable growth, at 2.5% per year or more — or we cannot solve the unemployment problem, or the Federal deficit, or any other crucial issue. And yet where are the policies, the debates, the actions on growth?
Submerged beneath a frothy wave of fighting over the budget deficit. Sad, really sad.
One could argue that the growth problem is correlated to the amount of debt and uncertainties in federal policies. I am no economist, but I would like your opinion on “Growth of debt in time” http://www.nber.org/papers/w15639
The critical factor for our future is the relationship between the growth of the debt and the growth of the economy. If the debt grows faster than the economy, sooner or later it will get so large that interest payments drive out all other government spending or force huge increases in taxes. So we have to avoid getting to that ‘blow up’ stage. One way to achieve this is to reduce debt growth by cutting spending or raising taxes. HOWEVER — you cannot just do that and ignore the effects on the economy as a whole. If the measures you take to reduce the debt growth also slow the economy, to where the economy is growing even slower than the debt, you are still in just the same trouble as before. Right now, we are not at the ‘blow-up’ stage, or we were not there before the 2008-2009 recession. Then in this recession, like in any downturn, government revenues from taxes shrink with the economy, and expenses grow to pay unemployment and to help states and local governments. So if you only look at 2009 and 2010, it appears that our debt is growing too fast. But these were not normal years. The debt growth in those years was because the economy tanked, not because of permanent new spending. So if we fix the growth problem, we will be back in a ‘safe’ condition in which our debt growth is slower than our economic growth. But we do face two big problems. First, government spending is going to be driven up by rising medicare and social security costs because the US population is getting older and the increase in health costs is out of control. If we do not do anything to increase revenues and cut those costs in the future, especially after 2015, then we will indeed face a ‘growth of debt in time’ that will sink us. So we need to address those issues head-on. I have suggested several simple things we can do: raise the social security retirement age, index benefits to the rate of inflation rather than to wage increases, and means test so that benefits above contribution do not go to those who already have ample funds for their retirement. Medicare will also have to have some means-testing and US health care costs in general need to be slowed by setting incentives for health care provider (who now get paid more the more they spend on patient care). On the revenue side, social security taxes should be collected on all income, not just the lower earnings brackets, and we might even consider funding social security through a value-added tax instead of a tax on payrolls (which is a tax on jobs, pure and simple).
So if we can restore growth, and address the long-term problem of halting the rapid rise of medicare and social security spending while adding a bit of revenue, we will NOT have a long-term debt problem — although such a problem is ‘baked in’ to our future due to demographics and health inflation if we don’t change things. But the key to everything is restoring growth, and that will take some current investments in supporting innovation, rebuilding infrastructure, and education. Of course, there are crazy spending things we should cut now — $100,000 salaries for life guards and $200,000 pensions for policemen are not sensible uses for public money. But cutting public radio or planned parenthood isn’t going to have any effect on the “growth of debt in time either.” If you get the politics out of it, it is really all pretty simple. We need to restore growth in the economy as a whole, or we can’t afford any government and people won’t have jobs. Once that is done, we need to reign in the long-term cost of health care and pensions. Then we need to raise government revenues enough to cover the cost of the government we want, just enough to make sure debt growth is lower than economic growth.
I forgot to check back and read your response until now (or more obviously click the check box :-).
Thanks for the detailed response. I agree, but can we “…get the politics out of it…”? It seems our current political environment is pushing us away from a moderate response and more towards polar opposites in which each side has their die-hards and the majority loses. Will it take a ‘blow-up’ to get us out of this spiral?