What President Obama can do to improve the economy
I re-posted my April 2009 post, “Barack Obama as Herbert Hoover” in response to the recent deficit reduction gimmick offered up by the Obama Administration and Marshall’s similarly titled “Barack Hoover Obama.”
The point of my post was to make a non-ideological point – namely that Obama is early in the economic cycle, much earlier than Roosevelt. I also think he is earlier in the secular cycle as well (with 2010 akin to 1938 or 1974 versus 1982 for example – see Grading Obama’s economic policy after one year for more thinking on this). This suggests to me he needs to act differently than Roosevelt, Clinton or Reagan and may have and look to Hoover’s mistakes as instructive of what he could learn about policy.
When it comes to ideology, I am probably more of the ‘liquidationist’ bent in that I see malinvestment (i.e. too much exposure) in the FIRE (finance, insurance and real estate) sectors as the source of our problems. I think Marshall would agree this means we need to concentrate on the large debts in the private sector –specifically the household sector – as the key leverage point for a sustainable recovery. How we do that is another question altogether.
That said, Marshall has offered his advice, which I will posit here – adding my two cents afterwards. Marshall said via e-mail:
Obviously, if [Obama] does nothing, then the US is cooked. The US government did exactly this in 1937 and unemployment worsened. Japan did it in 1997 with the same outcome [see my post Beware of deficit hawks]. The UK government is likely to do it in 2010 with totally predictable results – their economy will falter. What the US government is now in danger of repeating is taking its economy down the fast track to a double-dip recession. With investment still flat, consumers trying to increase their saving ratio and net exports making a negative contribution to growth – the President and his advisors evidently believe the persistently high unemployment is something the private sector has to deal with.
No question the [stimulus] funds have been deployed in a very inefficient way. Virtually all of the administration’s focus thus far has been on the preservation of the financial interests of major banks. The government (through the Troubled Asset Relief Program (TARP), the Federal Reserve, FDIC and the US Treasury) has committed at least $23.7 trillion dollars to support the economy, out of which $2.3 trillion have been spent through June 30th (SIGTARP 2009: 139ff.). Most of this money has been allocated to the financial sector, and only minimal efforts have been applied to solve the debt problems of households and non-financial businesses.
So what could he do? Well a Job Guarantee program would be an excellent start. He can also help borrowers via real loan modifications; marginal and temporary loan modifications will not do; we need a significant and permanent reduction of debt payments; this is even truer if one consider that second lien mortgages are even more likely to re-default.
It is true that loan modifications may entail large fees and penalties that households cannot afford to pay; and, depending on circumstances and state laws, mortgage modifications might lead to a change from a non-recourse loan to a recourse loan, which makes households who re-default much worse than they were before the modification. Third, loan modifications usually have occurred far too late–after the borrower has long been delinquent. In fact, past policy initiatives like Project Lifeline gave a strong incentive to become a 90-day delinquent because a loan modification would not be considered until a borrower reached that stage. This state of affairs contributes to higher re-default rates because “the more serious the delinquency, the less likely the borrower will remain current after modification” (Office of the Comptroller of the Currency and Office of Thrift Supervision 2009: 31).
Essentially, we’ve got to find a more effective way to restart the economic process on the solid ground. You do that by dealing with the underlying cause of the problem: borrowers cannot meet the required payments. This implies sustaining their income and employment and, if necessary, drastically modifying their debt service burden. The whole boom of the 2000s (and more broadly the growth process that emerged at the in the early 1980s) was based on household borrowing and the continuation of negative saving trends (that is, household deficit spending). A good place to start recovery efforts, therefore, would be to change this method of economic growth.
I agree wholeheartedly with the aim of Marshall’s policy proposals. What we need is less household sector and small business debt. We also need to have an economy that is less dependent on the FIRE sector because that dependence is always associated with high levels of private-sector debt as it is in Iceland, the UK, and Ireland as well, for example.
As for differences, I am much more concerned with setting up mechanisms to reduce dependence on the FIRE sector and private sector debt burdens than is Marshall. And I think a double dip would be likely regardless, if my preferred policy steps were taken. If someone could convince me that future government initiatives would be productive and government would put an end to the bailout culture, I wouldn’t be moving away from stimulus happy talk to focus on malinvestment and there would be a lot more congruence between Marshall’s proposals and my own. Obama’s latest moves only confirm for me that cronyism, political gimmicks and short-termism rule the roost and will continue to do so.
One thing short-termers, tax cut fetishists, Marshall and I can all agree on is the utility of a temporary payroll tax cut to boost demand while the economic adjustment process is underway.