The Economic Future, Debts, Lies and Cowboy Economics
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Image: Kevin Lamarque/ Reuters
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ike the umpteenth review of a bad film that we have already watched, the downgrading of United States debt by Standard & Poor’s was neither revealing nor surprising. The world’s largest economy has lived beyond its means for a very long time until its debt burden exploded into $14.6 trillion, more than thrice the entire wealth of all the world’s 1,210 billionaires on Forbes List.
But what is disconcerting to the rest of the world is the apparent nonchalance of the US political system. Beyond a bipartisan commitment to brinkmanship, America hasn’t offered a credible policy to dig itself out of this fiscal quagmire.
Even the world’s poorest economies have paid the price for America’s folly — in the form of elevated inflation. Violent protests are becoming common across such nations. Europe is a poor copy of the US, with all the bad borrowing habits but without the quick capacity to print currency. China’s debts have been exposed to be much higher than admitted previously. India is in the throes of widening public unrest against a regime perceived to be weak and corrupt. Growth is sagging in both emerging economies.
In other words, is America leading the world in a march towards an economic disaster not experienced by anyone living? This is the question that four leading economists with a foot on the ‘Ground Zero’ of this mayhem answer in the following pages.
Raghuram G. Rajan
Profile: Economic advisor to the Indian Prime Minister; professor of finance, University of Chicago’s Booth School of Business; advisory council member, U.S. FDIC; former chief economist, International Monetary Fund.
Key Ideas:
Trying to inject more economic stimulus will offer diminishing returns.
Despite the S&P downgrade, United States bonds are safe.
The paranoia we’re seeing about a double dip recession in the United States is a little misplaced, I think. If you delete the last few days following Standard & Poor’s (S&P) downgrade, what we have is a slow recovery, but a recovery nevertheless. If there is another recession at these levels, apart from the fact that we don’t really know what these last few days have done for confidence, I would suspect it would be a mild recession where we go below zero for a couple of quarters and come back again. But it’s not anywhere near the terrible recession we had in 2008.
It’s not so much that we should be worried about another recession; we should be worried about upping growth from where it is. The real issue is why the US is not growing faster. I think we need to stop fretting continuously about needing more monetary and fiscal stimulus. Instead, we must focus on tackling problems more directly. The US needs to think very seriously about improving the skill base of its workforce. It must tackle the housing bust. Trying to inject more stimulus has diminishing returns.
Managing the debt and long-term fiscal situation is important and necessary for people to retain confidence in the US. But it’s a slower process partly because America is very divided politically. People keep pointing to Congress saying what incompetent idiots they are. The truth is the electorate itself is horribly divided. Unfortunately, one set of people is sending one set of instructions to representatives, and the other set is sending diametrically opposite instructions.
Take the standard Democrat voters’ view, which is ‘we’re going to balance this budget by taxing the rich, presumably meaning anybody earning more than $250,000 a year. But we will protect our entitlements.’ When you do the math, that doesn’t make any sense because there’s not enough money among the rich to provide for the entitlements that are going to explode over the next few years.
Similarly the math the Republicans do doesn’t make sense. Saying we’re going to shrink spending back to where the revenues are, currently 15 percent of the GDP, is not going to work. It’s an enormous amount of cutback without doing the kind of investing you have to do in some areas. Both sides have to realise that their prescriptions are simply unrealistic.
What you saw with the debt ceiling debate is politicians reiterating their playbook until the last minute when there was some compromise largely on the side of the Democrats and much less on the side of the Republicans. But that was to be expected. Even the fact that they pulled it off in the last moment is still seen as a failure by President Obama.
I hope America finds a way to deal with its fiscal problems, if not now then after the next election. After the election they’ll find nothing much has changed and they’ll have to get down to the hard brass tacks of actually negotiating some sort of compromise.
I think the S&P downgrade, which is in response to these problems, is not right in a relative sense. Let me explain. Which country would you put your money in today? The US or Belgium? Belgium is rated the same as the US, has a higher debt to GDP ratio, doesn’t have its own currency, and doesn’t even have a government because both sides don’t know if they want to be part of the same country. Are the politics there more fractured or less fractured than the US? I would guess that if you don’t have a government, you’re worse off than the US right now! So in a relative sense, it doesn’t make any sense that S&P would downgrade the US to Belgium’s level. But in a time series sense, they’re saying things are getting worse than they were and that’s absolutely right.
When you look at how the markets react, they’re basically trying to look at what is safe relatively. And so far they’ve clearly voted for America. But places like France have blown out, relative to the US. So in that sense I think the market still seems to think that US bonds are safe and I would agree with the market.
The thinking that the US model has failed and economic policy has failed is a little extreme. In a balance sheet recession and recovery of the kind that we’re having, you have to focus on where the problems are and try and tackle them. The broad-based macro stimulus that typically works in a classical recession is not as effective.
When people say this is the worst they’ve seen, I think they exaggerate. It’s always fun to say we live in a hotter world, a colder world, a more horrible world where children don’t treat their parents as well as they used to and so on. US corporations are among the healthiest in the world. The US is a large diversified country, has a strong economy, and until they really mess up politically, it’s unlikely we’re going to see defaults in the US debt.
(As told to Sujata Srinivasan)
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Professor Meltzer, for example, advocates a «five point agenda», which includes cuts - no doubt in his private vision, drastic such - in welfare spending (imagine the deflationary pressure such a measure would have on the US economy, where realistic unemployment figures are over 16 %, the world-leading proportion of the population that is incarcerated not counted !) and a moratorium on business regulation, in a situation in which the removal of such regulation from 1982 onwards gave us the 2008 crash, but the enormous waste of resources that the country's military spending, approximately equal to that of the rest of the world combined, doesn't merit a place on his agenda !
Let us hope that both Indian and Chinese economists draw the correct conclusions from the US debacle and resolve to keep a tight rein on their military establishments and their industrial counterparts, while introducing the regulations required to prevent the bubbles and the financial excesses of which the United States has recently vouchsafed us so telling examples....
