"Drawing blood” from the economy by cutting government expenditures at a time of high unemployment and underused resources will only ensure the patient’s death, not recovery.
By Marshall Auerback, AlterNet
Posted on November 26, 2011
The bipartisan super committee has failed to meet the
self-imposed November 23rd deadline to enact $1.2trillion of cuts over
the next ten years. That failure, as Paul Krugman
notes in the
New York Times,
is a good thing:
“Any deal reached now would almost surely end up
worsening the economic slump. Slashing spending while the economy is
depressed destroys jobs, and it’s probably even counterproductive in
terms of deficit reduction, since it leads to lower revenue both now and
in the future.”
If the super committee failed to come up with an alternative plan by
Thanksgiving, and the cuts will hit defense and domestic programs equally.
But those cuts won’t begin to go into effect until January 2013, two
months after next fall’s election, which also means that the programmed
fiscal restriction planned for next year won't come into effect. The
likelihood of failure is provoking a negative reaction in both the
markets and the mainstream press. But in spite of that, failure might be
the difference between sluggish, moderate growth in the U.S. and double
dip recession.
The travails of the euro zone are perpetual front page news right
now, but let's try to put them aside for a moment and focus solely on
the U.S. The latest U.S. economic data suggests that the economy has
continued to muddle along at a positive rate of growth somewhat below
its trend rate of growth. This has happened even though an unwind of
the 2009 $860 billion stimulus package is now leading to moderate
reductions in government spending.
October core retail sales were up +0.6%. The three-month annualized
change now stands at +6.6%. This is consistent with personal consumption
expenditure growth of perhaps +3.0%. The increase is consistent with
the above trend U.S. economic growth.
Dallas Fed President Richard Fisher
thinks
such growth is sustainable. He expects U.S. economic output to grow
+2.5% to +3.0% in this quarter and expects it to improve next year.
But not if the super committee goes big and enacts huge budget cuts. In
that kind of scenario, economic growth in the U.S. next year will be
held back (or worse) by programmed fiscal restriction as even greater
amounts of income are withdrawn from the economy, especially if cuts are
implemented in programs such as Social Security.
Lower incomes means
lower sales, and sales are what ultimately drive economic activity.
Remember: businesses lay people off when their customers stop buying,
for any reason. So
the reason we lost 8 million jobs almost all at once
back in 2008 wasn't because all of a sudden all those people decided
they'd rather collect unemployment than work. The reason all those jobs
were lost was because sales collapsed.
I am also skeptical of the validity of the recent strong trend in
consumer spending because it appears to be a product of consumers
drawing down on savings, which began to be rebuilt in the aftermath of
the 2008 crash.
Unfortunately, consumers no longer have the credit
availability to do that. Nor do they have the incomes to sustain taking
on ever increasing burdens of private debt, as was the case in the
1990s.
And let’s be clear: Despite the distortions floated by many
politicians and pundits in the mainstream press, most of the growth of
the government’s deficit can be attributed to the rotten economy–which
destroyed jobs and thus tax revenue. As the U.S. private sector
retrenched to rebuild its balance sheet, the government’s balance moved
toward deficit. This had very little to do with “excessive” and
“unsustainable” entitlement programs. The positive contribution of the
U.S. fiscal stimulus (with supporting monetary policy) cannot be
overstated, even though many notable mainstream economists (such as
Robert Barro, or Greg Mankiw) claim it made the recession worse.
Without the two-pronged attack – first of shoring up the financial
system to ensure the banks could lend and second, the substantial
increase in government net spending (which was both the product of
discretionary fiscal decisions and what economists call "automatic
stabilizers" like unemployment benefits) – the world economy would have
collapsed into Depression. That is not to say that the fiscal
interventions were sound and well designed. I generally think they were
unsound in the sense that they did not support job creation as much as
they should have. But that is a separate issue.
The outlook for 2012 then depends very much on fiscal policy. Right
now according to the Congressional Budge Office (CBO), we are programmed
for fiscal restriction of perhaps 2.5% of GDP or more in 2012. That
could overcome the natural tendency of economies to grow, especially
with real interest rates at negative levels. The question then arises,
will we really go through an election year with so much fiscal
restriction? The answer, of course, is in the hands of the politicians.
As it now stands, the President wants a $447 billion dollar jobs plan.
That is equal to almost 3% of GDP. He wants most of it to be financed
with borrowings in 2012, with offsetting tax increases in future years.
Passage of all of this jobs plan would turn programmed fiscal
restriction into marginal fiscal stimulus.
The Republican position has been that, even if they go along with parts
of this job stimulus plan like an extension of the payroll tax cut, they
demand offsetting greater expenditure cuts.
In other words, even if
they concede to some of Obama’s demands, they insist on maintaining the
overall fiscal restriction that is now programmed because they say that
demonstrating a commitment to “budget discipline” will enhance business
confidence and allow the private sector to create more jobs.
So let’s assume that the GOP is right: imagine a new government
being elected on the promise of cutting national debt and in its first
budget outlines a very clear plan to seriously cut the national budget
deficit, reduce taxes (but definitely not put them up), cut public
employment and free up the regulative environment. And let's say that
such a government also pronounced its “pro-business” credentials
(self-styled).
In that situation, if the Republican view was correct, we would
expect to observe within a few months (certainly within a year) of the
new government a reduction in private uncertainty, which, if the concept
has any operational application, should influence discretionary
behavior such as spending and employment.
It would be reasonable to expect business confidence to rise, which
should mean that private investment would accelerate as business owners
anticipate a consumer revival. It would be reasonable to expect firms to
be keen to get staff in place to meet the renewed expectations of
increased orders. It would be reasonable to expect consumers to become
more confident and this confidence to translate into their consumption
expenditure.
So... how does one explain the UK, which continues to deteriorate in
spite of making very clear its plans and implementation for budget
cutting? And how does one explain Australia, which has also been working
toward reducing government spending, even as its unemployment rate has
begun to tip up again?
The economics of the super committee, indeed that of virtually all of
the mainstream Washington policy establishment, is still predicated on
the economic equivalent of Medieval blood-letting. Continuing to “draw
blood” from the US economy via ongoing cuts in government expenditure at
a time of high unemployment and underused resources will ensure the
patient’s death, not recovery.
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