Double Standard?
Ummm.
Why does it take only 51 votes to re-appoint Bernanke, but 60 to pass health care reform?
Commentary
Peter Radford / Commentary / fiscal policy, monetary policy, political reform, regulation, stimulus /
‘Can’t Do’ America?
I have just re-read James Fallow’s article in this month’s Atlantic Monthly: I highly recommend it to anyone who is willing to take a detached and thought provoking look at the ‘malaise’ of America. His point, in brief, is that America as a society is functioning fairly well, but that it’s government is broken. He doesn’t mean the current administration, but the entire system of government. It has become unresponsive, unwieldy, and incapable of rising to anything remotely like a strategic challenge.
On this point I could not agree more.
The American system of government is antiquated. It has lasted well beyond its expiry date. The problem is well illustrated by the debacle that was health care reform: the entire process came down to a prolonged negotiation with the so-called ‘gang of six’ senators whose votes were necessary to ensure passage of legislation. Those six senators came from states with a negligible portion of the nation’s population yet they were able to enforce their own views on the majority. It was a gloriously undemocratic spectacle that the country should have been ashamed of.
Health care reform was a major discussion point during last year’s election campaign. Obama won that election with a thumping majority of votes. We had every right to expect him to get legislation passed. Yet he had to fight tooth and nail for what is a very watered down bill. Even now its fate hangs in the balance. It is no comfort to argue, as some do, that the legislation might be watered down, but that it is a start: over the next decade or so we can get it right by adding or subtracting the pieces that make it dysfunctional.
That’s the talk of a loser. Why should we ‘make do’?
Why should Americans not get what they so clearly voted for?
No wonder there is a deep disillusionment with government.
The voters keep sending in signals that the system cannot respond to.
Fallows goes on to describe similar systemic problems: the national infrastructure is appallingly old and at risk of collapse; we deliberately underfund research; we rely heavily on imported talent and so on.
This is exactly what I have been talking about here for months. America seems incapable of confronting, and then dealing with, big issues. Instead it tinkers with tactics. It re-arranges deck chairs very well, but ignores icebergs with a tenacity that is frighteningly stolid.
Take the stimulus package.
There was precisely one policy option in the textbook bag of tricks to deal with the crisis back early last year: a big fiscal injection by the government. Monetary policy, which is the usual and first line of defense, was ruled out by the so-called ‘zero-bound’ problem, interest rates were already too low to be lowered any more. It was clear we needed stimulus. But at no point could we even entertain a package that was sufficient. Such spending was deemed ‘politically infeasible’. More to the point we could not even use the money to address any of our infrastructural problems. To do that would have incurred the wrath of the anti-government politicians who had just dug the hole we were in. So we had to negotiate with the gang of six. We ended up with a stimulus that only a banana republic could be proud of. There were no bold projects in the tradition of the New deal era. It was all small and spread about. Plus one third was in the form of tax cuts that have produced no enduring value. In other words, in our timidity we added a trillion dollars to our debt and got nothing longer term than a kick for the short term economy. That’s certainly valuable, but it will hardly stand as a monument to our resolve. Talking of monuments: the anti-government politicians even stripped the stimulus of money to clean up our national monuments: apparently cleaning the Lincoln Memorial and so on is a waste of taxpayer money.
My own acid test is still right here in New York City.
The reconstruction of the World Trade Center has been an embarrassing saga of political and legal infighting. Only now is a building taking shape. So much for showing the enemy what we’re made of. Anyone who dares take on America will have to fight through red tape, and then bribe politicians, just like the rest of us.
Will any of this change?
Here I am a lot less optimistic than Fallows.
I say no.
I come across very few Americans who would countenance a change in their system of government. Everyone seems to think it is the best, so why fix it? Fallows mentions this problem, as I have here also: not a single country has ever copied the American system. That fact alone should cause some reflection. But how many Americans even know that? How many care?
I think we are stuck with it due to a combination of indifference, lack of education, and misdirected jingoism. We are living off of the momentum generated in the immediate post war decades. We have squandered our inheritance on short term trinkets and forgotten to rebuild and maintain the boring but essential things that help sustain us. The decline is hidden. The water supply breaks and we blame government, yet we are unwilling to pay the taxes to rebuild it. We yell when bridges collapse, yet refuse point blank to pay for new ones. We are willing to pay for a huge military, but not new schools. We pour money into plastic surgery, but not into preventative medicine. We conveniently forget that it was the government that invented the internet and not the start-ups who benefitted from it. And we can send men to the moon, but cannot build a high speed train to get from New York to Washington DC at anywhere near world class speeds.
None of these things would matter individually, but cumulatively they are emblematic of a nation good at small stuff and now incapable of big stuff. We cannot even contemplate big projects: we say ‘that couldn’t happen here’ because … legal battles and political gridlock stop us at every turn.
Britain, where I grew up is often presented as a quaint and rigid society. It is hopelessly caught between its imperial past and its European future, but at least it can reform its government. In my lifetime whole geopolitical boundaries have been wiped away: this would be the equivalent of combining New Jersey and New York into a new state to reflect modern commuter realities. London’s boundaries have been re-drawn for similar reasons. Power has been devolved to Scotland and Wales. The House of Lords has been changed and is the throes of being changed again. And, despite the opposition of a sizable minority, Britain has attached itself to Europe. You can argue about any of these moves. My point is that they have all happened within the last three or four decades. These are all very big constitutional changes that Britain was capable of making seamlessly and without too much fuss. Stodgy ‘old Europe’. Stodgy old Britain.
How much has happened here in that time?
That’s our problem. Not the rise of China. Not the shift in economic power to Asia. Our problems are all here right under our noses. Our system of government is out of date. It needs an overhaul.
I say start by abolishing the Senate, doubling the size of the House of representatives, enforcing a non-partisan national re-districting of House seat boundaries, eliminating elections for judges, and making the election of Presidents a straight vote rather than an Electoral College vote. Oh, and get rid of that ridiculous interregnum between administrations. This is the twenty-first century for heavens sake, communications are quick enough for a new administration to get itself ready ahead of time.
It won’t happen of course.
It just can’t be done in America.
Personal Note …
Just a quick personal note: my daughter, Kim, gave birth to a healthy, and large, baby boy yesterday. So the family has another generation and I am now a grandfather. I don’t quite know what to make of my new status. Hopefully it will help restore some of that lost acuity the years seem to have rusted away. Anyway, as you can all imagine, I am very proud of my Kim, her husband Jeff, and the newly arrived young Jack.
Peter Radford / Commentary / consumption, deflation, GDP, inflation, jobs, recovery, trade, unemployment, wages /
Unemployment: The End in Sight?
This morning’s unemployment released from the Bureau of Labor Statistics makes for grim reading: businesses shed another 563,000 jobs bringing the total of people out of work to 13.7 million, and pushing the unemployment rate up to 8.9%, its highest in about 26 years. Overall in the past twelve months the unemployment rate has risen 3.9% with the number of jobless going up 6 million in the same period.
So why is everyone treating this news with optimism?
The economy seems to reached the bottom in terms of the rate of decline. Things are still getting worse, but now the pace of change has moderated. The employment figures, while awful at any other time represent a step in the right direction: losses are piling up more slowly than in the last few months.
The key point, as I always remind you, is not to get too carried away with this one data point. We can feel much better in the early summer when this month’s apparent change in direction has been confirmed by two or three more months.
Meanwhile, clearly the tone of the economy is shifting. Those green shoots Bernanke referred to a few weeks ago are now looking a lot more robust. So there’s hope the worst is over.
But.
No one should get too excited. Buried in the same report is the news that wages are virtually stagnant. This is supported by local and anecdotal information that indicates wages may even be falling. This is really bad news for the recovery.
Getting the economy to stop falling was the first task. That goal is now within sight. Our next task is to develop the shape or nature of the recovery. My view is that we have to acccomplish a few things in order to establish strong growth over the next few years.
- We need to reduce debt loads: both for families and for companies. This will be hard to do if wages and profits remain weak. It will be impossible if wages or profits actually fall. I have written about the problems of deflation before,and at the moment I don’t think it is a significant issue because of the enormous amount of monetary stimulus the Federal Reserve Boards has used to stave off depression. Nonetheless while we may avoid deflation proper we must also be careful to avoid stagnation. My preference would be a return to a healthy 2% – 3% annual inflation rate that helps lift wages and erodes the value of debt without undermining it [as would be the case at a higher inflation rate.]
- We need to establish a more robust savings culture. Savings have jumped recently from practically zero to about 4.5%. But I imagine that is a result of a temporary hoarding of cash rather than a permanent shift. Savings will allow investment to flourish since the financial system funnels savings into business via lending. The US has been the end point for much of the world’s ‘surplus’ savings for decades: the flood of foreign money into America provided the grist for the sub-prime mill. We need to wean ourselves off of foreign capital … why?
- Because we also need to reduce our trade deficit. A trade deficit has to be financed. The way this is done is by sucking in money from abroad. If we end up buying more foreign goods than we sell abroad we inevitably end up financing it by selling more assets – bonds, stocks, buildings, businesses – to foreigners. We then recycle the cash we receive for those assets in order to pay for the excess goods we buy from them. This closely linked cycle is why the US and China are inextricably linked in trade: we need each other at the moment. The trade balance needs to be reduced … why?
- Because we have to ensure the dollar doesn’t fall too fast in value. We have huge government deficits to finance for the next few years as we crawl out of the hole we built for ourselves in the years of indulgence. Much, though not all by a long shot, of that debt will have to sold abroad. In order to attract investors we will need to maintain a stable currency and attractive interest rates. If our savings rate is sufficiently high we can channel some of those savings into government debt to avoid reliance on foreign investment. But that might reduce the amount available for business to use to build new factories and so on. So we simultaneously need to …
- Run a tight fiscal policy. That’s code for raising taxes. I am an avid supporter of fiscal stimulus as a short term expediency. If we have a great credit rating for our debt we should use it to acquire funds to spend our way from the edge of depression. But, we also need to ensure we get our books back in balance quickly so that the deficits don’t become permanent. Cyclical deficits are OK. Structural deficits are not. Our government’s books were in dire straits before the crisis because of decades of failed economic thinking and partisan bickering. That has to stop. Of course we can avoid heavy taxation by …
- Making sure growth is both steady and strong. One of the failures of the Reagan era was that fiscal policy focused exclusively on reducing taxes. Unfortunately there was no ‘trickle down’ effect and the lower tax regime failed to ignite growth sufficiently to ‘pay for themselves’. That whole policy regime, along with the economic theories that underly it, is now thoroughly discredited. So in order to mitigate the negative effects of higher taxation wages have to grow strongly so as to allow consumers to buy things, save, and still afford the taxes. So wages have to return to their more normal share of GDP at the expense of profits. Remember: profits were the only major factor in the economy to show above normal growth during the past eight years. Wages have been virtually flat.
- Finally: we need a financial system that focuses on the careful expansion of credit – loans to families and businesses – rather than on the yahoo wild west nonsense that we have seen since the early 1980’s. This implies heavy re-regulation and possibly the use of anti-trust laws to carve down the size of the ‘too big to fail’ banks that ruined our economy and started this crisis off. Remember the mantra: ‘too big to fail’ means ‘too big to exist’.
That’s a heady agenda. But as you can see it is all intertwined. Wages must be growing well for us to accomplish our goal of strong GDP growth. We need a better balance between thrift and consumption. We need a more conservative fiscal policy – and yes I mean conservative. And we need to eliminate the excesses and excessive behaviors that caved the roof in the last time.
Which brings me back to today’s release: that wage data tells me that a strong recovery is far off still. We may be growing slightly by year end, but the pace of that growth will be very poor.
Our efforts should all now be on acceleration. There are huge policy debates ahead that will determine our success. Most importantly re-shaping banking, and getting a better sense of fairness into our economy should top the agenda.
Wages over profits for the near term. And make banking dull.
They’re the two thrusts needed to get this place humming again. This morning’s data shows we have a long way to go.
But at least we have started.
Peter Radford / Commentary / B. of A., bailouts, banking, Citibank, creditors, stress tests, TCE, Tier 1 Capital /
Bank Stress Tests
The administration has announced that it will release the results of those infamous stress tests next Thursday. That’s a little later than originally planned. But the more interesting news is that they will now release more than summary findings. Instead we will be treated to a much more detailed set of results. That presents a problem for some, but is unequivocally in the best interests of the public.
Naturally the weaker banks will spend much of the next week protesting that the tests radically underestimate their strength. The Federal Reserve Board published the test methodology last week, and having read through it, I would argue that the tests are fairly modest. The toughest scenario puts s great deal of emphasis on the effects of unemployment rising beyond roughly 8% which the Fed assumes will trigger a burst of credit card losses. I was disappointed not to see a parallel emphasis on a potential melt down in commercial real estate, since in my opinion that has already begun, and will certainly end up causing the big banks heavy losses over and above those in their credit card portfolios.
It is this next wave of losses that represents a more normal credit cycle. Banks always suffer loan losses during recessions and those losses tend to lag behind the onset of the downturn. The reason is obvious: businesses and individuals are still able to pay their loans on time early in a recession, it is only as the downturn continues that cash gets tighter and the defaults start to pile up.
By now you’re all bored with my constant harping on the unusual nature of this cycle: it started as a banking crisis, so we are now entering the ‘normal’ phase of the credit cycle with already severely weakened banks. That’s why we are nowhere near done with potential bank failures. In fact I think this next wave of losses will probably be too much for at least one, if not two, of our biggest banks – neither Citibank nor Bank of America has sufficient capital, either at the Tangible Common Equity [‘TCE’] or Tier 1 levels, to weather much of a credit storm over the next few months.
It is this information I expect to emerge from the stress test release next week.
Then what?
There are a couple of things to bear in mind as this starts to unfold:
- The weaker banks will see their stock drop quite quickly. Or at least they should. No one will want to hold the equity of a failing bank and so the rush to sell will start as soon as we hear leaks of the test details. And creditors may start to unload their holdings as well. The value of Citi’s debt has already tumbles ahead of the release. I expect that trend to continue.
- The probability of a bank failure will rise. Not due to the actual loan losses I just mentioned as being on the way, but in reaction to the loss of market confidence. Some of these banks have been dead on their feet for months now, and have been struggling to raise equity back to anything approaching sensible levels. Their impending status as ‘weak’ will hamper these capital raising efforts even more, which will force them to start a fire sale of their businesses and assets. Citi has already managed to raise about $8 billion by dumping some of its Japanese operations. We will most likely see more of this kind of capital raising.
- Even so, I doubt that the weaker banks will have sufficient time to fix their capital levels before a combination of lost market confidence and reduced capital raising opportunities force them into the arms of the government. I think we are at the beginning of an inexorable slide towards some form of government control and forced reorganization for both Citibank and B. of A.
- Which raises an interesting point: by releasing the results of the tests the government is actually restricting its own policy options. As long as the results are vague there is always leeway for various interpretations, consequences, and therefore courses of action. Once the situation is clear, and the market reacts, the set of policy choices starts to narrow quickly. The weak banks will be tied ever tighter to the purse strings of the Treasury Department as alternative sources of cash dry up.
So whether by accident, or by design, next week’s news should start the next phase of bank bailout. And this time the opportunity for the government to avoid direct control will be restricted by the lack of privately available options.
I don’t know whether this was the plan all along, but direct control will accelerate the cleaning up process. Since that’s what I’ve been advocating from the beginning I have to admit that I am looking forward to next week.
As for Citi and B. of A..
Well they probably have a very different perspective.
Tough.
Addendum:
The Financial Times reports that the cause of the delayed release of the stress tests is the ongoing tussle between some of the banks and the administration. Apparently the weaker banks are arguing that they don’t need extra capital. I hope the Treasury Department holds the line on this argument. The last thing we ned is a bunch of crippled, and therefore useless, banks cluttering up the economy just as we need an infusion of credit from our banking system. As we are all aware by now, these so-called ‘zombie’ banks are worse than failed banks because they live on but serve no economic purpose.
Still, the release alone should cause the weaker banks to crumble quickly. Already the market is humming with rumors. Can a takeover be far away? I hope not.