IT ISN’T EASY being on the White House economic team these days. For one thing, the public and the pundits seem fixated on the volatile stock market, to the virtual exclusion of the steadily growing economy. For another, the public face of the team is gaffe-prone Treasury Secretary Paul O’Neill, who manages to say the right thing at the wrong time, and then is forced to eat his own words. Aid to Brazil will very likely end up in Swiss bank accounts, he warned, a few days before signing on to a record $30 billion aid package. Finally, there is the “if someone is up, someone must be down” dynamic of the press. There can be no denying that the foreign policy team is “up.” That means someone must be “down,” and the economic team is a handy candidate. Although none of these negatives goes to the substance of the Bush administration’s economic policy, it seemed a good time to catch up last week with my former think tank colleague, Larry Lindsey, to find out what the real story is. Lindsey is the president’s chief economic adviser, a man who talks to the president at least three times a week and is responsible for seeing to it that the president regularly hears a range of policy views. Perhaps not surprisingly, Lindsey expects the economy to keep growing. Although there is always the possibility of a shock to the system, such as the collapse of some over-extended financial institution, there is every reason to believe that growth in the fourth quarter of this year will be at a rate of somewhere between 3.8 percent and 4 percent, and that next year will see the economy grow at a rate of 2.8 percent to 3 percent. Does this warrant a “he would say that, wouldn’t he” response? I think not. Lindsey is a man who can be more candid than politically optimal. Immediately after his boss’s inauguration, he told me that the administration would be facing a 6 percent unemployment rate come the November 2002 elections. Not news the Republicans wanted to hear from their lead economist. As for the growth estimates, Lindsey reasons that two of the three components of GDP, government spending and consumer spending, will keep rising. The only sector not growing is business investment, but neither is it likely to shrink. The policy trick is to make sure consumers keep spending until business investment recovers. Fortunately, incomes are rising faster than spending, which means consumers can continue to buy cars and houses and still have something left over with which to pay down their debts. “It’s a question of buying time until business investment recovers, and using that time wisely by putting more money in consumers’ pockets, which is what the tax cuts have done.” So Lindsey sees little danger of the dreaded “double dip,” even if there is a war with Iraq. Indeed, a world free of the risk posed by Saddam seems to him self-evidently likely to grow more rapidly than one that lives under the shadow of Iraq’s weapons of mass destruction. A successful war will mean more, not less prosperity, regardless of its short-term cost. What about deflation–the Japanese sickness? Not likely, says Lindsey. It is true, he points out, that the prices of durable and other goods are lower now than they were in 1995. No surprise, since rising productivity in the 1990s drove costs down, and competition in our increasingly deregulated economy forced producers to pass those savings on to consumers. But we have bankruptcy laws that work, and Japan doesn’t. When our companies have trouble paying their debts, they go bust. In Japan, on the other hand, there is no mechanism for what Lindsey calls “resolution.” The companies join the living dead. Their debts, although never to be repaid, remain on the balance sheets of the banks, making them unable to lend to healthy companies, old and new. Talk turned to the outlook for the dollar. The White House sees little reason to worry about a flight from the dollar. For one thing, European stock markets are lagging behind America’s. For another, many currencies of America’s trading partners–notably China’s yuan, Hong Kong’s dollar and, by virtue of government policy, Japan’s yen and Mexico’s peso–are more or less tied to the dollar, and so can’t rise freely against it, at least not by very much. But most important, as Lindsey asks, where else would investors put their money? Germany’s economy is not growing; France doesn’t welcome foreign capital; Latin America is having problems. America is enough of a magnet for foreign investors that we should be able to sustain an annual trade deficit on the order of $250-$300 billion. That means that the current annual trade deficit of about $450 billion needs to come down, but not by so much as to demand a vastly weaker dollar. If the White House had its way, Europe would solve its problems and contribute more to world economic growth. But like other members of the administration, the president’s economist cannot publicly criticize the European Central Bank, and so confines himself to the comment that the E.U. is getting what it asked for when it imposed on the bank a narrow mandate to control inflation, rather than ordering it to balance the need for price stability against the need for economic growth. On the trade front, the administration remains committed to freer trade. The tariffs on steel were designed to let the Europeans know that we won’t sit by and let them indefinitely subsidize inefficient capacity. We are determined to see some of the European steel companies follow the path of their American competitors–declare bankruptcy and exit the business. And the president is hoping that the new round of trade talks will end steel protection in all producing countries. But all is not likely to remain peaceful on the trade front. Europe allows the rebating of indirect taxes, such as the VAT, to encourage exports, but is opposed to the rebating of direct taxes, which is the American practice in some cases. This creates a playing field tilted in favor of Europe, something the administration sees as unfair and in need of change–soon. Most interesting of all is that the Bush administration has not abandoned its long-run economic goals. Given what’s on Congress’s plate in the next month–some 13 appropriations bills, not to mention the Iraq debate–it is unlikely that any of the reforms the president wants to leave as his legacy can be enacted in this session of Congress. “This president is not given to posturing,” says Lindsey, and so won’t just send up bills that he knows can’t be considered and passed. But the long-term goals have not changed. They hinge on fundamental reform of the tax system. The goals are simplicity, lower marginal rates (which any good supply-sider will tell you does not necessarily mean less revenue), and removing economic distortions. The latter should be of special interest to investors. The current system favors debt (interest charges are deductible expenses for tax purposes) over equity (dividends are not a deductible expense), and is also, in the administration’s view, biased against saving. So look for a move to allow dividends to be treated as a deductible business expense, and for the tax burden on interest earned by savers to be lightened or removed. Parting shot: What about the stock market? Lindsey quite famously got out of the market before the bubble burst, missing the final uptick in prices, but also the following calamitous decline. The minutes of the meetings of the Federal Reserve Board’s monetary policy committee show that as early as September 1996 Lindsey was warning of a share price bubble–at a time when it was the position of the Fed that asset prices are not a proper concern for central bankers. But other than pointing out that “there are risks out there,” and that the outlook for the American economy is bright, the president’s chief economy watcher is not willing to roil markets by sharing his views on the future course of share prices. THERE YOU HAVE IT–an analysis and a policy program as coherent as that of the much-praised foreign policy team. And forecasts that we all hope prove right. So where does the president go from here? The course of the economy between now and the November elections is beyond the reach of administration policy. But despite Tom Daschle’s best efforts to mount an attack on economic policy, it’s hard to see political vulnerability at the polls if the unemployment rate stays below or around 6 percent and if real incomes continue to grow. But what might well affect the 2004 elections is what the administration can say about the economic issues that seem to be of most concern to Americans. Bush’s push to make dividends tax deductible for corporations, or to make them tax free to the recipient, no matter how sensible, is likely to raise cries of “favors for the rich,” as would any renewal of the effort to make the end of inheritance taxes permanent. Simplification of the tax code is not a banner likely to get the juices of voters flowing: Who now remembers Steve Forbes’s flat-tax proposal? What Bush needs from Lindsey and his other economists is a series of thought-through reforms of various sectors of the economy. Health care costs are rising because, as Lindsey is the first to point out, competition in that sector is ineffective. If the president’s men could overcome their antipathy to a vigorous antitrust policy, they might inject some cost-containing competition into that area. And if they would concentrate on how to make the distorted market for prescription drugs work better, protecting intellectual property rights while at the same time preventing other countries from using price controls that permit them to avoid bearing some of the research and development costs of America’s highly productive pharmaceutical companies, they would earn the gratitude of seniors. Making the market for life-enhancing drugs work better is surely something regulation-averse compassionate conservatives should find attractive. So far, such an agenda has eluded the administration. Sure, concentration on ending the dangerous regime in Iraq is and should be at the top of the president’s agenda. And certainly the administration’s overall management of the economy, including the well-timed tax cuts that gave the economy a boost when it most needed it, deserves two cheers. But laurel-resting is not an option. And the buck stops with Lindsey and his team to develop attractive economic policies that the president can put before the voters as an alternative to the domestic agenda of Democrats bent on a huge and inefficient expansion of the welfare state. Irwin M. Stelzer is a contributing editor to The Weekly Standard, director of regulatory studies at the Hudson Institute, and a columnist for the Sunday Times (London).
