When economics was just economics, analysts and forecasters had a difficult job. Now that economics has reverted to its original calling, Political Economy, the chore is well-nigh impossible.
We are now forced to guess what politicians, long ago described by Adam Smith as “that insidious and crafty animal … whose councils are directed by the momentary fluctuations of affairs…,” will do if prices rise, or foreclosures increase, or some favored industry heads for the rocks.
We do know that unemployment is high and rising, in response to an economy described by economists at the Fed as exposed to “downside risks to an outlook for activity that was already weak … fragile and unsettled.”
Problems here are likely to be exacerbated by an acceleration of Europe’s recession, now that France and Germany have refused to stimulate their economies, and Britain is more or less broke.
When we move on to predictions, the gloomy outlook is best summed up by looking at the world through the eyes of Nouriel Roubini, the New York University professor who was among the first to predict the collapse of financial markets and the accompanying recession. He expects the contraction to continue for the rest of this year, although at a slower pace, and is forecasting almost no growth in 2010.
Goldman Sachs’ economists are cheerier. They are telling clients that “the recent retail sales and personal consumption data in the US suggest that consumption has likely grown in the first quarter of 2009, a significant about-face from the steep declines posted in the second half of 2008….Outright contractions in consumption are behind us.”
Note the role of politicians in three of the sectors that underlie this bit of cheer. Start with the financial sector. Late last week Wells Fargo cheered investors by reporting a $3 billion first quarter profit, the result of a surge in deposits (insured by the government), a boom in mortgage lending (spurred by low interest rates created by the Fed), and an injection of funds by the Treasury. Management would add the skill with which they have integrated Wachovia after acquiring it last year.
Then there is the housing sector. Lawrence Yun, chief economist at the National Association of Realtors, reports “increases in shopping activity” and in pending home sales (contracts signed but the transaction not completed), and almost twice as many Americans think it is a good time to buy a home as believe the time is not right, according to pollsters at WiN.
If housing is recovering, it is in good part because the Federal Reserve Board is operating several programs to keep interest rates at the lowest level since 1971, and Congress is creating tax-rebate incentives to spur buyers on.
Finally, consider the auto industry. Sales seem to be picking up, partly in response to President Obama’s decision to have the government guarantee the warranties of struggling General Motors – this is the first time the President of the United States has guaranteed your muffler – and partly in response to the government’s intervention in credit markets to keep the cost of auto loans low.
These are merely examples of the extent to which multiple government interventions are driving the economy. So in deciding where we go from here, we have to try to predict government policy. Much will depend on what the Fed and the President do once a recovery is underway.
For now, there is enough excess capacity to make it unlikely that inflation will take off in the near term. If the Fed pulls out all those trillions it is injecting into the economy, and if the Congress and Obama rein in spending by cutting entitlements or enacting taxes that don’t stifle growth, inflation might be avoided.
Larry Summers, the president’s top economic adviser, is confident that such an exit strategy can be executed. But history is not completely reassuring.
Obama will have an opportunity to name a new Fed chairman when Ben Bernanke’s term expires on January 31, 2010, and he might just find one who believes more inflation means lower unemployment, and that the latter is the greater evil. It’s happened before.
Combine that with the likely reluctance of congress and Obama to rein in spending and the deficits now projected, and you can understand why the Chinese are worried that those “crafty animals” in Washington might want to pay off the more-than $1 trillion we owe them with dollars that won’t be worth what they are today.
Examiner columnist Irwin M. Stelzer is a senior fellow and director of the Hudson Institute’s Center for Economic Studies.
