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PUBLIC FORUM

The Economic Crisis and the U.S. Policy Response:

Just Right, Too Little or Too Much?

Date:  June 2, 2011

Speakers:

• Ron Blackwell – Chief Economist, AFL-CIO [PowerPoint Presentation]
• Uri Dadush – Director, International Economics Program, Carnegie Endowment for International Peace [PowerPoint Presentation]
• Michael Lind – Director Economic Growth Program, New America Foundation [PowerPoint Presentation]
• Prakash Loungani – Advisor, Research Department, International Monetary Fund [PowerPoint Presentation]

Moderator:

• Thomas Palley – New Rules for Global Finance and New America Foundation

The forum discussed the U.S. policy response to the economic crisis from several different points of view – political, intellectual and institutional. The goal was to provoke a constructive assessment of what has been done well, what has been lacking, and how policy should adjust in light of these competing assessments.

Meeting Summary

On June 2nd the Woodrow Wilson International Center for Scholars, the Heinrich Boell Foundation and New Rules for Global Finance sponsored an event titled "The Economic Crisis and the U.S. Policy Response: Just Right, Too Little or Too Much?"

The panel of leading economic policy experts consisted of Ron Blackwell, chief economist at the AFL-CIO; Uri Dadush, director of the International Economics Program at the Carnegie Endowment for International Peace; Prakash Loungani, an advisor for the International Monetary Fund; and Michael Lind, director for the Economic Growth Program at the New America Foundation. The discussion was moderated by Thomas Palley, a board director of New Rules for Global Finance and an associate of the New America Foundation.

Ron Blackwell kicked off the presentations citing the unemployment rate of 9%, almost two years after the start of recovery, as proof that the U.S. government has done too little. That raised the real policy question which is "too little of what?"

To understand the necessary policy response the current crisis needs to be put in historical perspective, and doing so points to deep structural problems in the U.S. economy. The pre-World War II economy was characterized by great volatility in which business cycles exhibited sharp ups and downs. After World War II the US economy experienced a long period of reduced volatility in which business cycles were of greatly reduced amplitude, and in most instances recessions were caused by monetary policy tightening in response to rising inflation. Moreover, recoveries were usually rapid, with the economy responding strongly to monetary policy easing and lower interest rates. However, the past three recessions have been very different in that they have been increasingly longer and characterized by "jobless recoveries." Mr. Blackwell asserted that these recessions were very different than earlier post-World War II recessions in that they were not policy induced. Rather, they stemmed from financial turbulence associated with bursting of asset price bubbles and crises of credit. The U.S. economy therefore appears to be reverting to its pre-World War II character.

Confronted by this radical change, the government needs a different policy response. Modest fiscal stimulus characterized (in the words of Lawrence Summers) as "timely, targeted, and temporary" is not enough, and neither is loose monetary policy. The economy is gripped by fundamental structural imbalances that caused the financial meltdown and these need to be fixed. The bailout of the banking sector did not fix these problems. Though government stabilized the banks, to the point that they now are flush with money, they are not lending because of fundamental underlying economic weakness. Similarly, though the recession temporarily decreased imports, this did not resolve the underlying structural trade imbalance.

President Obama initially had the right ideas about how to repair the economy, but his administration failed to implement these policies. To truly repair the economy, Mr. Blackwell insisted that America needs to increase manufacturing and exports. America needs exactly what President Obama called for in his most recent State of the Union address-more manufacturing jobs, more construction jobs, and greater investment in infrastructure. The question is: can the administration deliver?

Uri Dadush approached the issue from an international perspective, noting that the U.S. response was the largest in the world quantitatively. Consequently, it had a relatively small decline in output in comparison to other countries. Viewed through a GDP lens, the U.S. government's policy response has been "right on." However, the US has also experienced a much greater unemployment response compared to the rest of the world. This has further undermined household income growth, which was already subject to long-standing downward pressures, and the result has been devastating for U.S. workers.

Looking to the future, Mr. Dadush is wary of a looming fiscal crisis that the administration is dealing with too slowly. To address this threat, the government needs to take far larger steps to remedy its fiscal imbalance. Moreover, Mr. Dadush argued the U.S. long term fiscal position is worse than that of other countries and the U.S. therefore needs to do even more – the exact opposite of the policies recommended by Mr. Blackwell.

To date, emerging markets have helped to stabilize the world economy, but they will not be able to do so for much longer. That is because many emerging market economies are beginning to overheat, which will necessitate restrictive macroeconomic policy.

Compared to the responses of other countries, Mr. Dadush would give the US a B or C. Rather than spending too little, U.S. fiscal policy was relatively poorly targeted as to where money was spent. Overall, U.S. policymakers need to strengthen national fiscal automatic stabilizers, while state governments must also improve their fiscal positions. Mr. Dadush also urged less reliance on easy monetary policy. Here, the danger is that sustained low interest rates may damage the U.S. economy, just as they have in other economies, by giving rise to another round of speculative bubbles.

Michael Lind approached the question from a domestic political economy standpoint, starting with the observation that the United States is not a unitary state. On a positive note, he acknowledged that actions of policymakers prevented an economic depression. The main problem has been disconnect between state governments and the federal government, with bad policies at the state and local levels offsetting federal stimulus.

To see where the real problems lie, Mr. Lind examined the changing nature of the U.S. economy. Based on employment projections, the fastest growth in the next few years will be in the low skill sector, followed by the high skill sector. It seems that the middle skill jobs, including manufacturing jobs, are not going to grow very much. The type of jobs that disappeared with the recession are not coming back, so government needs to change its policies to accommodate this development. The current moment provides an opportunity for deep structural reform, and if the U.S. fails to make these needed changes it risks a future of ongoing economic crises.

Mr. Lind proposed what he termed a "Nixon-Reagan Plan" to remedy structural failings afflicting the national social safety net. When President Reagan was in office, he proposed nationalizing Medicaid and replacing the existing system in which the cost is shared between the federal and state governments. President Nixon had also earlier supported this idea. If the federal government was fully financially responsible for Medicaid and unemployment insurance, this would strengthen the safety net, lower costs, increase efficiency, and strengthen an important automatic economic stabilizer. Mr. Lind pointed out that some of this plan was actually temporarily implemented during the crisis as the federal government provided assistance to the states that helped them meet their Medicaid obligations. Federal funding was also given to school systems to help them meet budget shortfalls. In general, along with these specific proposals, the U.S. needs greater revenue sharing between the states and the federal government that can strengthen automatic fiscal stabilizers, a theme also mentioned by Mr. Dadush.

Prakash Loungani began by explaining that the current high unemployment rate is due to a shortage of aggregate demand which has decreases the demand for labor. When looking at the policy response, he too credited government with avoiding another Great Depression. He also observed that the fiscal response was very successful, in part because it was coordinated across the G-20 economies. If the policy response had been even larger, it might have prevented the jump in high unemployment. Echoing the other speakers, he asserted that a more targeted stimulus, for example to the construction or housing industries, would have been preferable.

Looking to the future, Mr. Loungani believes the U.S. government needs to develop a fiscal adjustment strategy that prepares for better times ahead. The challenge is to develop a fiscal strategy that does not undermine the recovery. That requires "A fiscal tightening in the future and not a noose today."

Tom Palley closed the event with remarks summing up the panelists' views. The U.S. government has done too little of the "right stuff." He also observed that Washington DC policymakers inhabit a bubble that has inoculated them from the recession and left them insensitive to the deep suffering being experienced by millions of Americans. The economic crisis is fundamentally different from previous recessions. In important regards the economic system is broken, which means stimulus aimed at reviving the system is unlikely to be enough.

Mr. Palley ended with a reflection on the Weimar Republic and how massive unemployment and economic suffering released the "political genie of irrationality, intolerance, and hatred." A similar development is a real danger today, and he hoped knowledge of the past would motivate policymakers to do more.

Click here to watch video of the panel disucssion. 

Powerpoint Presentations:

• Ron Blackwell – Chief Economist, AFL-CIO
• Uri Dadush – Director, International Economics Program, Carnegie Endowment for International Peace
• Michael Lind – Director Economic Growth Program, New America Foundation
• Prakash Loungani – Advisor, Research Department, International Monetary Fund