Keynesian Stimulus Isn’t Enough: The Great Recession and the Trade Deficit

J. Stein: Keynesianism Isn’t Enough

THE POLITICAL oxygen in the United States today is consumed by issues that have nothing to do with reducing the 9.1 percent unemployment rate. Everyone talks about the priority of creating jobs, and President Obama promises another speech on jobs after Labor Day. But through most of the year, Republicans fixated on cutting spending, while Obama and many Democrats accepted the notion that the deficit was the main issue facing the nation. Jobs are an afterthought, a political obligation, not a central ingredient of recovery. Well-meaning pundits offer work sharing (where companies, instead of laying off employees, reduce hours and pay, with government making up the difference), infrastructure banks, public works, and many other good ideas. Any one of these policies will become a lot more possible if attached to a larger narrative about what went wrong and what’s to be done. The chances of immediate action on jobs are remote, but analyzing the causes of the crisis, devising and promoting a program that can restore growth and jobs, and constructing a politics that can effect change is crucial because there will be future political openings.

We have high unemployment because growth has been anemic and jobless. Keynesians argue that the stimulus of nearly $800 billion was too small to make up for the huge loss of demand, at around $2 trillion. They are right. But even if the stimulus had been bigger, it aimed at boosting consumption, not the public investment that is needed to alter the composition of the American economy.

The composition of the stimulus reflected past norms. The largest portion was tax cuts (32 percent), much of which was saved. Other money went to the states, which ensured that public workers would not be fired, but barely compensated for the cuts in state and local government spending and probably added little to the economy. Unemployment benefits and food stamps were the best use of money because they were actually spent. Other sums went to research for green energy and similar items, but they were scattershot and did not add up to a plan to produce green jobs in the United States. The effect of this half-program was to stimulate the demand for Chinese solar panels, which helped Chinese workers but not Americans. The amount spent on infrastructure (12 percent) was minimal. Because the stimulus was too small and much of the money was either saved or used to stimulate demand abroad, it was not effective.

The burden of relieving the economy then fell on the Federal Reserve and its program of quantitative easing, which produced rising asset prices but few jobs. The buoyant stock market did enhance wealth, which led to more consumption among the upper classes. Moderate-income Americans, whose wealth consisted of their houses, did not experience such a boost. (There are still 4.6 million homes with delinquent mortgages.) Thus, the bailout of the banks, the stimulus, and Fed policy replicated the inequalities of the past thirty years, but this time with high unemployment.

It is not surprising that consumption still maintained its primacy, reaching an all-time high of 71 percent of GDP during 2010. And, just as before the credit crisis, Americans are consuming too many items that are imported. The trade deficit rose in July and will probably reduce GDP growth in the second quarter to under 1 percent. This trade deficit drag is not new. Since the Second World War, the United States has operated as the world’s engine of demand, the market of first and last resort. But over the past few decades, as more than 2 billion lower-wage workers from China, India, and the former Soviet Union entered the global economy, American corporations, encouraged by the government, found they could serve the U.S. market by producing abroad. Americans produced less and earned their livings in non-tradable activities like housing, finance, retail, medical care, and other personal services. Since we still used autos, computers, trains, clothing, furniture, and other items that we no longer produced, we bought them from other nations. Politicians, business leaders, and economists told us that importing so much did not matter. The United States would prosper by exporting high technology and financial and business services. But the nation ended up with deficits in high technology, and high-end services were never enough to balance our trade. Over time, the United States both sold off assets and accumulated debt.

At the same time, many Asian nations discovered that exporting, not increasing domestic demand, was the road to riches. China, especially, recycled its dollar trade surpluses into the U.S. financial system, fueling first the tech and then the credit and housing bubbles. In 2005, New York Times columnist Paul Krugman identified some of these problems when he concluded, “These days Americans make a living by selling each other houses, paid with money borrowed from China.” American politicians in both parties did not have such foresight. “When homes are doubling in price in every six years and incomes are increasing by a mere 1 percent a year,” said Senator Jack Reed (D-RI) in 2006, extending home ownership is critical to the nation.

After the crisis hit, commentators across the political spectrum urged global rebalancing—more investment and exports in countries with deficits like the United States and more consumption and imports in countries with surpluses. The problem is that there are vested interests—surplus countries like China, Japan, and Germany, and multinationals and banks—that like the system just as it is, and so the trade deficit remains a large barrier to reducing unemployment. U.S. growth needs to be driven more from abroad (increased exports) and from domestically produced consumption (decreased imports). To achieve either, the American economy would rely on more investment and less on consumption—and what consumption the United States does have would need to rest on rising wages and not debt creation, government transfers, or the wealth effect from assets.

Here, the robust Keynesians like Paul Krugman, Brad DeLong, and Mark Thoma are not so different from the ones who populated the Obama administration. The former, too, believed that the nation could return to the old economic structure, this time without its obvious flaw: the bloated housing market. However, their solution, a bigger stimulus, did not lead to a new path for the economy. Throughout the postwar period, the high priests of the American economic profession were macroeconomists. Aggregate changes in taxing and spending could produce prosperity, they believed. There are conservative and liberal versions, but all stress macroeconomic changes, advocate free trade, and argue that the microeconomy is immune to positive government intervention. Other countries placed more faith in government decisions about the composition of their economy and the management of their international trade. They relied less on the market to sort out which sectors would dominate their economies. China’s decision to accumulate dollars, for example, is not a market phenomenon, but a product of government decisions to keep the yuan low so that its exporters (foreign and domestic) can penetrate world markets.

SO, WHAT can we do? We have plenty of commentators who have wonderful ideas. But they lack a politics that can power policy, which is one reason they often place excessive faith in individuals, like they did in Obama. Economists especially have tended to see the labor movement simply as an interest group. Many writers argue that labor was effective in the past, but won’t be any longer. In 2004, John Judis and Ruy Teixeira predicted a new Democratic majority composed of nonwhite Americans, professionals, and others who worked in the post-industrial economy. The labor movement was noticeably absent, as was the recognition that most nonwhite Americans are also working class. The only organized group that represents the working class of whatever color is the labor movement. Any idea that does not attempt to enlist the unions will remain on paper or in cyberspace.

But unions are to blame, too. The “Andy Stern” wing of the labor movement, reflecting the growth of the non-industrial economy, argues that labor should forget about manufacturing, which can easily be outsourced, and concentrate on organizing jobs that must remain in the United States: education, health care, services, and so on. Stern, the former head of SEIU and Change to Win, a group of unions that left the AFL-CIO, has subsequently retired from the labor movement, but his ideas live on. Both union groups unwisely decided to pursue an “insider” strategy that allowed the Obama administration to bargain with Republicans without an active movement to its left. Simply attacking the GOP and the Tea Party did not put into play ideas that the Obama administration has summarily rejected.

But let us imagine for the moment that our politics have changed somewhat. What should we say and do?

During the past thirty years, politicians have argued that the promotion of capital will eventually benefit labor. We need to return to the ethic of the postwar era: that labor and capital will progress together. Every measure advocated should fit into this framework. And every proposal should have the potential to attract a majority of Americans. This is not a Left agenda—it is an American one.

Here are three ideas that fit under that rubric, on trade, infrastructure, and energy. They are not exhaustive, but they address areas crucial to growth and jobs, and they all can appeal to broad segments of the population.

1. Improving the U.S. trade balance could begin with creating a market for American-produced products. Government procurement requirements are employed by most countries. They do not violate the WTO because the products in question are not sent into the global economy, but used at home. It is outrageous that the steel used in the reconstruction of the San Francisco-Oakland Bay Bridge was made in China, and defective to boot. Of course, there would be those who would cry protectionism. Let them. I would love to go into an election against an opponent who defended Chinese steel. The Treasury could label currency manipulation an unfair trade practice. Congress threatens to do this all the time. The United States could then join with Europe, which also has an interest in seeing a larger realignment of global currencies, instead of competing with Europe for Chinese favor. The U.S. government could make common cause with southern Europe, whose slow growth is related to Asian mercantilism. When Portugal joined the EU, it lost its textile and shoe industry to Chinese imports.

2. An infrastructure bank that would leverage private investment by tapping private capital markets for public infrastructure investments would be a good beginning. The Europeans have done this. Such investment would employ people, including the many unemployed construction workers, and make the economy more efficient and productive over the longer term.

3. Oil imports are an important part of the trade deficit. President Obama has made clean energy an important goal, but because his policy mainly subsidizes research and usage, not production, it serves environmental more than job purposes. Evergreen Solar is the latest state-aided green energy company that has filed for bankruptcy. It and other U.S.-based manufacturers like Solyndra and SunPower cannot compete in the face of the large subsidies that the Chinese government provides. The United States should either match the aid or turn to other energy sources. It makes no sense to substitute imported wind turbines or solar panels for imported oil. In the short run, investing in domestically produced natural gas reserves in the United States is a better choice. It is cheaper, it will create jobs, and it could become a source of exports.

Judith Stein is a professor of history and the author of Pivotal Decade: How the United States Traded Factories for Finance in the Seventies (Yale University Press, 2010).

Image: San Francisco-Oakland Bay Bridge under construction (Roy Mesler, 2006, Flickr creative commons)