Economy’s I-Told-You-So Naysayers Hold a Reunion: Caroline Baum
An object in motion remains in motion with the same speed and in the same direction unless acted on by an external force. When Sir Isaac Newton described the behavior of objects in the universe, codified as the first of his three laws of motion, he didn’t have a $15 trillion economy in mind.
But the same principles apply, which is why the growing buzz about a new slide in the U.S. economy is misplaced.
An economy’s natural tendency is to grow. Really. Consumers want to buy cars, clothing and home furnishings. We need money to pay for our purchases, so we produce something or provide a service someone else wants. That’s the premise behind Say’s Law, named for the late 18th and early 19th century French economist Jean-Baptiste Say: Supply creates its own demand. The very act of producing generates the purchasing power to buy other goods.
For example, consumers weren’t exactly clamoring for a mobile device that would let them talk, walk and gawk at celebrities and engage in virtual pimple-pushing, yet Apple Inc. came up with a profit-making idea and developed the iPhone.
From time to time human interventions knock the economy off its growth path. Higher interest rates, burdensome taxation, and intrusive rules and regulations all act to slow growth. At the same time, natural disasters may destroy the capital stock and disrupt production, also putting a brake on growth.
So what happened this spring to make the U.S. economy fall off a cliff? Granted, it wasn’t cruising along to begin with. Real gross domestic product rose a scant 1.8 percent in the first quarter, with inventory accumulation accounting for most of that growth. Final domestic demand limped along at a 0.7 percent annualized pace.
The second quarter was looking better -- until the data started to roll in. Down went the GDP forecasts as reports on jobless claims, industrial production and consumer spending showed renewed weakness.
By May, employers had gotten the memo and stopped hiring. The widely watched manufacturing index from the Institute for Supply Management fell to a 20-month low in May. Those reports, on the heels of lousy April data, prompted economists to fall back on that sophisticated analytical framework: The economy was encountering some “headwinds,” they told us. (See also “hitting a speed bump” or “soft patch.”)
Why? What changed?
Schools of Thought
The various schools of economic thought, which just happen to line up with proponents’ political leanings, were quick to offer answers.
Keynesian economists basked in their I-told-you-so’s. I told you the $830 billion fiscal stimulus in 2009 was too small, too temporary and not targeted to where it was most needed. (Those targeted handouts for the purchase of homes and autos didn’t work out so well either.)
Economists of the Austrian School have been saying I-told you-so for generations. A slump is the natural progression after a period of malinvestment, better known as an asset bubble, which is why the goal should be bubble avoidance. Any attempt to prevent prices -- in this case home prices -- from falling prolongs the agony, which is something policy makers have been slow to grasp.
For supply-siders, the tax cuts put in place by the Obama administration this year were the wrong kind. Reducing the payroll tax on employees may generate more spending, but cutting it for employers -- something now being considered -- might actually create a few jobs. The expiration of the Bush tax cuts at the end of 2012 is also stifling business.
For monetarists, all the Fed’s quantitative easing hasn’t translated into broad money supply growth, because banks are holding onto excess reserves and corporations are sitting on cash.
“The QEs were very ad hoc,” said David Beckworth, assistant professor of economics at Texas State University in San Marcos, who advocates the adoption of a nominal spending target. Such a strategy would create more certainty, reduce money demand and “address the problem in a systematic manner,” he said.
For everyone else, soaring prices for oil and food were the one-two punch that sapped household spending.
There is some truth to some of these critiques, but the fact is there’s been no new tightening of fiscal policy in the intervening period. The Fed is still expanding its balance sheet through the end of this month. So if the economy hit a wall early this year, it was not one erected by mankind.
Lost and Found
Japan’s March earthquake, tsunami and nuclear disaster did affect global supply chains. The Federal Reserve said as much in its industrial production report for April, attributing the decline in auto assemblies to parts shortages. It turns out just-in-time inventory management is just-too-bad for consumers looking for their favorite models.
The auto production and purchases aren’t lost.
“Supply shocks don’t change GDP,” said Joe Carson, director of global economic research at AllianceBernstein in New York, referring to the unavailability of key auto parts. “They change the timing of GDP.”
The timing change will be reflected in the third quarter. Based on automakers’ announced production schedules, July auto output will show a 24 percent monthly increase, the sixth biggest on record, said Neal Soss, Credit Suisse chief economist.
The economy’s short-term problems, including the arduous task of digging out from the financial crisis, are creating a distraction for President Barack Obama and Congress at a time when the U.S. faces major long-term challenges, such as the approaching insolvency of Medicare.
“The economy is cyclically improving but structurally impaired,” Soss says.
The last thing we need is for Washington to refocus on “improving” and take its eye off “impaired.”
(Caroline Baum, author of “Just What I Said,” is a Bloomberg View columnist. The opinions expressed are her own.)
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