The Next Four Years: Obama's Steady, Slo-Mo Recovery

Growth in the U.S. will pick up as the economy continues to heal. But reducing unemployment may depend on factors beyond Obama’s control

President Barack Obama promises to use his second term to boost the U.S. economy. The opposite is more like it: A strengthening economy will boost the president’s second term. Job growth is poised to continue increasing tax revenue, which will make it easier to shrink the budget deficit while keeping taxes low and preserving essential spending. All this will occur without any magic emanating from the Oval Office. It would have occurred if Mitt Romney had been elected president. “The economy’s operating well below potential, and there’s a lot of room for growth” regardless of who’s in office, says Mark Zandi, chief economist of forecaster Moody’s Analytics.

Something could still go wrong, but the median prediction of 37 economists surveyed by Blue Chip Economic Indicators is that during the next four years, economic growth will gather momentum as jobless people go back to work and unused machinery is put back into service. “The self-correcting forces in the economy will prevail,” predicts Ben Herzon, senior economist at Macroeconomic Advisers, a forecasting firm in St. Louis.

By a range of indicators, the economy is better situated for growth today than it’s been in years. Banks have strengthened their balance sheets. Most households, which borrowed too much during the housing bubble, have pared their debt back to normal levels through a combination of frugality and default. Upper-income households’ balance sheets “are as pristine as they’ve ever been,” although mortgage debt remains a heavy burden at lower-income levels, Zandi says. Housing prices have gone from falling to rising, buoying confidence. Increased consumer spending should induce more business investment in a virtuous circle. And there’s pent-up demand for residential and commercial construction. That’s not to say that growth will be gangbusters. It may not even be strong enough to get the U.S. back to full employment by the time the president’s second term comes to an end.
Obama worked hard during the campaign to persuade voters that he shouldn’t be held responsible for the weakness of the economy. They apparently listened: Not since Franklin Roosevelt has a president been reelected with the unemployment rate as high as it is now, 7.9 percent as of October. By the same token, Obama can’t claim all the credit for the recovery that began slowly in June 2009 and is on track to continue through his second term. Most economists say the influence of the president, any president, over a nearly $16 trillion economy is smaller than commonly believed. “Knowing who’s going to be president takes you only about 10 percent of the way,” says Robert Shapiro, a Democratic adviser and chairman of Sonecon, a Washington-based economic consulting firm.

Even Obama’s former chief economic adviser, Austan Goolsbee, once said, “Most all of the economy has nothing to do with the government.”

Presidents’ policy choices do matter during crises, like the one that greeted Obama when he took office in January 2009. As Obama never tires of pointing out, the U.S. was losing about 800,000 jobs a month. Moody’s Zandi, who advised Republican candidate John McCain during the 2008 presidential campaign, argues that “what Obama did with regard to fiscal policy [in 2009] was critical to avoiding a depression.” A Republican president might have acted less aggressively and allowed the economy to tank.

Derring-do is no longer essential. “The economy needs less support from the government in the coming four years than in the past four,” says Harm Bandholz, chief U.S. economist of UniCredit, a European banking group.

Contrary to what both campaigns argued, Obama’s second term won’t look that different from what would have been Romney’s first when it comes to the factors that affect the overall economy. Federal deficits ballooned to more than $1 trillion in each of the past four fiscal years because the deepest recession since World War II forced up government spending while depressing tax revenue. Things will start getting back to normal in the coming term as the economy continues to revive and more working people pay taxes. The nonpartisan Congressional Budget Office predicts that even if the Bush tax cuts are extended in full, federal revenue will jump 38 percent by 2016.

Both candidates promised to reduce deficits by similar amounts. Romney vowed to lower taxes across the board and shrink the budget deficit entirely through spending cuts; Obama also plans to rely heavily on spending cuts, though he says he’ll get a quarter of deficit reduction through higher taxes. That distinction, while important to individual constituents, matters much less to economic forecasters.

The same goes for spending choices. Where the dollars go is of intense concern to lobbyists for defense contractors, farmers, and the like, but relatively unimportant to forecasters, who focus on the overall balance of spending and revenue more than its composition. Deficits might even be smaller under Obama than they would have been under Romney—who, like George W. Bush, might have persuaded Congress to give him lots of tax reductions but not so many spending cuts. It’s telling that the major economic forecasters didn’t bother creating separate scenarios for an Obama win vs. a Romney win. The differences were too small to justify the effort.

Forecasters do care—a lot—about monetary policy because interest rates have a big influence on economic activity. The easy money policy of the past four years is likely to continue throughout Obama’s second term. Wall Street was nervous that a President Romney would appoint an inflation hawk such as his adviser, Hoover Institution economist John Taylor, to replace Chairman Ben Bernanke when Bernanke’s term ends in January 2014. Obama will probably pick someone more in Bernanke’s mold, such as Fed Vice Chair Janet Yellen. Bottom line: little or no change.

So what will drive economic growth during the next four years? Mostly, the natural healing process.

The Fed’s rate-setting Federal Open Market Committee pegs the economy’s long-run potential growth rate at 2.3 percent to 2.5 percent. Yet growth is likely to exceed that pace slightly for the next few years as unused labor and capital are put back into service. Blue Chip Economic Indicators says the average forecast of economists it surveys is for growth of about 3 percent a year in 2014, 2015, and 2016, with the unemployment rate gradually sinking over the period from 7.4 percent to 6.9 percent to 6.5 percent.

Notice that the 6.5 percent unemployment predicted for Obama’s last year in office, while better, is still above the historical average. Blue Chip’s survey doesn’t project the jobless rate will be less than 6 percent until 2019, showing just how long it takes for the economy to recover from a severe blow like the 2007-09 recession.

It’s possible that growth could beat expectations by the end of Obama’s second term—or the economy could just as easily underperform. Growth forecasts are predicated on the assumption that the federal government keeps the confidence of the world’s investors by putting itself on a plausible path to long-term financial stability. Putting off spending cuts made sense when the economy was weak and vulnerable, but if Congress and the White House continue to avoid taking their medicine when the country is in better shape, bond investors may lose confidence and demand to be paid higher yields on America’s $11 trillion mountain of publicly held debt.

The state of the world economy will affect the U.S.’s prospects, too, and there the American president has even less influence than he does at home. If Europe’s debt crisis gets bad enough it could damage the U.S. financial system—payback for the harm America did in 2008 after the Lehman Brothers meltdown. Maybe a hard landing in China will disrupt global growth. Or war in the Middle East will cause an oil shock. Even if none of that happens, job growth will be constrained by globalization, says John Silvia, chief economist of Wells Fargo Securities. U.S. companies will continue to satisfy growing foreign demand by building factories abroad, not in the U.S., Silvia says. “The character of the labor market has changed,” he says. “It’s much harder to integrate low-skilled or semiskilled workers into the economy.”

Democratic adviser Shapiro says “the central economic problem” of the next four years is to “change the path of earnings” so the benefits of economic growth reach ordinary workers, not just corporations and their shareholders.

Politically speaking, the president’s biggest advantage is that expectations have been beaten down so far that even so-so economic growth will look pretty darn good to the average American. For a while, anyway. The biggest risk for Obama is that by 2016, a slo-mo recovery in a socially polarized economy will cease to impress. The crises may be less extreme over the next four years, but the economic challenges are no smaller.

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