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America's Economic Crisis Is Beyond The Reach of Traditional Solutions
By most accounts the
I cannot predict the future.
However, I can explain what the problems are, how
they differ from past times of troubles, and why
traditional remedies, such as the public works
programs that Reich proposes, are unlikely to
succeed in reviving the
Khazin points out, as have
This leaves economists with fiscal policy, which, as Reich realizes, also has problems. Reich is correct that neither a reduction in marginal tax rates nor a tax rebate is likely to be very effective. Reich, a Keynesian, has an uncertain grasp of supply-side economics, but as one who has a firm grasp, I can attest that marginal tax rates today are not the stifling influence they were prior to John F. Kennedy and Ronald Reagan. As Art Laffer said, there are two tax rates, high and low, that will produce the same tax revenues by expanding or contracting economic activity. Marginal tax rates are no longer in the higher ranges. As for a tax rebate, Reich is correct that in the present situation a tax rebate would be dissipated in paying off creditors.
Reich sees the problem as a lack of aggregate demand sufficient to maintain full employment. His solution is for the government to spend "a lot" more on infrastructure projects on top of a trillion dollar budget deficit --"repairing roads and bridges, levees and ports; investing in light rail, electrical grids, new sources of energy." This spending would boost employment, wages, and aggregate demand.
I have no opposition to
infrastructure projects, but who will finance the
baseline trillion dollar US budget deficit plus the
additional red ink spending on infrastructure? Not
For years, the
The open question is: how much longer will they do so?
Foreign portfolios are
overweighed in dollar assets. Currently the
dollar's value is benefitting from the financial
crisis, as investors flee to the reserve currency.
However, sooner or later the huge outpourings of
dollar debts will cause foreign creditors to draw
Is the rest of the world, which has demanded a financial summit to work toward a new financial order, going to permanently allocate the world's supply of capital to covering American mistakes?
If not, the bailout and the stimulus package will have to be financed by printing money.
And the bailout needs are growing. Car loans and credit card debt were also securitized and sold. As the economy worsens, credit card and car loan defaults are rising. Moreover, AIG needs more money from the government. Fannie Mae's loss has widened to $29 billion despite the $200 billion bailout. General Motors and Ford need taxpayer money to survive. General Motors says that its GMAÇ mortgage unit "may not survive." Deutsche Bank sees General Motors shares "as likely worthless."
Shades of the Weimar Republic.
What Reich and the American
economic establishment do not understand is that the
recession paradigm does not apply. There are
no jobs waiting at US manufacturers for a demand
stimulus to pull Americans back into work. The
problem is not a liquidity problem. To the
contrary, there have been many years of too much
liquidity. Credit has grown far more than
The work is gone. All that are left are credit card and mortgage debts.
Anyone who thinks that
Economists associate economic depression with price deflation. However, traditionally, debts that are beyond an economy's ability to service are inflated away. This suggests that the coming depression will be an inflationary depression. Instead of falling prices mitigating the effects of falling employment, higher prices will go hand in hand with rising unemployment--a situation worse than the Great Depression.
The incompetent Clinton and
Dubya administrations, unregulated banksters and
Wall St criminals, greedy CEOs, and a no-think
economics profession have destroyed
What is the remedy for simultaneous inflation and unemployment?
Three decades ago the solution was supply-side economics. Easy monetary policy had pushed up consumer demand, but high tax rates had curtailed output. It was more profitable for firms to allow prices to rise than for them to invest and increase output.
Supply-side economics changed the policy mix. Monetary policy was tightened and marginal tax rates were reduced, thus stimulating output instead of inflation.
Today the problem is different.
The bailout funds have been wasted. The expensive bailout does not address the problem of falling employment and rising mortgage defaults. Treasury Secretary Hank Paulson could not see beyond saving Goldman Sachs and his bankster friends. The Paulson bailout does nothing except take troubled assets off banks' books and put them on the overburdened taxpayers' books, thus endangering the US Treasury's credit rating.
What the Bush Regime has done is to stick the taxpayers with the banks' mistakes. An intelligent government would have used the money to refinance the troubled mortgages and stop the defaults. By saving the mortgages from default, the banks' balance sheets would have been made secure. By failing to deal with the subprime crisis, Bush and Congress have added a financial crisis to the exhaustion of consumer demand and the problems of financing huge trade and budget deficits.
Belatedly, Paulson has realized his mistake. On November 12, Paulson announced, "We have continued to examine the relative benefits of purchasing illiquid mortgage-related assets. Our assessment at this time is that this is not the most effective way to use [bailout] funds."
The financial crisis has cost taxpayers far more than the amount of the bailout. Americans' savings and pension funds have been devastated. Americans in investment partnerships, who have been required by IRS rules to pay income taxes on gains in the partnerships' portfolios, have had the accumulated multi-year gains wiped out. They have paid taxes on years of "capital gains" that have disappeared, thus doubling their losses.
Can Americans afford massive
infrastructure spending when they cannot afford
health care? In
US corporations, which have
moved their production for US markets offshore in
order to drive up their share prices and provide
their CEOs with multi-million dollar bonuses, can be
provided with a different set of incentives that
encourage the corporations to bring employment back
to the US. For example, the corporate income
tax can be restructured to tax corporations
according to the value-added in the
Cutting the budget deficit by
halting pointless wars and unnecessary military
spending and reducing the trade deficit by
bringing jobs back to
The world has had enough of
American irresponsibility and is taking away the
reins. At the November 15 economic summit, the world
will begin the process of imposing a new financial
order on the
With bailouts eating up the
world's supply of capital, continued foreign
Paul Craig Roberts [email him] was Assistant Secretary of the Treasury during President Reagan's first term. He was Associate Editor of the Wall Street Journal. He has held numerous academic appointments, including the William E. Simon Chair, Center for Strategic and International Studies, Georgetown University, and Senior Research Fellow, Hoover Institution, Stanford University. He was awarded the Legion of Honor by French President Francois Mitterrand. He is the author of Supply-Side Revolution : An Insider's Account of Policymaking in Washington; Alienation and the Soviet Economy and Meltdown: Inside the Soviet Economy, and is the co-author with Lawrence M. Stratton of The Tyranny of Good Intentions : How Prosecutors and Bureaucrats Are Trampling the Constitution in the Name of Justice. Click here for Peter Brimelow's Forbes Magazine interview with Roberts about the recent epidemic of prosecutorial misconduct.