Saturday, December 3, 2016

Fixing the Economy

By Gail Bambrick

When will things really get better, and can anything hasten the recovery?

David Dapice

“If there is not a pickup in infrastructure investment, which is partly a public investment, it is hard to see very rapid growth of 4 to 5 percent a year,” says David Dapice.

The recession is over—it ended in June 2009, according to the National Bureau of Economic Research—but the pain is still here, with sluggish growth and an unemployment rate hovering at 9.6 percent.

David Dapice, an associate professor of economics in the School of Arts and Sciences, says the bottom line is this: there isn’t a quick, easy fix.

Tufts Journal: How is the economy doing?

David Dapice: Sub-par and sluggish. We have been growing for more than a year but at a pretty slow rate—about 2.5 percent this year and next—from a very deep hole. As a result, there is little employment growth, and a lot of people who would like to work have given up looking, or have had to settle for part-time work. Together, the aggregate un- and underemployment rate is 15 to 20 percent. About half of the unemployed are long-term jobless of six months or more. That has not happened since World War II.

Overall, we are probably in for an extended period of high unemployment. This is what usually happens after a deep recession caused by a financial crisis.

Why aren’t things improving faster?

Consumers took on way too much debt and are slowly working it down. But it will take years to get back to a ratio of debt equal to 90 to 100 percent of income, instead of more than 120 percent, which is what it was when the financial crisis hit. Consumers are the biggest part of the economy, and with weak real-wage growth, soaring medical costs, depressed housing wealth and uncertain job prospects, they are not in a spending mood.

Higher oil prices do not help either, nor do the 10 million mortgage holders who are under water, with houses worth less than what they owe. These people find it hard to move to a new job, so our labor markets are less flexible than in past downturns.

Meanwhile, our monetary policy is of uncertain effectiveness, with interest rates already so low. And fiscal policy—government spending minus taxes—will get tighter with the end of the stimulus and the new Congress not wanting to allow any more debt.

Why don’t businesses hire more people?

Businesses have a huge pile of cash, and bigger companies can borrow at around 1 percent a year. The main problem has been uncertainty. Now, it is true that smaller businesses don’t know if they can get a loan, or how much medical costs will go up, assuming they offer health insurance. All we can say right now is that it seems to be more lucrative for larger firms to buy another company or buy back stock rather than expand internally by investing in new equipment or hiring new workers.

Will the Federal Reserve’s buying $600 billion in Treasury bonds—basically printing new money—help?

The Federal Reserve is in a tough spot. Printing $600 billion may bring long-term interest rates down, but by printing too much, people will get nervous and long-term rates will go up. It will probably depreciate the dollar a bit, which may help exports slightly, but exports are only 12 percent of economic output. Consumer spending makes up 60 to 70 percent of the economy, and it isn’t growing very fast. The risk is there will be more bubbles—people will borrow cheaply and invest in favorite assets. A lot of that could be overseas, which will create headaches for emerging nations.

photo of stock market results

“Our monetary policy is of uncertain effectiveness, with interest rates already so low,” says David Dapice. Photo: iStock

The stock market is doing well—is that a good sign?

The stock market has rallied this year, and as one wit put it, “the market has predicted seven of the last three recoveries.” That is, the market often predicts an upturn in profits, though not necessarily employment. But sometimes it just fluctuates.

So what is the outlook?

The housing mess remains a weight on the economy. So long as millions of foreclosures hang over the economy, home prices will remain soft, and bank balance sheets will be troubled—meaning banks will be unwilling to take many risks.

If there is not a pickup in infrastructure investment, which is partly a public investment, it is hard to see very rapid growth of 4 to 5 percent a year. That rate is needed to make a real dent in unemployment and is more typical of rapid growth coming out of a severe recession.

One way to achieve this higher rate of growth is investment in what President Obama calls an “infrastructure bank,” where the government puts up the money and the private sector helps select the projects. We need this private-public partnership to take advantage of private market discipline in choosing projects. We need to renew and repair our infrastructure badly, and this would be a good time to do it, with two positive outcomes.

There is the old saying “you can’t push on a string.” If the banks don’t want to lend, it’s hard to use monetary policy to get economic activity growing. The heroes will have to be in the legislative and executive sphere. They will need to figure out a sensible fiscal policy that will stimulate economic investment and get it to be more efficient, so we can pay back the debt we have incurred.

Gail Bambrick can be reached at gail.bambrick@tufts.edu.

Posted November 12, 2010