The biggest thing to happen to me this year was the birth of my first grandchild, a little girl named Ella. I know this kind of thing happens all the time and frankly I get bored with people who go all gushy about the birth of kids or grandkids.
I’m bringing Ella up not so much because she’s special — of course she is — but because she was born right in the middle of the worst economic downturn in my lifetime and probably yours, and maybe even hers. Ella came with a crash.
Like almost everyone else, I’ve lost a big chunk of my savings this year. And the house I bought here in Berkeley at the very top of the housing boom is probably worth a lot less than I paid for it. I’m not too worried about my job because I have tenure here at the University of California, although maybe I should worry because the state is technically bankrupt. Still, I’m one of the lucky ones.
Yet all of this seems somehow beside the point, relative to Ella.
Having kids or grandkids expands your focus and also your time horizon. You pay a bit less attention to what the Dow is likely to do over the next quarter and more to the underlying wealth of the nation. By that I don’t mean just its gross domestic product but also its gross domestic decency, if there were such a measure: The quality of our public schools and of our atmosphere, the extent of our openness and generosity toward one another, our national promise of opportunity to all. You find yourself less interested in the gossip surrounding Bernie Madoff or Rod Blagojevich than in the larger questions they raise about private greed and public morality.
Alright, maybe I am going all gushy. The point is, it’s the Ellas of the world we’re fighting for. This Mini-Depression is causing a lot of pain, to be sure, but it will be over in a year or three. Yet what kind of economy will we have on the other side? Will we have a more just society?
Which brings me to the end of the year. I wish you not just a happy and prosperous new year. On that score, 2009 may be something of a bummer. I wish you and your kids and grandkids, and Ella, something more — a decent, generous, and humane future.
December 2008
21 posts
I try to be optimistic — especially this time of year when the days are short and cold, when almost everybody things everyone else is having a better time than they are, and now that we’re in the worst economic downturn in almost anyone’s memory. Yet I also try to be realistic about the effects of this Mini-Depression. At least three distinct groups are especially vulnerable, each quite differently:
1. The poor and near poor, with family incomes typically under $20,000 a year. Their connections to the labor force are tenuous at best, often involving part-time and temporary jobs. They’re also the first to be let go during downturns. Not surprising, this recession is taking a toll, and about to take a larger one. Few in this group qualify for unemployment insurance, and an increasing number have exhausted the five-year maximum for temporary welfare assistance. To the extent they’re getting by, they’re moving in with relatives. The media have missed this story almost entirely.
2. Middle and lower-middle class households whose breadwinners are within five years of being eligible for Social Security. Many are in danger of losing jobs and a large number are already working fewer hours. They’re cutting back on all discretionary purchases. But their biggest problem is that both their savings and the value of their homes have shrunk dramatically, and probably won’t bounce back before they planned to retire. Social Security will cover about 40 percent of their pre-retirement earnings. So many are now planning to work well beyond age 65. This will be a particular challenge for blue-collar workers whose earnings have depended largely on physical labor. Their bodies may not last.
3. Middle and lower-middle class retirees. Most are dependent on income from savings, which has declined sharply. They’re cutting expenses where they can, but they’re running out of resources. To the extent they can turn to their children for help, they are doing so. That means a large and growing cohort of middle-income people between the ages of 35 and 65 have begun subsidizing their parents, even though they and their immediate families are under financial stress. Here’s another untold story.
Other Americans are in distress but these three groups are particularly worrisome, and in the years ahead it seems likely they’ll be in worse shape than they are today. If this is to be avoided, these three groups will need distinct public policies crafted to their particular needs. More on this to come.
In the meantime, happy holidays.
First prediction for 2009: A widening gap between the public’s view of the bailouts of Wall Street and Detroit, and the views of the direct beneficiaries. The public believes the bailouts will permanently change these industries, but industry insiders don’t really want to change.
Exhibit one is Goldman Sach’s CEO Lloyd Blankfein, who says the firm’s business strategy doesn’t need to change.
What? Goldman got $10 billion of taxpayer money precisely because it and other big banks were so over-leveraged they threatened the whole financial system. I can understand why Blankfein doesn’t want to change. He took home $54 million last year. (He has foregone a bonus this year and is taking home a piddling $600,000.) But the public expects real reform for its $10 billion at Goldman and tens of billions more in other major banks.
Blankfein isn’t alone. I’ve heard the same thing from CEOs and directors all over the Street. They see the problem as cyclical, not structural. “The economy stinks,” they tell me, “but it’ll turn around in 18 months, and then we’re back to the same business.”
Or take the Big Three. They’ve agreed to become far more fuel efficient, as a condition for their bailout. But they promised this before — during the oil crisis of the 1970s, when Congress threatened higher fuel-economy standards. But after the crisis passed, they never delivered. Why? Because their biggest profits were in gas guzzlers that consumers wanted to buy as soon as the first oil crisis was over.
Will history repeat itself? Now that gas prices are half what they were six months ago, consumers who can afford it are suddenly less interested in fuel efficiency. They’re buying fewer hybrids and showing renewed interest in SUVs. So why should we think Detroit will revolutionize itself?
I’m not so cynical as to accuse anyone of bad faith. It’s just that both Wall Street and Detroit earned big bucks from their old strategies, before the bottom fell out of the economy. So it’s natural they’d view the bailouts as ways to hold on until the economy rebounds. And it’s clear they see their problem as cyclical, not structural.
Right now, Wall Street and Detroit are willing to say whatever they need to say to keep the taxpayer money coming. But when the economy begins turning up, my betting is that their Washington lobbyists will push back hard against any major restructurings the government wants to impose on them. New regulations of Wall Street will be watered down and circumvented; new requirements on the Big Three for green technologies will be resisted.
Yet the bailouts have been sold to the public as means toward fundamental change in finance and autos. If the bailouts are to do what they’re supposed to – stop Wall Street from wild risk-taking with piles of borrowed money, and push the auto industry into making fundamentally new products that conserve energy — Washington will not only have to set strict standards now and in the months ahead when the bailout money flows, but also hang tough when the economy begins to revive.
The emerging debate over Wall Street’s and the Big Three’s ongoing obligations to reform themselves is but one part of a much larger national debate we’ll be entering upon in 2009 and beyond — whether the economic crisis we’re experiencing is basically cyclical (in which case, nothing really needs to change over the long term, after the economy gets back on track) or structural (in which case, many aspects of our economy and society will needs to change permanently).
The National Association of Realtors said today that home prices have now dropped to the point where they’ve wiped out all the gains in housing prices since 2004. 2004, not incidentally, was when interest rates last hit bottom, and the Feds looked the other way while mortgage bankers began shoving money out the door to anyone who could stand up straight and many who could not. In other words, 2004 marked the start of the housing bubble.
Should we take comfort from this? A bit, except for the fact that housing still has a way to fall because boomers will be cashing in their homes over the next few years — buying smaller condos or, if necessary, rentals, for their retirement years. (Even though fewer and fewer boomers will be able to retire, they’ll need all the cash they can get). That means still more homes on the market, including all those bigger ones that were built when the boomers were having families. And more homes on the market means still lower prices.
In truth, home prices first began to rise more rapidly than rental prices in the 1980s, when boomers hit the housing market big time. So, demographically speaking, there may be even a longer way to go before the housing market hits bottom.
Meanwhile, younger people who might otherwise consider buying a home are waiting on the sidelines. Either they can’t get a mortgage loan (the banks continue to hoard) or they assume housing prices will continue to fall and are prepared to wait.
All this raises questions about how long and how much the federal government can mitigate the mortgage crisis. Obviously, it can do much more than it’s doing now — which is remarkably little, given the $350 billion that Hank Paulson has already burned through. But as housing prices continue to deteriorate, the number of home owners who are under water — owing more on their homes than their homes are worth — continues to rise. A portion of them will walk away from those homes, dragging down home prices around them.
It’s another mess Bush is leaving at Obama’s front door.
The President’s lifeline to the auto industry includes the provision Senate Republicans were insisting on last week, which scuttled the deal — cuts in UAW wages and benefits to make them comparable with wages and benefits in non-union automakers’ plants (all owned by foreign automakers, all mostly in the South). Last week, Bush lobbied against this provision. Now he’s adopted it, without any legislation at all.
What’s really going on? Bush doesn’t want messy bankruptcies of GM and Chrysler, potentially threatening more than a million jobs, to tarnish his last weeks in office. So he’s giving the automakers what they need to tide them over, and kicking the can to the Obama administration. But nor does he want to leave office slapping down Senate Republicans, so he’s giving them what they demanded, too.
How to square the circle? Read the fine print: The automakers don’t really have to bring wages and benefits down in order to get the money. That requirement can be “modified” in negotiations with the UAW. So everyone gets a Christmas present, and W. leaves town before the bill arrives.
Alan Greenspan, writing in the current issue of the Economist, argues that in the future banks will need more of a capital cushion than they needed before the crisis because holders of bank liabilities will require them to hold more capital. “Today, fearful investors clearly require a far larger capital cushion to lend” to financial intermediaries. In other words, there’s no need for additional regulations requiring banks to have more capital. The financial market will take care of itself. Greenspan has learned nothing at all.
In 2004 and 2005, when many economists warned that a speculative bubble in home prices and home construction posed a risk to the financial system, Greenspan brushed aside such worries, saying housing prices never declined. Before that he had resisted calls for tighter regulation of subprime mortgages and other instruments which allowed people to borrow far more than they could afford. He had also opposed tougher regulation of derivatives. Almost a decade earlier, Greenspan had urged Congress to knock down the regulatory walls that separated investment and commercial banks, thereby inviting investment banks to place huge bets with other peoples’ money.
Barely two months ago, when Greenspan appeared before Congress to explain what had happened to the economy, Representative Henry Waxman asked him pointedly: “Were you wrong?”
“Partially,” Greenspan responded. “This crisis has turned out to be much broader than anything I could have imagined.”
It might be argued that Alan Greenspan’s failure of imagination was not just about the scale of the crisis. More basically, his ideology had made it difficult for him to imagine what could happen when financial markets are left to themselves. He had supposed that the interplay of millions of self-seeking individuals would make government regulation unnecessary – except to prevent outright fraud or theft. To Greenspan and others like him, the global financial market represented the almost perfect form of the free market, because buyers and sellers were could gather almost unlimited information about one another, at almost instantaneous speed, at very low cost. Not only would the financial market be self-correcting, but it would automatically give us everything we might reasonably wish from it.
Greenspan’s real failure of imagination was his inability to believe there are useful market rules beyond those that protect private property and prevent outright fraud. This, presumably, was why he kept insisting for so long that government be held at bay.
But now the United States has chosen to deal with the financial crisis by buying up a significant fraction of the shares of the nation’s major banks and its largest insurance company, underwriting the loans of a large portion of the nation’s home-lending industry, and is on the verge of underwriting the nation’s largest automobile makers. Yet little if any of this largesse has found its way to the broader public – to homeowners in danger of defaulting on their mortgages and losing their homes, small businesses close to insolvency, state and local governments cutting public services because of budget shortfalls, families unable to afford health insurance, or young people unable to obtain loans to finance university tuition.
The ideology of a perfectly self-correctly free market has given way to what might be described as a raid by America’s biggest banks and corporations on the public purse, supposedly justified by benefits to the broader public which seem never to materialize. What happened to the ideology? On closer inspection, it turned out to be something of a cover all along.
During the same years Greenspan called for deregulation of financial markets, Wall Street was accelerating its bankrolling of the U.S. Congress. Securities and investment firms contributed larger and larger amounts of money – not just to conservative Republicans who might expect such support but also to Democrats who had never been so graced before. According to Center for Responsive Politics, Wall Street firms dramatically increased their contributions to both parties during these years. Their share of total donations to the Democratic Senatorial Campaign Committee, for example, rose continuously, from 5 percent during the 1999-2000 election cycle to 15 percent by the 2007-2008 cycle.
The money was accompanied, and often raised, by Wall Street lobbyists who pushed Congress in the same direction Greenspan urged – blocking regulation of derivatives, weakening oversight of subprime mortgage lending, and preventing the Securities and Exchange Commission from doing its job.
To take but one example, the collapses of Enron, WorldCom, and several other giant corporations in 2002 revealed a troubling pattern of credit-rating agencies repeatedly assuring investors that such companies were good investments until just before they went under. When the Securities and Exchange Commission asked Congress for additional authority to oversee the credit-rating agencies, Wall Street and its lobbyists blocked the measure. With hindsight, it’s clear why. Wall Street investment banks were paying the agencies to rate various mortgage backed securities after first advising the firms that issued them – and collecting fees – on how to package them to get high ratings. Years later many of these same securities, based on risky loans, would prove to be worthless, threatening financial institutions worldwide.
Apparently Greenspan hasn’t learned anything from all this, but the rest of us have no excuse. The real choice ahead is between democratic capitalism and authoritarian capitalism. China is perfecting the latter. But unless we are careful we – the citizens of democratic capitalist nations – will discover that our form of capitalism has become more authoritarian than democratic. The current economic crisis surely poses a test for capitalism. But it is also a test of democracy.
What’s happened to democracy? GM and Chrysler say they desperately need money to avoid bankruptcy in the next few weeks. Treasury Secretary Hank Paulson now says the Big Three “will get the money as quickly as we can prudently do it.”
But didn’t Congress just vote down that money?
Don’t get me wrong. I’m among those who think there’s good reason to give the automakers a $14 billion bridge loan to stave off immediate bankruptcy until they come up with a restructuring plan (although, as I’ve said before, the plan ought to demand real sacrifices from every stakeholder). But I have to tell you, I’m deeply troubled by the administration’s likely decision to give it to them when last week Congress said they can’t have it.
Call me old-fashioned but I believe in the democratic process. Under our Constitution, Congress is in charge of appropriating taxpayer money. If Congress explicitly decides not to appropriate it for a certain purpose, where does the White House get the right to do so anyway by pulling the money out of another bag?
That other bag, by the way - called the Troubled Assets Relief Program, or TARP for short - was enacted to rescue Wall Street, not the automobile industry. Personally, I think there’s more reason to rescue big automakers than big Wall Street banks, but what I want isn’t the issue. It’s what our representatives voted for. When they voted for TARP, at the start of October, they didn’t say to the President: Here’s a $700 billion slush fund to use as you wish. They said: Here’s $700 billion for Wall Street.
If TARP is a slush fund, everything’s arbitrary. We’re no longer a nation of laws; we’re a nation of Treasury and White House officials with hundreds of billions of dollars of taxpayer money to dispense as they see fit. Why rescue autos and not, say, the newspaper industry, which is heading for oblivion. Better yet, why not rescue state and local governments? They’re running short about $100 billion this year and as a result are slashing public services, including the nation’s schools.
Even as it is, TARP is shrouded in secrecy. The Treasury has burned through $335 billion so far, and no one knows exactly how or by what criteria. Why, for example, did it set tough conditions on AIG while giving Citigroup the sweetest deal imaginable?
The dictionary meaning of a “tarp” is something used to cover things up, which is exactly we’ve got.
But our system of government depends on sunlight, transparency, and public awareness. It also depends on Congress exercising its constitutional duty to make laws and the President executing them.
An economic crisis is no excuse for turning our back on democracy.
Consumer prices fell by 1.7 percent last month, according to the Bureau of Labor Statistics. That’s the steepest drop in 61 years. Why? Because producers and sellers have discovered that consumers have just about stopped buying. The only way producers and sellers can shrink their inventories and pay their bills is to slash their prices low enough to get some consumers to buy. Automakers with acres of unsold cars are giving deep discounts. Retailers with piles of Christmas goods are holding “40-percent-off” sales. Cable-TV operators are cutting monthly fees.
The good news is that all this price cutting is helping average people at a time when wages and benefits, and jobs, are also being cut. The bad news is it’s also cutting deep into producer profits, causing them to cut even more jobs and wages. The big danger is it may cause some consumers to delay purchases, thinking they can get a better deal when prices drop further. That’s a self-fulfilling prophesy. If more and more consumers take this view, sellers will have to reduce prices further to get them to buy now. That may sound good until you realize it means more layoffs, and more cuts in wages and benefits.
Deflation is more vicious than inflation because it’s much harder to reverse deflationary expectations than inflationary ones. Japan’s “lost decade” is evidence. The last time America witnessed a fall in consumer prices as large as we have now was in 1947, when wartime mobilization and large-scale government spending were winding down, there was lots of underutilized capacity, and producers and sellers were trying to lure consumers back into the habit of buying. What producers and sellers didn’t know was that a whole new generation of returning GI’s and baby-booming parents were about to spend like mad.
Now, the situation is quite different. Rational consumers are starting to save whatever they can because they’re understandably worried about the future.
The sooner we have a major stimulus package, the better. The danger is that it will be too small.
Not long ago I was talking to someone who once had been a deficit hawk but the current recession had turned into a full-blooded Keynesian. He wanted a stimulus package in the range of $500 to $700 billion. “Consumers are dead in the water,” he said, fervently, “so government has to step in.” I agreed. But I didn’t tell him his traditional Keynesianism is based on two highly-questionable assumptions in today’s world, and the underlying logic of Keyenes leads us toward something bigger and more permanent than he has in mind.
The first assumption is that American consumers will eventually regain the purchasing power needed to keep the economy going full tilt. That seems doubtful. Median incomes dropped during the last recovery, adjusted for inflation, and even at the start weren’t much higher than they were in the 1970s. Middle-class families continued to spend at a healthy clip over the last thirty years despite this because women went into paid work, everyone started working longer hours, and then, when these tactics gave out, went deeper and deeper into debt. This indebtedness, in turn, depended on rising home values, which generated hundreds of billions of dollars in home equity loans and refinanced mortgages. But now that the housing bubble has burst, the spending has ended. Families cannot work more hours than they did before, and won’t be able to borrow as much, either.
The second assumption is that, even if Americans had the money to keep spending as before, they could do so forever. Yet only the most myopic adherent of free-market capitalism could believe this to be true. The social and environmental costs would soon overwhelm us. Even if climate change were not an imminent threat to the planet, the rest of the world will not allow American consumers to continue to use up a quarter of the planet’s natural resources and generate an even larger share of its toxic wastes and pollutants.
This would be a problem if most of what we consumed during our big-spending years were bare necessities. But much was just stuff. And surely there are limits to how many furnishings and appliances can be crammed into a home, how many hours can be filled manipulating digital devices, and how much happiness can be wrung out of commercial entertainment.
The current recession is a nightmare for people who have lost their jobs, homes, and savings; and it’s part of a continuing nightmare for the poor. That’s why we have to do all we can to get the economy back on track. But most other Americans are now discovering they can exist surprisingly well buying fewer of the things they never really needed to begin with.
What we most lack, or are in danger of losing, are the things we use in common – clean air, clean water, public parks, good schools, and public transportation, as well as social safety nets to catch those of us who fall. Common goods like these don’t necessarily use up scarce resources; often, they conserve and protect them.
Yet they have been declining for many years. Some have been broken up and sold as more expensive private goods, especially for the well-to do – bottled water, private schools, security guards, and health clubs, for example. Others, like clean air, have fallen prey to deregulation. Others have been wacked by budget axes; the current recession is forcing states and locales to axe even more. Still others, such as universal health care and pre-schools, never fully emerged to begin with.
Where does this logic lead? Given the implausibility of consumers being able to return to the same level of personal spending as before, along with the undesirability of our doing so even if we could, and the growing scarcity of common goods, there would seem only one sensible way to restore and maintain aggregate demand. That would be through government expenditure on the commons. Rather than a temporary stimulus, government would permanently fill the gap left by consumers who cannot and should not be expected to resume their old spending ways. This wouldn’t require permanent deficits as long as, once economic growth returns, revenues from a progressive income tax refill the coffers.
My friend the born-again Keynesian might not like where the logic of Keynesianism leads in today’s world, but the rest of us might take heart.
What now for the automakers? The Troubled Assets Relief Program — TARP — was enacted to save Wall Street but it’s already been so twisted out of its original shape by Hank Paulson that a bit more twisting to save the Big Three from bankruptcy over the next few weeks won’t be difficult. The White House was behind the auto rescue, and Bush doesn’t want to leave yet another failure on the portico as he leaves. Democrats certainly won’t object, and Senate Republicans will growl but so what?
TARP funds will be offered as a bridge loan to Detroit, especially GM and Chrysler, to keep them going until early January. The new Congress convenes January 6, and its first order of business will be to amend TARP and make it official (Bush will be President until January 20, of course, so this will be one of those odd-ball pieces of legislation featuring a new Congress and an old President).
But the real immediate need right now lies with state and local governments. States and locales are already showing shortfalls in the range of $70 to $100 billion this fiscal year, and they can’t officially go into deficit. That means they’re starting to whack public services — teachers, police and fire, social workers, admission to state universities, garbage collections, you name it.
Most of the public has no idea what happens on Wall Street and hasn’t even heard of TARP; and a big portion of the public doesn’t really believe that if the Big Three implode they’ll be hurt. But when it comes to their own local services, it’s a different story. To them, these are the only things government really does. And cuts in these services, on the magnitude just starting to happen, will create a generate holler on Main Street so loud as to crack the windows of every member of Congress back home this holiday season.
If we’re bailing out Wall Street and the Big Three, the public will insist that public services be restored. If not through TARP, then through the big stimulus package that will be signed January 20 or 21st. The federal government is bailout out America. But who’s bailing out the federal government? You and I, as our limited savings move into the safe haven of T-bills, along with a whole bunch of Asians.
The Senate logjam over a $14 billion “bridge loan” for the Big Three to tide them over until the end of March may be breaking. Republicans are demanding the equivalent of Chapter 11 bankruptcy as a condition — creditors must accept 33 cents on the dollar they’re owed, and workers must accept wages and benefits that match those of American workers in foreign-owned autoplants in the U.S. Democrats are at this hour negotiating a compromise.
Background: There’s a new Civil War going on when it comes to automaking in America. Japanese, Korean, and German automakers are now building 18 auto assembly plants in the United States, none of which is unionized. Kentucky (Senate Republican Leader Mitch McConnell) already has Toyota’s biggest auto assembly plant outside Japan. Tennessee (Senate Rep. Bob Corker, who came up with the “chapter 11” bailout amendment) houses Nissan’s North American headquarters. Alabama (Senate Rep. Richard Shelby) hosts Mercedez Benz and several other foreign automakers.
So there’s no reason to suppose the good citizens of Kentucky, Tennessee, or Alabama are particularly excited at the prospect of handing over their taxpayer money to competing firms and their workforces.
Besides, southern Republican are not particularly enamoured with the UAW, which has steadfastly bankrolled Democrats who have taken on Republicans. (The new Congress will have at least six new Democrats from formerly Republican districts, all of whom received at least $40K from the UAW.)
Corker’s compromise — which would force the UAW to match the wages of foreign, mostly non-unionized autoworkers in the South — would essentially make the UAW irrelevant. Why have a union if you can get the same deal without one?
But Republicans also know that the Big Three and their suppliers are spread out over the battle-ground states of Michigan, Ohio, Pennsylvania, Indiana, and Minnesota. Republicans don’t dare give up these states or alienate their citizens.
So here’s where compromise comes in.
The dirty little secret is that, bailout or no bailout, the Big Three will have to lay off thousands of workers over the next few years, as the foreign non-union automakers take market share away from them.
Throughout its history, America has cycled back and forth between two distinct targets of distrust — big business (including Wall Street), and government. In periods when big business is most distrusted, Americans seek protection from it, and reluctantly give government authority to expand its scope. When big government is most distrusted, Americans want less of it, and give big business greater leeway.
Exactly where the pendulum of distrust is located at any given time depends partly on the business cycle. When the economy is heading upward, distrust of big business is muted and the public fears that government will spoil the party; when the economy is heading downward, big business is deemed the culprit and the public looks to government for solutions. The location and direction of the pendulum also depend on headlines documenting self-dealing and corruption — either among business leaders or, alternatively, government officials.
In recent months the plunging economy combined with headlines about Wall Street’s astounding malfeasance have pushed the pendulum far toward one end of its historic swing. Add in the goodwill a new administration brings, and the public seems ready to accept massive government intervention. Quite apart from good economic arguments in favor of it, for example, the public is supportive of a $500 to $600 billion stimulus plan come January.
But two sets of headlines could cause the pendulum to start swinging back even before the new administration takes office.
The first involves the current administration’s massive bailout of Wall Street — the Troubled Assets Relief Program — to which some $350 billion of taxpayer dollars have already been committed. Never before in history has so much money been spent with such little effect. The Government Accountability Office has already made headlines about the program’s inefficacy and lack of transparency; the Treasury Department’s own Inspector General has described it as a “mess.” Even if the current Treasury Secretary doesn’t ask Congress for the second $350 billion tranche, these and related stories could give the pendulum a shove backward.
The second is this week’s headlines about Illinois Governor Rod Blagojevich’s bizarre and brazen plans to profit from selling off Obama’s senate seat. Nothing has been proven yet, but the tapes are incriminating enough. The longer Blagojevich clings to office and the more stories link his plans directly or by innuendo to anyone else in public life, the stronger the push on the pendulum — back toward public distrust in government.
On Monday, NBC Universal chief executive Jeff Zucker told weary investors at an industry conference that the network was determined to cut costs. His comments came as the company laid off 500 employees and annnounced it would move Jay Leno to its 10 pm weekday time slot. This makes sense for NBC: Every hour of scripted programming costs about $5 million — for fleets of writers, directors, cinematographers, actors, editors, and everyone in between. Leno’s compensation is hefty but not nearly $5 million an hour, and his live show costs a fraction of that. (Big-name stars come to hawk their latest films and books for free.) The Wall Street Journal estimates the move will save NBC as much as $25 million a week, minus Leno’s larger takehome pay.
It’s happening all over the economy now. Star players are being moved to where they can do the work of many others, who are being laid off in large numbers. The stars earn more yet the companies save big because they decimate payrolls. It’s done to improve profits and thereby calm anxious shareholders.
Somehow, though, it’s not working. Shareholders are still anxious — and becoming ever more so. Why? Because all the payroll cuts, multiplied across the economy, are reducing the capacity of consumers to buy goods and services. Which is why advertising budgets are being slashed. And with less advertising, NBC’s profits will continue to plummet even as it cuts its costs.
What’s rational for an individual company and wonderful for its star players turns out to be irrational for the economy as a whole. It’s not Jeff Zucker’s fault or any other executive armed with an axe. But this does suggest why smart government policies are critically important, especially now, and why a very large stimulus package is in the interest of everyone — including Jeff Zucker and Jay Leno.
The Big Three need a hybrid vehicle, if you will — a combination of chapter 11 bankruptcy and a bailout. For every taxpayer dollar they receive, the automakers should be required to come up with $2 from their stakeholders (creditors, shareholders, executives, white and blue collar employees), just as stakeholders would have to sacrifice under Chapter 11.
This is the only way GM, Ford, and Chrysler can possibly accumulate enough money to survive and restructure. It’s also the way to avoid favoring the Big Three over foreign automakers in the US (if they want to make the same $2 for every $1 sacrifice, they can do so, too.) And it’s a way to avoiding the “moral hazard” of every other big company that gets into trouble during this downturn expecting Washington to bail it out as well.
The only reason for taxpayers to put up even one dollar for every two that the automakers put up is the significant social cost that would occur if any one of the Big Three were to rapidly shrink — including unemployment insurance, increased liabilities for the Pension Benefit Guarantee Corporation, lost tax revenues, and costs associated with large numbers of people suffering losses of wages and employment.
Wall Street is a different story entirely. There’s no good reason for taxpayers to continue bailing out the Street. TARP hasn’t worked. Some $350 billion later, credit markets are still quite frozen. The only obvious beneficiaries of TARP have been the executives, creditors, and shareholders of the big Wall Street banks, who have come out better than they would have had there been no Wall Street bailout.
From here on, Wall Street banks that can’t pay their creditors should have to resourt to Chapter 11 of the bankruptcy code, which allows a firm to pay off its creditors — say, 30 cents on the dollar — and then wipe the slate clean.
Chapter 11 is ideally suited to the Wall Street credit crisis because it creates a forum in which creditors are forced to negotiate and ultimately accept a “market” price for the securities they hold — thereby accomplishing what the Treasury first tried to do under TARP: create market valuations for these otherwise unmarketable securities. And by allowing the big banks to clean up their balance sheets and get rid of their “toxic” securities, Chapter 11 clears the way for the banks to attract new investors now scared off by the unknown dimensions of potential losses.
There’s no reason to suppose Chapter 11 would be especially difficult for a big bank, nor are there likely to be significant social costs. Two months ago the Treasury warned of “contagion” if Wall Street weren’t bailed out. But the real contagion involves the continued fears and uncertainties surrounding mortgage-backed securities — and Chapter 11 provides a way to reduce these.
Prior to 1978, a company could seek Chapter 11 protection only if it was insolvent or was unable to pay maturing debt, and Chapter 11 normally meant that a company’s managers would have to relinquish control. But in 1978 Congress amended Chapter 11 to delete the insolvency test, and also to allow managers to keep control of a company unless a bankruptcy judge explicitly finds them to be incompetent or untrustworthy. Since then, instead of presiding over meetings of creditors where claims are bargained out, judges have left most decisions — even major ones — to existing managers.
Naysayers point to Lehman Brothers as evidence that Chapter 11 won’t work. But it wasn’t tried, mainly because the Treasury was by then signaling that it would bail out troubled banks. Lehman apparently chose to play a game of chicken with the Treasury, hoping and expecting the Treasury would bail it out. When the Treasury finally refused, Lehman was pushed into liquidation because it hadn’t prepared the way for Chapter 11. Chapter 11 also should have been used by Citigroup. Taxpayers took a bath on that one, for no good reason.
Bottom line: Detroit should get a hybrid vehicle, one third bailout and two-thirds Chapter 11 — $1 of taxpayer investment for every $2 of sacrifice by Big Three stakeholders. But Wall Street should not get the second $350 billion tranche of the Troubled Asset Relief Program. Wall Street deserves — and the public can do better if Wall Street utilizes — Chapter 11.
The government is doing a lousy job helping distressed homeowners. And according to John Dugan, the Comptroller of the Currency, the little that’s been done has had surprisingly little effect. Nearly 36 percent of homeowners holding mortgages whose terms were adjusted to give them more leeway defaulted on payments within three months, and almost 53 percent were behind on payments by six months.
What’s going on? It’s hard to know for sure, because the homeowners who have qualified for help so far were supposed to have been fairly good credit risks to begin with. My guess is the worsening economy is making it harder for just about all homeowners to pay their mortgages, and those who were teetering on the edge months ago — although perhaps good credit risks before that time — are now way under water. Two of the biggest culprits: Layoffs and fewer working hours. With far less money coming in, more and more people have to choose between paying their mortgages and trying to keep up with larger and larger credit card debt. They’re trying to manage both while paying the medical bills and the food bills and energy bills, and they can’t make it.
It wouldn’t surprise me if many of these Americans were starting to look at the size of the bailouts of Wall Street and the bailout of the Big Three — at the executives, well-paid professional employees, upscale creditors and shareholders, and even well-paid blue-collar workers, who are the major beneficiaries of this federal largesse — and conclude that a fundamental principle of fairness is being violated.
These Americans aren’t revolutionaries. To the contrary, they’re deeply conservative. They’ve worked hard, but their hard work hasn’t paid off. Some have tried to save, only to see their savings disappear. They’re worried about the future and about their kids’ futures. They never expected anything like this.
This is the angry soil in which populist backlashes can take root.
Today’s employment report, showing that employers cut 533,000 jobs in November, 320,000 in October, and 403,000 in September — for a total of over 1.2 million over the last three months — begs the question of whether the meltdown we’re experiencing should be called a Depression.
We are falling off a cliff. To put these numbers into some perspective, the November losses alone are the worst in 34 years. A significant percentage of Americans are now jobless or underemployed — far higher than the official rate of 6.7 percent. Simply in order to keep up with population growth, employment needs to increase by 125,000 jobs per month.
Note also that the length of the typical workweek dropped to 33.5 hours. That’s the shortest number of hours since the Department of Labor began keeping records on hours worked, back in 1964. A significant number of people are working part-time who’d rather be working full time. Coupled with those who are too discouraged even to look for work, I’d estimate that the percentage of Americans who need work right now is approaching 11 percent of the workforce. And that percent is likely to raise.
When FDR took office in 1933, one out of four American workers was jobless. We’re not there yet, but we’re trending in that direction.
Consumers will tighten their belts even further. Even if they have a full-time job, they’re witnessing these job losses or hourly declines all around them and wondering if their job could be next on the chopping block. Their indebtedness is still high, by historic standards. And many are worried as well about their mortgage payments. So consumer spending is also falling off a cliff.
Two things are needed: First, the massive Treasury bailout of the financial industry must be redirected toward Main Street — loans to small businesses, distressed homeowners, and individuals who are still good credit risks. Second, a stimulus package must be enacted right away. It needs to be more than $600 billion — which is 4 percent of the national product. It should be focused on job creation in the United States — infrastructure projects as well as services. Construction jobs are critical but so are elder care, hospital, child care, welfare, and countless other services that are getting clobbered. Service businesses accounted for two-thirds of the job cuts in November, meaning that the weakness in labor markets has shifted from the goods-producing sector of the economy to the far larger services sector.
As a condition of getting a federal bailout, the Big Three are promising, among other things, to cut costs. Among the costs to be cut will be jobs. This is paradoxical, since the reason Congress is considering bailing them out in the first place is to preserve jobs and avoid the social costs of large-scale job loss (unemployment insurance, lost tax revenues, pension payments that have to be picked up by the Pension Benefit Guarantee Corporation, and so forth) .
We should take a lesson from the Chrysler bailout of the early 1980s. The ostensible reason Congress voted for it was to preserve Chrysler jobs. Yet once the bailout was underway, in order to generate the money it needed to restructure itself, Chrysler laid off more than a third of its workforce. Most of these jobs never came back.
And it’s much the same with the mammoth bailout of Wall Street. Absent an explicit understanding of why public money is needed and what it’s to be used for, taxpayer dollars end up bolstering executives, creditors, and shareholders rather than the workers and communities that need the most help.
Our preoccupation with the immediate crisis of financial capital is causing us to overlook the bigger crisis in America’s human capital. While we commit hundreds of billions of taxpayer dollars to Wall Street, we’re slashing our outlays for public education.
Education is largely funded by state and local governments whose revenues are plummeting. As consumers cut back, state sales and income taxes are shrinking; three quarters of the states are already facing budget crises. On average, state revenues account for half of public school budgets, and most of the funding of public colleges and universities. On top of this, home values are dropping, which means local property taxes are also taking a hit. Local property taxes account for 40 percent of local school budgets.
The result: Schools are being closed, teachers laid off, after-school programs cut, so-called “noncritical” subjects like history eliminated, and tuitions hiked at state colleges.
It’s absurd. We’re bailing out every major bank to get financial capital flowing again. But we’re squeezing the main sources of our nation’s human capital. Yet America’s future competitiveness and the standard of living of our people depend largely our peoples’ skills, and our capacities to communicate and solve problems and innovate – not on our ability to borrow money.
What’s more, our human capital is rooted here, while financial capital moves around the globe at the speed of an electronic blip. Right now global capital markets are frozen, but the big money — mostly in Asia and the Middle East — and will come here, bailout or no bailout. At this point it’s coming back as purchases of dollars or in the form of T-bills that are financing the Wall Street bailout. Eventually American assets will become so cheap that the money will come rushing here to buy up the bargains.
It’s our human capital that’s in short supply. And without adequatepublic funding, the supply will shrink further. Don’t get me wrong: I’m not saying funding is everything when it comes to education. Obviously, accountability is important. But without adequate funding we can’t attract talented people into teaching, or keep class sizes small enough to give kids a real chance to learn, or provide them with a well-rounded curriculum, and ensure that every qualified young person can go to college.
So why are we bailing out Wall Street and not our nation’s public schools and colleges? Partly because the crisis in financial capital is immediate while our human capital crisis is unfolding gradually. But maybe it’s also because we don’t have a central banker for America’s human capital – someone who warns us as loudly as Ben Bernanke did a few months ago when he was talking about Wall Street’s meltdown, of the dire consequences that will follow if we don’t come up with the dough.
Telling automakers to make more fuel-efficient cars as a condition of being bailed out is like telling Citigroup or any other big bank to issue more affordable loans to Main Street as a condition of being bailed out. It won’t happen. Conditions like these make the public feel better about using their tax dollars to bail out private firms, but they’re useless. Automakers, like the big banks, will do the minimum required, and you can bet their lawyers and lobbyists will find ever more clever ways of avoiding even that minimum. Without lots of buyers who want fuel-efficient cars, automakers won’t produce them, period. (Without credit-worthy borrows able and willing to pay the costs of bank loans, they won’t be issued, either.)
You might think that the recent memories of $5-a-gallon gas would transform nearly everyone into prospective buyers of hybrids that get more than 30 miles a gallon. Think again. Consumer memories are dreadfully short. With gas prices settling down to half that sum, buyers (to the extent they still exist in this recession) are moving back to SUVs and pickup trucks, which automakers are all too happy to provide given the larger profits that come with gas-guzzlers. We’re witnessing a repeat of what occurred immediately after the oil crises of the 1970s. As soon as cheap gas was readily available, consumers who had said they wanted fuel efficiency went back to their old ways — and so did the Big Three.
What to do? Short of a gas tax that would push prices back up to $5-a-gallon — something deemed politically impossible — the only way to get lots more fuel-efficient cars is to put the costs of the gas-guzzlers on to the automakers themselves, as part of a cap-and-trade system requiring the major sources of carbon-dioxide emissions to pay for them. This would give automakers a powerful incentive to make more fuel-efficient cars and price them far more attractively than the guzzlers, thereby attracting consumers to them.
But a conditional bailout that flies in the face of consumer demand won’t work.
The notion that government deficits may be good has an odd ring these days. For most of the past two decades, America’s biggest worry has been inflation brought on by excessive demand. Inflation soared into double digits in the 1970s, budget deficits ballooned in the ’80s, Bill Clinton got great credit for erasing the deficit in the ’90s, and George W. Bush then pushed deficits up again. But some 60 years ago, when 1 out of 4 adults couldn’t find work, the problem was lack of demand. That old problem is now re-emerging.
Where do can we find guidance? One source: John Maynard Keynes.
Some background (via a piece I wrote several years ago):
Kaynes hardly seemed cut out to be a workingman’s revolutionary. A Cambridge University don with a flair for making money, a graduate of England’s exclusive Eton prep school, a collector of modern art, the darling of Virginia Woolf and her intellectually avant-garde Bloomsbury Group, the chairman of a life-insurance company, later a director of the Bank of England, married to a ballerina, John Maynard Keynes — tall, charming and self-confident — nonetheless transformed the dismal science into a revolutionary engine of social progress.
Before Keynes, economists were gloomy naysayers. “Nothing can be done,” “Don’t interfere,” “It will never work,” they intoned with Eeyore-like pessimism. But Keynes was an unswerving optimist. Of course we can lick unemployment! There’s no reason to put up with recessions and depressions! The “economic problem is not — if we look into the future — the permanent problem of the human race,” he wrote (liberally using italics for emphasis).
Born in Cambridge, England, in 1883, the year Karl Marx died, Keynes probably saved capitalism from itself and surely kept latter-day Marxists at bay.
His father John Neville Keynes was a noted Cambridge economist. His mother Florence Ada Keynes became mayor of Cambridge. Young John was a brilliant student but didn’t immediately aspire to either academic or public life. He wanted to run a railroad. “It is so easy … and fascinating to master the principles of these things,” he told a friend, with his usual modesty. But no railway came along, and Keynes ended up taking the civil service exam. His lowest mark was in economics. “I evidently knew more about Economics than my examiners,” he later explained.
Keynes was posted to the India Office, but the civil service proved deadly dull, and he soon left. He lectured at Cambridge, edited an influential journal, socialized with his Bloomsbury friends, surrounded himself with artists and writers and led an altogether dilettantish life until Archduke Francis Ferdinand of Austria was assassinated in Sarajevo and Europe was plunged into World War I. Keynes was called to Britain’s Treasury to work on overseas finances, where he quickly shone. Even his artistic tastes came in handy. He figured a way to balance the French accounts by having Britain’s National Gallery buy paintings by Manet, Corot and Delacroix at bargain prices.
His first brush with fame came soon after the war, when he was selected to be a delegate to the Paris Peace Conference of 1918-19. The young Keynes held his tongue as Woodrow Wilson, David Lloyd George and Georges Clemenceau imposed vindictive war reparations on Germany. But he let out a roar when he returned to England, immediately writing a short book, The Economic Consequences of the Peace.
The Germans, he wrote acerbically, could not possibly pay what the victors were demanding. Calling Wilson a “blind, deaf Don Quixote” and Clemenceau a xenophobe with “one illusion — France, and one disillusion — mankind” (and only at the last moment scratching the purple prose he had reserved for Lloyd George: “this goat-footed bard, this half-human visitor to our age from the hag-ridden magic and enchanted woods of Celtic antiquity”), an outraged Keynes prophesied that the reparations would keep Germany impoverished and ultimately threaten all Europe.
His little book sold 84,000 copies, caused a huge stir and made Keynes an instant celebrity. But its real import was to be felt decades later, after the end of World War II. Instead of repeating the mistake made almost three decades before, the U.S. and Britain bore in mind Keynes’ earlier admonition. The surest pathway to a lasting peace, they then understood, was to help the vanquished rebuild. Public investing on a grand scale would create trading partners that could turn around and buy the victors’ exports, and also build solid middle-class democracies in Germany, Italy and Japan.
Yet Keynes’ largest influence came from a convoluted, badly organized and in places nearly incomprehensible tome published in 1936, during the depths of the Great Depression. It was called “The General Theory of Employment, Interest and Money.”
Keynes’ basic idea was simple. In order to keep people fully employed, governments have to run deficits when the economy is slowing. That’s because the private sector won’t invest enough. As their markets become saturated, businesses reduce their investments, setting in motion a dangerous cycle: less investment, fewer jobs, less consumption and even less reason for business to invest. The economy may reach perfect balance, but at a cost of high unemployment and social misery. Better for governments to avoid the pain in the first place by taking up the slack.
Keynes had a hard sell, even in the depths of the Depression. Most economists of the era rejected his idea and favored balanced budgets. Most politicians didn’t understand his idea to begin with. “Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist,” Keynes wrote.
In the 1932 presidential election, Franklin D. Roosevelt had blasted Herbert Hoover for running a deficit, and dutifully promised he would balance the budget if elected.
Keynes’ visit to the White House two years later to urge F.D.R. to do more deficit spending wasn’t exactly a blazing success. “He left a whole rigmarole of figures,” a bewildered F.D.R. complained to Labor Secretary Frances Perkins. “He must be a mathematician rather than a political economist.” Keynes was equally underwhelmed, telling Perkins that he had “supposed the President was more literate, economically speaking.”
As the Depression wore on, Roosevelt tried public works, farm subsidies and other devices to restart the economy, but he never completely gave up trying to balance the budget. In 1938 the Depression deepened. Reluctantly, F.D.R. embraced the only new idea he hadn’t yet tried, that of the bewildering British “mathematician.” As the President explained in a fireside chat, “We suffer primarily from a failure of consumer demand because of a lack of buying power.” It was therefore up to the government to “create an economic upturn” by making “additions to the purchasing power of the nation.”
Yet not until the U.S. entered World War II did F.D.R. try Keynes’ idea on a scale necessary to pull the nation out of the doldrums — and Roosevelt, of course, had little choice. The big surprise was just how productive America could be when given the chance. Between 1939 and 1944 (the peak of wartime production), the nation’s output almost doubled, and unemployment plummeted — from more than 17% to just over 1%.
Never before had an economic theory been so dramatically tested. Even granted the special circumstances of war mobilization, it seemed to work exactly as Keynes predicted. The grand experiment even won over many Republicans. America’s Employment Act of 1946 — the year Keynes died — codified the new wisdom, making it “the continuing policy and responsibility of the Federal Government …to promote maximum employment, production, and purchasing power.”
And so the Federal Government did, for the next quarter-century. As the U.S. economy boomed, the government became the nation’s economic manager and the President its Manager in Chief. It became accepted wisdom that government could “fine-tune” the economy, pushing the twin accelerators of fiscal and monetary policy in order to avoid slowdowns, and applying the brakes when necessary to avoid overheating. In 1964 Lyndon Johnson cut taxes to expand purchasing power and boost employment. “We are all Keynesians now,” Richard Nixon famously proclaimed. Americans still take for granted that Washington has responsibility for steering the economy clear of the shoals, although it’s now usually the Fed chief rather than the President who carries most of the responsibility.
Keynes had no patience with economic theorists who assumed that everything would work out in the long run. “This long run is a misleading guide to current affairs,” he wrote early in his career. “In the long run we are all dead.”
If this isn’t a Great Crash I don’t know how to define one. Stocks were down another 7 percent today. Since the peak of last year, major stock indexes have dropped 47 percent. We’re in range of the Great Crash of 1929.
Why is the Great Crash of 2008 happening? First, because investors are beginning to understand the enormity of the bubble economy that began to form in the late 1990s when all contraints were lifted on borrowing in order to buy everything that was assumed to be increasing in value — starting with houses and including securities and shares of stock themselves. So-called “margin requirements,” first instituted in the wake of the Great Crash of 1929, were all but abandoned, as big banks and hedge funds found ways around them.
Even more important, investors are starting to fathom the emptiness of American consumers’ wallets. Retail sales last Friday and Saturday — the first days of the Christmas buying season — were disappointing. Had retailers not discounted to the point of taking losses, sales would have been abysmal. In other words, consumers have gone on strike.
Why have they gone on strike? Not because of the difficulty of getting credit. Most consumers can barely afford to pay the interest charges on the debt they’re already carrying. Consumers have gone on strike because their earnings haven’t kept up. The recovery that officially ended December, 2007 (the National Bureau of Economic Research now tells us) was the first on record in which median earnings declined, adjusted for inflation. Since then, many people have also lost their jobs or are working part time when they’d rather be working full time, or else know they’re in danger of losing their jobs.
The speculative bubble still has some air in it; asset values will continue to drop before they hit bottom. That will take at least a year, possibly two. But don’t expect asset values to bounce substantially back, even then. The only way to revive Wall Street is to revive Main Street, and the only way to accomplish this is to get America back on the course of rising median incomes.
