Many of you know that I have been a critic of the Obama Administration (since Day One), mostly from the left, particularly about foreign policy. (Some have taken this to mean that I don’t admire Obama; I do, but I also recognize the need for principled opposition and a defense of progressive principles. As a cautious politician, Obama will only go to the Left when a path is cleared for him.)
That being said, I have said and continue to believe that the Obama Administration bungled its response to the two most pressing tasks when he took office: the collapse of the economy, and the increasing militarization of foreign policy (wars in Afghanistan, Pakistan, Iraq, and the war on drugs). Some friends have pushed me to pen my thoughts, so in this post I’ll take on fiscal and monetary policy.
The Misguided Economic Analysis that Led to a Poor Political Response
My core disagreement with the Obama Administration’s response to the financial crisis is both economic and political.
Economically, the Administration viewed the financial crisis as a shallow recession, which required mild insurance (TARP and AARP) against the worst systemic outcomes. In contrast, I believed that the financial crisis exposed a fundamental rot at the heart of the American economic system, particularly as it was rigged toward massively rewarding short-term gains, blossoming private debt, stagnating wages, and increased wealth/income gaps. The housing bubble (and the (education) degree bubble) were the perfect incarnation of these forces. By the time that the bubble began to burst, several economic forces squeezed families: reduced equity in their homes, increasing mortgage payments, increasing cost of tuition, increased insurance costs, increased (car-based) commutes to work from the low density building boom of the housing bubble era, and increasing gas prices (for a variety of reasons). In short, by the time many Americans started losing their jobs, their debt levels—from activities that were considered good or necessary financial decisions such as home ownership, education, and health costs—accelerated the crisis cycle.
Politically, the Administration viewed the stimulus (AARP) and the bailout (TARP) as bitter pills to swallow on the way toward achieving signature Congressional “liberal victories”, including, but not limited to health insurance reform. In contrast, I believed that years of Republican mismanagement meant that economic regulation, and the staffing of government at the minimum was necessary for a sharp break with the Republican orthodoxies that had ruled more or less unfettered since 2001, and gained ascendancy in 1994. If we didn’t get the (political) economy right, all of our achievements were moot because we wouldn’t be able to sustain the partisan coalition necessary to defeat the right-wing.
When we say that Obama lacked a spine, we don’t only mean that progressives feel like they got rolled in the tactics of negotiation. We mostly mean that the President who ran on judgment seemed utterly incapable of diagnosing the fundamental illnesses in the American system and decidedly unwilling to roll them back. I would have settled for containment, but the man opted for conciliatory appeasement. (Now much of this was apparent during the primary and the election, as I pointed out back then.)
In fact, even today the Administration believes that it has done all it should do about the economy, and we just have to wait it out. From his Facebook Townhall:
[Obama] So those were all investments that we made in the first two years. Now, the economy is now growing. It’s not growing quite as fast as we would like, because after a financial crisis, typically there’s a bigger drag on the economy for a longer period of time. But it is growing. And over the last year and a half we’ve seen almost 2 million jobs created in the private sector.
Again, to be clear, note that Obama is not saying that it isn’t politically feasible due to Republican obstructionism – he saying that a stronger recover is not economically feasible because recoveries after financial crises just take longer and we’ll have to live with it. Now this idea is advanced in the recent book by Kenneth Rogoff and Carmen Reinhart, called This Time is Different.
Is Obama correct? Interesting enough, the Chariman of the Federal Reserve, Ben Bernanke, was asked a similar question in response to this book.
REPORTER: Mr. Chairman, Ken Rogoff, wrote a book looking at 800 years of financial history and discovered when you have a financial crisis it takes a lot longer for the economy to recover.
Are people expecting too much from the Federal Reserve in terms of helping the economy recover? Has that complicated your monetary policy making?
CHAIRMAN BERNANKE: Let me say first that Ken Rogoff was a graduate school class mate of mine. I even played Chess against him, which was a big mistake. I enjoyed that book very much. I thought it was informative and as you say, it makes the point that as a historical matter, recoveries following a financial crisis tend to be slow.
What the book didn’t do is give a full explanation of why that’s the case. Part of it has to do with the problems in credit markets. My own research when I was in academia focused a good deal on the problems in credit markets on recoveries.
Other aspects would include the effects of credit problems on areas like housing and so on. We are seeing all that, of course, in our economy.
That said, another possible explanation for the slow recovery from financial crises might be that policy responses were not adequate. That the recapitalization of the banking system, the restoration of credit flows and the monetary fiscal policies were not sufficient to get as quick a recovery as might otherwise have been possible.
And so we haven’t allowed that historical fact to dissuade us from doing all we can to support a strong recovery.
The Administrations Failed Response to the Economy
Have I overstated my case that the Obama Administration completely misdiagnosed the economic situation? See Ezra Klein’s reporting on how the Administration, at the time, skewed its estimates.
I want to lean on Brad Delong’s summary of the economic/political conversation of 2009 (posted in December 2009), and add a few words.
By December 2009, the Administration was ready to move to cutting the deficit according to reporting by Noam Scheiber. (Note that this is a full year before Democrats lost the House, and Obama supposedly “pivoted” to deficit reduction measures.) In Scheiber’s accounting, “As of late this summer, Democrats in Washington shared a tidy consensus about the economy: The stimulus was working more or less on schedule, and the job market was gradually recovering. That meant the administration could start thinking about how to rein in the country’s yawning budget deficit, if not actually scale it back yet…”
Progressives were criticizing the President’s move as of August 2009. This is in August 2009. Obama took office in January 2009. This means he was getting it wrong from the get-go.
Importantly, the Obama Administration economic analysis dictated its political strategy: Obama wanted to scale back government spending long before the Republicans captured the House. Don’t let the 2012 campaign tell you otherwise.
What the Obama Administration Should Have Done About the Financial Crisis
The Administration, instead of champion TARP or AARP, should have passed a Debt and Housing Relief Act . This bill should have done the following things.
1. Restructured American Retirement: Lowered the Retirement Levels to 55 (for Social Security and Medicare), Raised the Payroll Tax Caps above 108, 000, and allowed these to be assessed on dividends-based income, increased both employee/employer contributions by 1% but also raise the COLA adjustments and net payouts
This would have address the “too old to hire, too young to retire” glut of the workforce
2. Grant block grants to states and major cities (populations 1M+) for restructuring, meeting payroll,and pension requirements — states can opt out/ cities can opt out. This aid should have been “automatic”, that is, tied to the level of unemployment in the city: (i.e. above 5%, above 9%, and above 15%).
3. Pass a law that in four years, the government would no longer be able to borrow from the Social Security Trust fund.
4. Any state who accepts stimulus money, along with federal government pension plans, should have been consolidated to create a Infrastructure Investment Bank. Investment managers use profits to pay for new and update infrastructure in the country.
5. Restore Glass-Stegal and break up the largest banks into the constituents parts (separating different types of banking) to create a Housing Bank: absorb all federal guaranteed mortgages, all subprime mortgages, and all toxic assets into a subsidized bank. The idea is that no bank is too big to fail, but that the government would purchase toxic assets into one new bank that was government financed but independent. This federalized bank would therefore be able to directly re-write mortgages, and offer better financing incentives for people who wanted to move into urban areas (500k or more) and buy homes/ properties there.
6. Expand opportunities for National Service: folks who participate in national service can write down up to 12k of student loans
7. Peg the value of Pell Grants to be 80% of In-state public school Tuition and remove private lenders from student loans. Education institutions that receive federal money cannot increase the cost of tuition more than the rate of inflation + 1% ever year to prevent a subsidized growth of the university system. Every student is eligible to receive up to 7 years of Pell Grant funding, though no more than 4 of which can go to undergraduate funding. (Note the Administration did remove private lenders from student loans.)
8. Cut Corporate Tax Rates to 8% + 3% for the state that corporation has a home base in — if an overseas company then +5% to the federal government instead. This would help with state financing.
9. TARP for Education: The government takes on all student loan debt except for 10K per person. Citizens with less than 10k in debt or who have recently (ten years) paid off student loan debt would receive a 2k in negative income taxes for 5 years.
Next Up (in a few days): Why the economic and political logic of this plan was.