(What’s Left of) Our Economy: Could Main Street Have Done Better Than the Fed?

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Ben Bernanke, bubbles, Federal Reserve, Financial Crisis, Great Recession, Lawrence Summers, Leonard Vincent Gilleo, recovery, secular stagnation, Washington Post, {What's Left of) Our Economy

If you’re seeking major insights into America’s recent economic and financial history, a barber’s obituary probably wouldn’t be the place you’d start looking. But if you checked out the notice placed in the Washington Post yesterday for Leonard Vincent Gilleo, you might rethink your assumptions. Because Mr. Gilleo plied his trade at the Federal Reserve. For decades. And although the bio written (presumably by his family) might have gotten a little tongue-in-cheek, it’s arguable enough that the Fed has helped make such a hash of the nation’s economy, especially for the last two decades, that a tantalizing claim in the obit deserves to be taken seriously.

According to the notice, Gilleo’s “clients included former Fed Chairmen Arthur Burns, Paul Volker [sic], Alan Greenspan and Ben Bernanke, as well as US Ambassadors, Secret Service brass, White House Press Secretaries, and hundreds of PhD economists and State Department personnel.”

And his customers, we’re told, didn’t let him just stick to his scissors: “Standing behind his barber’s chair, Lenny served as the common man sounding board to many economic policy decisions made by the Fed.”

Now comes the kicker: “In fact, had his layman’s advice been taken seriously, Black Monday, the bursting of the dot-com bubble, and the financial crisis of 2008 could have all been avoided.”

At first, this might look nonsensical – or the kind of good-natured fun that’s common when we want to remember the deceased fondly. But think of the economic news since Black Monday – the stock market crash of October 19, 1987. The nation experienced a short and relatively shallow recession around the turn of the decade; a strong but initially jobless recovery that turned into a record expansion fueled largely by a technology-driven stock market bubble; another short, shallow recession; a recovery that turned out to be another, much bigger bubble inflated by record levels of easy money supplied by (Alan Greenspan’s) Fed; a terrifying global financial crisis resulting from that bubble’s inevitable bursting; and the recovery from the ensuing Great Recession that began in mid-2009 – the weakest on record.

It’s true that Fed Chair Ben Bernanke in particular is credited by many with preventing the most recent financial crisis from becoming a catastrophic global depression – and rejecting the advice of politicians and economists who argued that the central bank was preventing a restoration of genuine economic health by providing crutches that were too strong for too long.

But it’s also clear that Bernanke, his successor Janet Yellen, and her successor Jerome Powell have chosen the easy way to end the crisis – simply flooding the economy with as much cheap credit as necessary to keep it afloat – and that they have no viable exit plan. It’s clear as well that Bernanke and his mid-2000s colleagues missed the glaring warning signs that the growth of the 2000s was dangerously unhealthy growth.

Less clear, but most important, the Fed’s response to the last financial crisis continued a practice of fostering acceptable levels of growth and employment by showering the economy with levels of stimulus that have been so excessive as to be unsustainable, and bound to risk damaging collapses.

Economist Lawrence Summers was the first to identify this pattern, which he calls secular stagnation.

I’m not saying that I believe Gilleo had better answers. I am saying that it’s not completely crazy to recognize how dreadfully these most credentialed of our economic experts have performed, and to suspect that less technical, academicky mastery and more real-world experience and common sense (plus some backbone) would have left the economy considerably better off than at present. And P.S.: I can think of worse uses of my time than contacting Gilleo’s family to see if they were serious, and if so, what his advice actually was.

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(What’s Left of) Our Economy: The Establishment’s Case for Free Trade Keeps Weakening

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Center for Global Development, currency manipulation, Dani Rodrik, free trade, Joseph E. Gagnon, Lawrence Summers, non-tariff barriers, Paul Krugman, Peterson Institute for International Economics, protectionism, sovereignty, Trade, trade agreements, trade barriers, transparency, {What's Left of) Our Economy

Although they’ve long enjoyed benefits ranging from lavish financial support to nearly uncritical mainstream media adulation, I felt a twinge of pity this morning for establishment backers of current trade and globalization policies.

As made clear from a new report from one of their leading think tanks and a recent speech from one of their leading individual lights, they’re doubling down on the claims that there’s nothing fundamentally wrong with the trade liberalization priorities long held by the U.S. government, and that the trade barriers supported by populists and other critics will only backfire on the American and global economies. And as also made clear by the report and speech, they keep fighting a losing intellectual battle.

The report comes from the Peterson Institute for International Economics, and addresses the question “Do Governments Drive Global Trade Imbalances?” As emphasized by author Joseph E. Gagnon, the stakes of finding the right answer are towering:

“At current levels, these imbalances will push the net debt of deficit countries gradually toward unprecedented and unsustainable levels….Moreover, the domestic political consequences of persistent trade deficits are already evident in both the United States and the United Kingdom, having contributed importantly to the election of Donald Trump and the outcome of the Brexit referendum….”

In other words, if global trade flows continue getting more lopsided, they could set the stage for a repeat of the kind of global financial crisis they helped foster during the previous decade. And failing to calm populist political waters in the west could tempt key trading powers even more strongly to dabble in economically disastrous protectionism.

So Gagnon makes the case for a feel-good story: These major trade powers, especially the United States,

“have the necessary tools to achieve their stated goal of narrowing current account imbalances. President Trump and some members of his administration have proposed using trade barriers to narrow the US current account (trade) deficit. The data show that trade barriers have very little effect on a country’s trade balance. Fiscal policy and net official flows are the policies that matter for trade balances.”

One problem right at the outset: There’s nothing in the study whatever that explicitly measures the impact of (conventional) trade barriers. But even accepting this unusual methodology, it’s surely significant that he does conclude that “foreign exchange intervention” – i.e., currency manipulation – has an “important” affect on trade balances. That sounds like a trade barrier to me, at least in many instances.

And although fiscal (and related spending) policies aren’t normally considered examples of trade policies, they’ve clearly been used by numerous countries, especially Germany and throughout East Asia, to keep savings rates high, and therefore consumption (and imports) low. Why does Gagnon leave these out?

It’s absolutely true that fiscal and budget policies reflect the choices made by national societies, and therefore economies, and that as such, the presumption should be that they’re entirely legitimate. But at the same time, the nature of such choices can reveal whether these priorities can produce reasonably balanced trade with an economy like America’s – whose priorities on these fronts are substantially different but presumably just as legitimate.

As a result, trade policies that emphasize expanding commerce with countries regardless of their domestic priorities ipso facto can’t help but boost the trade deficit of the freer spending and/or more economically open country. And that description fits decades worth of American trade policies to a tee.

Lawrence Summers, President Obama’s former top White House economic adviser (among many other major government jobs), last month advanced an argument that’s somewhat more sophisticated than Gagnon’s, but no more convincing or useful to policymakers. In a speech to the Center for Global Development, Summers made the standard nod to the “compelling and persuasive case for free trade” and to the follow on view that “erecting tariff or quota barriers to trade between countries is usually a bad idea.”

But then, Summers’ line of argument actually became interesting. He sought to draw a distinction between the (unassailable) idea of free trade on the one hand, and the focus of many recent trade agreements – which he claimed “may be good or they may be bad, but they are not self-evidently and clearly good in the way that free trade is clearly good.” These concerns centered around goals like “securing intellectual property protection for global companies in a wider range of countries” and “achieving access for service companies to a wider range of countries” and “harmonizing rules in areas like safety standards or financial reporting standards.”

Supporters of such measures, he contended, have too often been arrogating

“the prestige of free trade…in support of a rather different agenda of better, more harmonized commercial rules” and expressed support for the view that “the participants in the debate about what constitute better, more harmonized commercial rules are mostly the kinds of people who appear in Davos rather than the kinds of people who work in the companies that are run by the people who appear in Davos.”

It’s hardly new for trade advocates to note critically that recent trade deals have dealt largely with non-trade issues, and more disturbingly, issues that the theory’s originators couldn’t imagine. Many left-of-center opponents of the Trans-Pacific Partnership (TPP) agreement nixed (at least for the United States) by President Trump made this very point, and Summers peers such as Dani Rodrik of Harvard University and Nobelist Paul Krugman have echoed these views as well.

But Summers’ indictment of this shift in the trade agenda seems unusually strong, so it’s a great opportunity to pose three major questions that these critiques keep avoiding. First, with standard trade barriers like tariffs whittled down to near-insignificance in most cases, and such non-tariff barriers (NTBs) becoming more popular, how can genuinely free trade be sustained without somehow grappling with the latter?

Second, since the United States maintains relatively few NTBs, since these barriers are easy to identify because they’re typically line items in a completely transparent federal budget, or regulations in other, equally transparent federal documents, and since the world’s NTB champs are known for opaque governing systems that generally hide their barriers effectively, how can the United States adequately safeguard its legitimate interests without threatening to put up or actually erecting its own barriers?

So without the possibility or reality of unilaterally closing off its own market in response, how can the United States avoid being disadvantaged by legalistic systems of harmonization that (understandably but unrealistically) depend on producing evidence for winning redress?

Third, and similarly, there’s no global consensus on what kinds of health and safety regulations are genuine and valid measures to protect the commonweal, and what kinds are designed primarily as trade barriers. Therefore, how – unless again through using the threat or reality of unilateral tariffs – can countries that play it straight (like the United States) adequately safeguard their interests versus the clandestine protectionists?

The only plausible answers to these questions are, “It can’t.” And the sooner globalization’s cheerleaders acknowledge these hard truths and the commonsense measures that logically flow from them, the sooner they’ll start winning back the trust of a public that’s rightly ignoring them.

(What’s Left of) Our Economy: TPP Debate is Perpetuating Longstanding Trade Delusions on Both Sides

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currency manipulation, David Autor, enforcement, labor standards, Lawrence Summers, level playing field, non-tariff barriers, offshoring, Paul Krugman, Sander Levin, Simon Johnson, tariffs, TPP, Trade, Trans-Pacific Partnership, {What's Left of) Our Economy

Some of the biggest names in the economics world have weighed in recently on President Obama’s proposed Pacific Rim trade deal and the negotiating authority that would help secure its approval by Congress, and their analyses once again underscore how thoroughly misunderstood American trade diplomacy, its impact, and its possibilities remain. Their main points – that agreements like the Trans-Pacific Partnership (TPP) have little economic impact, and that carefully crafted provisions can produce equitable terms of competition for America – could not be more at odds with the record, and with simple common sense.

The main rationales for slighting the economic effects of the TPP – and indeed trade agreements in general – have been made by New York Times columnist and Nobel economics winner Paul Krugman, and former Treasury Secretary and top economic adviser to President Obama Lawrence Summers. The former emphasizes that “once trade is already fairly open, the gains from opening it further are small.” The latter writes that “increases in the extent of U.S. trade are driven largely by technology and by the increased sophistication of developing economies, not by trade agreements.” (Krugman also expresses agreement with this point.)

But although trade liberalization unquestionably has made major strides in the post-World War II period, the barriers that remain shouldn’t be underestimated. For the vast bulk of the obstacles to trade that have been dismantled have been visible barriers like tariffs and quotas. By contrast, non-tariff barriers (NTBs) like subsidies – which are often excruciatingly difficult even to identify, much less document and combat through trade law actions – have become especially important to America’s trading fortunes for two main reasons.

First, most of them are found overseas, which means that their persistence and growth damages U.S. producers who face foreign competition disproportionately. Second, they are particularly popular among the developing countries whose massive surge into the global trading system starting roughly when the Cold War ended has transformed international commerce. Because trade with countries like China increasingly dominates America’s trade flows, their pervasive use of NTBs – greatly aided by the secrecy with which their governments tend to operate – imposes outsized costs on their U.S. rivals, too.

What Summers overlooks is just as important. The main reason that these developing countries’ sophistication has fueled so much trade growth is that trade agreements have enabled capital from the United States and other high income countries to access not only their markets but their productive capacities and potential. In fact, by providing important guarantees to prospective investors about their treatment in host countries, these trade agreements have boosted and indeed created most of that developing country sophistication to begin with – through the transfer of management and technological knowhow that these economies never would have developed so quickly on their own.

Ironically, Summers concedes the point when he writes that trade agreements “reduce pressure for outsourcing because when barriers fall the incentive to invest abroad in order to avoid paying tariffs is attenuated.” Unfortunately, he misses the continuing importance of NTBs in sending American production and jobs to trade deal partners, especially requirements that foreign investors transfer technology, and produce and source locally.

Krugman and Summers also ignore the crucial role played by recent U.S. trade agreements, and the global imbalances they inevitably generated, in triggering the last financial crisis and ensuing Great Recession. Chiefly, the third world focus of America’s trade diplomacy starting with NAFTA intensified U.S. economic ties with countries whose willingness and potential to produce vastly exceeded their willingness and potential to consume. So not only did soaring U.S. trade deficits become inevitable. So did a deterioration of income-earning opportunities in the United States that Washington decided to offset with recklessly easy money policies. These in were turn enabled largely by the trade profits of its partners that were recycled back into the U.S. economy to create oceans of cheap credit. If you don’t believe this, your quarrel isn’t only with me. It’s with guys named Obstfeld and Rogoff, among others.

Completely unjustified faith in the ability of trade agreements to deal effectively with trade barriers – especially NTBs – is the second fundamental misunderstanding surrounding U.S. trade policies. It’s expressed prominently on both sides of the TPP debate both by Members of Congress and leading scholars, notably Summers as well as David Autor, David Dorn, and Gordon H. Hanson in the Washington Post; and Simon Johnson (along with Rep. Sander Levin, Democrat from Michigan) in Politico.

TPP supporters (based on what is known of the agreement) claim that the deal will significantly strengthen the American economy and even improve the lot of hard-pressed U.S. workers facing foreign competition by creating significant protections for intellectual property; and by protecting “U.S. firms against predatory regulatory interventions by member governments” (as Autor, Dorn, and Hanson insist). Critics, like Johnson, Levin, and Summers believe that the deal could be made acceptable to the United States if it banned currency manipulation and included strong safeguards for the environment and worker rights.

Based on America’s experience, though, confidence in trade rule-writing is a total mystery. One big and in practical terms insuperable problem is enforcement. As I’ve noted, many of the countries currently negotiating the TPP have enormous manufacturing complexes (even relatively small economies like Vietnam). As Johnson and Levin recognize, the labor provisions of NAFTA have been a major flop in Mexico. But even if a much stronger regime had been in place, how many American officials would have been needed to be constantly inspecting how many Mexican factories to ensure consistent, widespread compliance? And now they propose to add Vietnam to Washington’s enforcement burden? And, down the road, possibly China?

The second equally big and insuperable problem stems from the structure of the dispute-resolution systems in U.S. trade agreements. Typically, they give each signatory country an equal say, even though the American economy is invariably the biggest by far in the group – and therefore the greatest prize. As a result, even if so-called strong and enforceable disciplines on currency manipulation, for example, were included in the core texts of TPP and other trade deals, what reason is there to suppose that the majority of partner countries would ever see eye-to-eye with Washington on actually using any existing standard to punish the practice?

After all, Japan has already been accused by the U.S. Treasury Department of devaluing the yen for trade advantage. Why would Tokyo agree to deprive itself of the option in the future? The same goes for follow-on countries like Korea and China. In fact, since all of current and likely TPP members have a strong interest in growing by amassing trade surpluses with the United States, why would any of them ever agree to remove this weapon from their policy arsenals in any and all future circumstances?

The real lesson taught by America’s experience with trade deals is that it’s not remotely possible to level the proverbial global playing field with provisions proscribing or limiting various ostensibly objectionable foreign practices and policies. Washington’s enforcement capacity is sorely inadequate to the task, and the necessary consensus among our trade partners on acceptable and unacceptable behavior simply doesn’t exist, and shows no likelihood of emerging no matter how many pieces of paper these countries sign and how many rules they endorse.

The United States can, however, reasonably hope to secure equitable terms of trade for its domestic producers by relying on what it can hope to control – access to its own supremely important market. In other words, to serve the interests of the U.S. domestic economy, America’s trade agreements must stipulate that other countries will receive the privilege and immense advantages of doing business in the United States only on terms acceptable to the U.S. government and subject to the Congress’ unfettered ability to amend any deal it considers. Moreover, Washington will unilaterally administer all agreements and serve as judge, jury, and court of appeals for all disputes.

Even better, since the U.S. economy remains the world economy’s biggest golden goose, such tough trade policy love will bring major worldwide benefits as well – by preventing the reemergence of unsustainable international economic imbalances and the destructive financial instability and global crises to which they can lead.