(What’s Left of) Our Economy: New Reminders of Why Growth’s Quality Mustn’t be Ignored

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an economy built to last, business investment, capex, CBO, Congressional Budget Office, debt, Financial Crisis, GDP, growth, manufacturing, NABE, National Association of Business Economics, tariffs, Tax Cuts and Job Act, Trade, {What's Left of) Our Economy

For years I’ve been beating the drum about the need for American to pay as much attention to the quality of growth generated by the economy as they pay to the rate of growth itself. And in just the last 24 hours, two great examples have emerged of how ignoring the former can produce worrisomely off-base policy conclusions.

To repeat, the quality of growth matters because even growth that seems satisfactory, or even better, on a quantitative basis can be downright dangerous if its composition is wrong. Go back no further into the nation’s economic history than the last financial crisis to see why. Excessive reliance on intertwined housing, personal consumption, and credit booms nearly led to national and global meltdowns because, in former President Obama’s apt words, America became a “house of cards” overly dependent for growth on borrowing and spending. And he rightly emphasized the need to recreate an economy “built to last” – i.e., one based more on investing and producing.

In numerous posts, I’ve documented how little progress the nation has made in achieving this vital goal. And new reports by the Congressional Budget Office (CBO) and the National Association for Business Economics (NABE) valuably remind of one big reason why: This crucial challenge remains largely off the screen in government, business, and economics circles.

The new CBO study is its annual projection of U.S. federal budget deficits and federal debts, and the agency helpfully describes in detail the economic assumptions behind these forecasts. One key finding concerned the impact on American growth of the Trump administration’s various tariffs on certain products and U.S. trade partners.

Largely echoing the conventional wisdom, CBO predicted that if the levies remained unchanged, the tariffs would “reduce U.S. economic activity primarily by reducing the purchasing power of U.S. consumers’ income as a result of higher prices and by making capital goods more expensive. In the meantime, retaliatory tariffs by U.S. trading partners reduce U.S. exports.”

Specifically, according to CBO, “new trade barriers will reduce the level of U.S. real GDP by roughly 0.1 percent, on average, through 2029” – although its economists acknowledged that the estimate “is subject to considerable uncertainty.”

So that sounds pretty like a pretty counter-productive outcome for the President’s trade policies. But check out what else CBO said about the short-term impact of new U.S. tariffs. “Partly offsetting” the negative effects of those rising prices, along with the damage done by retaliatory foreign tariffs, the levies will also

“encourage businesses to relocate some of their production activities from foreign countries to the United States….In response to those tariffs, U.S. production rises as some businesses choose to relocate their production to the United States. In the meantime, tariffs on intermediate goods encourage some domestic companies to relocate their production abroad where those intermediate goods are less expensive. On net, CBO estimates that U.S. output will rise slightly as a result of relocation.”

In other words, the Trump tariffs will lower overall growth a bit, but more of that growth will be generated by domestic production, rather than by consumers and businesses purchasing more imports – primarily financed of course with more borrowing, and boosting debts. For anyone even slightly concerned with the quality of growth, that could be an acceptable price to pay for a healthier American economy over the long run.

Over the longer run, CBO speculates that the tariffs will reduce private domestic investment and productivity (and in turn overall growth), though it admits that this outlook is even more uncertain than that for the short run. Moreover, it’s easy to imagine public policies that could negate considerable tariff-related damage. For example, if the trade curbs do indeed undermine productivity in part by reducing the competition faced by domestic businesses – and therefore reducing their incentives to continue to improve – more overall competition could be restored through more vigorous anti-trust policies. So the tariffs could still result in growth that’s somewhat slower, but more durable.

The NABE’s January survey of members’ companies painted a pretty dreary picture of another Trump initiative – the latest round of tax cuts. As reported by the organization’s president, “A large majority of respondents—84%—indicate that one year after its passage, the 2017 Tax Cuts and Jobs Act has not caused their firms to change hiring or investment plans.”

As a result, even though the sample size was pretty small (only 106 companies responded to the organization’s questions), these answers significantly undercut tax cut supporters’ claims that the business-heavy reductions would lead to a capital spending boom.

Yet a closer look at the results offers greater reasons for (quality-of-growth-related) optimism. And they represent some evidence that the tariffs are achieving intended benefits as well. In the words of NABE’s president, “The goods-producing sector…has borne the greatest impact, with most respondents in that sector noting accelerated investments at their firms, and some reporting redirected hiring and investments to the U.S.”

This goods-producing sector includes manufacturing, and its outsized reaction to the tax cuts makes sense upon considering how capital-intensive industry has always been. In addition, manufacturing dominates U.S. trade flows, so it makes perfect sense that the tariffs’ jobs and production reshoring impact has been concentrated in this segment of the economy.

And once again, the bottom line seems to be more growth spurred by more domestic production – which can only improve the quality of the nation’s growth, and the sustainability of its prosperity.

Of course, the best results of new American economic policies would be the promotion of more and sounder growth. But as widely noted, big debt hangovers resulting from financial crises make even pre-crisis growth rates difficult to achieve even when quality is ignored – as the specialists quoted in this recent New York Times article appear to admit. So in order to achieve the best long run results, Americans may need to lower their short-term goals and expectations somewhat. That greater realism – and sharper focus – will surely come a great deal faster if important institutions like the CBO and the NABE start paying them at least some attention.

(What’s Left of) Our Economy: For Now, the Long, Strange Trip is Set to Continue

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corporate profits, Federal Reserve, GDP, gross domestic product, growth, interest rates, liftoff, monetary policy, NABE, National Association for Business Economics, Obama, recovery, unemployment, wages, Yellen, {What's Left of) Our Economy

If you’re totally confused about the state of the U.S. economy these days, you’re hardly alone. A quick perusal of recent economic commentary shows that the supposed best economic minds in the country are hopelessly befuddled, too – only they don’t seem to know it. Our leaders’ inability to figure out whether the current recovery is a sign of genuinely improving economic health, or mainly the product of Federal Reserve-supplied steroids, is especially critical these days. For the Fed is seriously considering putting the economy on a cold turkey path.

It’s clear that we can dismiss President Obama’s bold State of the Union claim that America has “turned the page” and had enjoyed a “breakthrough year” economically in 2014. Growth did accelerate in the middle of last year, and the unemployment rate (conventionally measured) is now about half what it was at the recession’s nadir.

But since peaking (by recent standards) at a five percent annual rate in the third quarter of last year, inflation-adjusted GDP growth slowed to 2.2 percent in the fourth quarter, and the first quarter 2015 figure will be lucky to be that high. Still sluggish wage improvement, moreover, indicates that most of the nation’s new jobs have been lousy – more specifically, nowhere near good enough to support the kind of responsible spending needed for real economic liftoff. Moreover, even the best official numbers can’t reveal whether the recovery is mainly real, and sustainable, or mainly artificial, and highly vulnerable to the return of interest rates to quasi-normal levels.

Maybe Janet Yellen, Chair of the Federal Reserve, has it figured out? Judging from her latest public remarks, not even close. Speaking March 27 at a conference sponsored by the San Francisco Fed, Yellen repeated the central bank’s “serious consideration to beginning to reduce later this year some of the extraordinary monetary policy accommodation currently in place” because its “data dependent” policy approach has finally revealed “substantial” recovery in the nation’s labor markets that she considers likely to continue because of faster growth, and the expectation that very weak recent inflation rates stem mainly from “transitory” factors.

Yet in the same speech, Yellen warned that

“we must bear in mind that these very welcome improvements have been achieved in the context of extraordinary monetary accommodation. While the overall level of real activity now appears to be much closer to its potential than it was a year or two ago, the economy in an ‘underlying’ sense remains quite weak by historical standards, for the simple reason that the increases in hiring and output that have been achieved thus far have required exceptionally low levels of short- and longer-term interest rates, reflecting a highly accommodative stance of monetary policy. Interest rates have been, and remain, very low, and if underlying conditions had truly returned to normal, the economy should be booming.”

Her (weird) bottom line? As Yellen initially announced in her press conference following the last Fed policy-setting meeting, “the appropriate time has not yet arrived” even to start reducing the supply of easy money. But the economy might show enough signs of genuine strength to “warrant an increase in the federal funds rate target sometime this year” – i.e., sometime in the next nine months. That would be one heckuva turnaround in that period of time.

But maybe no one associated with government knows what they’re talking about, and we should turn to the private sector. Maybe indeed. But the newest economic forecasts from the National Association for Business Economics shouldn’t inspire much confidence there, either. According to the NABE consensus, 2015 will see inflation-adjusted annual U.S. growth rise from 2.4 percent all the way to 3.1 percent. The unemployment rate should fall even further (though slowly), wage growth will pick up gradually, consumer spending will advance faster – and corporate profit growth will fall “sharply.”

The NABE seems to see the strong dollar and its effects on U.S. exports (making them more expensive than their competitors) as a major reason for Corporate America’s comparative woes. But not only are exports still a relatively small share of the economy. The most authoritative projections anticipate the United States growing faster than most of the rest of the world for the near future.

And here’s the final (for now) complication: Where Yellen is unmistakably right is in her pointed reminder in San Francisco that, unless the Fed changes its telegraphed plans radically, any interest rate hikes it approves for the time being will be tiny, and announced very gradually. In other words, the U.S. economy will remain on its current, long, strange drug-induced trip indefinitely.