FEBRUARY 2, 2011, 8:30 PM
Summers’s Crystal Ball
By WILLIAM D. COHAN
William D. Cohan on Wall Street and Main Street.
Tags:
larry summers, the economy
The peripatetic Larry Summers is once again back at Harvard, teaching a class
on American economic policy with Martin Feldstein and Jeff Liebman – two other
prominent former government economists – and reacquainting himself with the
joys of free speech now that he is no longer President Obama’s director of the
National Economic Council, President Clinton’s treasury secretary or Harvard’s
27th president. What better time, then, than winter to check in with the lion?
Michel Euler/Associated Press Larry Summers at the World Economic Forum in
Davos, Switzerland, last week.
In an interview before he headed off to Logan Airport on a voyage that would
take him to the World Economic Forum, in Davos, where he has been a regular for
years (and where he would have an unscripted but amusing dinner encounter with
Amy Chua of “Tiger Mother” fame), to Moscow (unless last week’s terrorist
attack waylaid him) and, finally, to Israel (unless the dramatic events
unfolding in Egypt forced him to change his plans), Summers expressed a
surprising degree of optimism about the prospects for the United States economy
this year. “I think a stronger and stronger foundation for continuing growth is
being laid,” he said.
Summers said he thinks “for the first time in years,” the United States economy
is growing at a rate faster than the consensus estimates. He believes GDP will
grow at 3.5 percent to 4 percent in 2011, materially higher than the consensus
rate of 2.5 percent. He said this is a bit of a watershed. He recalled how once
upon a time he used to tell the finance ministers of other countries that until
their economic forecasts were “too pessimistic” he had little faith in their
countries’ economic prospects. The pessimism in the consensus forecasts now
makes him optimistic. “Consensus forecasts are serially correlated,” he said,
“so when you see upwards revisions you’re likely to see continuing upwards
revisions.”
One of the reasons Summers is increasingly sanguine comes from the machinations
of the lame-duck session of Congress, which not only extended the Bush-era tax
cuts to all Americans (including to the wealthy) but also granted employers a 2
percent payroll-tax holiday and a 100 percent tax write-off for investments in
plant and equipment made in 2011. “Seems to me that there’s a fair-sized wind
at the back of the economy,” he said, thanks in part to these decisions. And
that was before the Dow Jones Industrial Average crashed through 12,000 on
Tuesday – for the first time since June 2008 – capping an impressive 5 percent
rise since Obama signed the new tax law six weeks ago. “I am guardedly
optimistic about the situation of the American economy over the next year or
so,” Summers said, “and I think that’s likely to in general improve the mood of
the country. Just as there are some avalanche effects on the downside where a
snowball gathers force because it’s gathering force, I think things of that
kind can happen on the upside as well.”
Of course, Summers acknowledged that the post-tax bill euphoria has come at the
cost of the increasing the federal budget deficit, which the bi-partisan
Congressional Budget Office now puts at $1.5 trillion this fiscal year. This is
a long-term, not a short-term, problem, he said, and will likely not be
addressed by politicians in a constructive way – unless they “ostrich,” he said
– until the cost of financing these deficits (through higher interest rates)
increases over time. Summers predicted that this would happen when the demand
for borrowing from households and corporations – which fell dramatically during
and after the financial crisis – picks up as the economy improves. “When you
start to see upward pressures on interest rates, that will pressure the
political system on the budget deficit,” he said, since an increasing cause of
the deficit is the interest expense required to finance it.
Summers said the United States is still able to finance the deficits relatively
inexpensively because the demand for borrowings from the consumer and
corporations has not picked up. But at some point, the deficits must be
addressed. “I don’t think there’s any question that ultimately the government
has to pay for what it spends, and that running deficits isn’t an alternative
way to finance the government,” he said. “It’s a way of deferring the painful
choices and adding interest costs to them.” The “painful steps” need to be
taken, he said, but not yet. “The right sequence is to focus on getting the
economy growing and then to turn our attention to the out-year deficit problem.”
A growing economy will also help alleviate another seemingly intractable
problem of the Great Recession – stubbornly high rates of unemployment among
those people still seeking work and a general malaise among those who are close
to giving up their search. The key to higher employment, he said, is increasing
the demand for the goods and services produced by American companies. “You
don’t hire more waiters unless the waiters you have in your restaurants have
more work than they can handle,” he said. “There’s a continuing shortage of
demand, and that’s the root cause of unemployment. It’s the root cause of
low-capacity utilization…What you need to do is have more output with more
people, and the way you have more output with more people is you need people
who want to buy that output, and that’s why it comes back to demand.”
Summers said there are numerous ways to stimulate this demand: by increasing
exports; by encouraging companies to make new investments earlier than they
otherwise would; by investing in the nation’s infrastructure; by encouraging
people to consume more; and, by substituting new technology for older
technology. “I got three PC’s in my basement, but I still want an iPad,” he
said by way of example.
All in all, Summers paints a pretty rosy picture of why happy days will soon be
here again. But whether he is right or just a savvy former senior Obama
administration official spinning a web for a president with re-election on the
brain remains to be seen. In the meantime, we can gather around the campfire
and hope and pray that somehow we are immune from the historic budget deficits,
the chronic unemployment, the rising commodity prices, the European sovereign
crises and the political unrest in nearly every corner of the world. Kumbaya.
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