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Economics Focus

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Barack Obama’s advisers lay out some steps to a rebalanced economy. Others are out of his hands

Feb 11th 2010 | From The Economist print edition

FEW things have frustrated Washington’s punditocracy more than the search for “Obamanomics”, a consistent set of principles that underpins Barack Obama’s thinking on the American economy. “We can’t afford another so-called economic ‘expansion’ like the one from the last decade…where prosperity was built on a housing bubble and financial speculation,” Mr Obama declared in his state-of-the-union address last month. Well, OK. But what, then, should the next expansion be like? It usually falls to a president’s Council of Economic Advisers to drape his pronouncements in respectable economics. Mr Obama’s council attempts to do just that in its annual “Economic Report of the President”, released on February 11th.

In a nutshell, the report argues that it is not enough for the economy to start growing again. Rather, “the composition of spending needs to be reoriented.” That means smaller roles for consumption and housing, and bigger roles for saving, investment and exports. The report elegantly reframes much of Mr Obama’s domestic agenda as microeconomic nudges in the direction of this overall macroeconomic rebalancing.

In the years leading up to the crisis soaring asset prices, financial innovations and low unemployment all encouraged Americans to spend more and save less. Their saving as a share of disposable income fell steadily from around 10% in the early 1980s to around 1%, while home-ownership rates and residential-construction activity both outran levels justified by demography alone. Wealth, credit availability and unemployment have all now reversed. The report predicts consumption and home-building will be smaller shares of GDP while the personal-saving rate will stabilise at a higher equilibrium of between 4% and 7%. Mr Obama is pushing this process along by making retirement-saving plans more readily available and encouraging employers to increase employee contributions. The report does not say so, but the logical result of his financial reforms will be closer scrutiny of lending practices that will deprive marginal borrowers of credit.

In place of consumption and housing, the report says, business investment will expand. Investment since the 2001 recession has been “abnormally low”. Two forces will reverse that. First, higher personal-saving rates and (more optimistically) a lower federal deficit will hold down long-term interest rates and the cost of capital. Second, the prospective return on investments will be buoyed by “promising technological developments”.

The administration thinks it can intensify the second force by funding more basic research. Private research and development (R&D) is hamstrung by uncertainty over the fate of an R&D tax credit, which at present must be renewed by Congress each year. Mr Obama proposes making it permanent. The backlogged Patent and Trademark Office can take up to four years to approve a patent application. Mr Obama has endorsed congressional plans to let it charge more to speed things up. The administration is telling federal agencies to track the results of the research they fund so that money is spent to maximum effect.

The report argues that as personal savings rise and the federal deficit declines, America’s appetite for foreign savings will shrink. The current-account deficit, which topped 6% of GDP in 2006, will narrow in the long run to between 1% and 2% of GDP, where it stood in the mid-1990s. Aiding this shift is a boost to exports that the report predicts will be a natural consequence as other countries, especially in Asia, rebalance their own economies towards greater consumption and investment.

In his state-of-the-union address Mr Obama called for a doubling of exports in five years. Achieving that is a stretch but the report nonetheless argues that the Export-Import Bank, which Mr Obama wants to increase its financing for smaller exporters, can help. More boldly, the report and Mr Obama’s speech suggest that the president has set aside his ambivalence about free trade and may soon take up stalled free-trade agreements with South Korea, Colombia and Panama. The report also argues that a more progressive tax system, expanded health care and worker retraining are better ways to respond to the inevitable disruptions trade brings than protectionism. (Some of this is contrived: increased health-care coverage may well soften the sting of jobs lost to freer trade, but that is not why Mr Obama is pursuing it.)

The mercy of others

Laudable as most of these microeconomic moves are, rebalancing depends crucially on two macroeconomic levers Mr Obama either cannot or will not touch: interest rates and the dollar. The council’s report frankly acknowledges that by draining national saving, the federal deficit, which will hit a record 10.6% of GDP this year, will hinder rebalancing. Yet it argues that tackling the deficit should wait until the “Federal Reserve…has the tools to counteract” the fallout. That will not be for a while yet.

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