Archive

Posts Tagged ‘bank bailout’

Obamanomics vs. Reaganomics – Which Can Save the Economy?

April 2, 2010 70 comments

Lire en français

By Marquis Codjia

President Reagan in the Oval Office delivering his Tax Reduction televised address in July 1981 (Photo courtesy of the Reagan Library, Official government record)

In the 1980s, Ronald Reagan asserted emphatically that “government is not a solution to our problem,” but rather, “government is the problem.” Nowadays, many specialists revisit the soundness of such avowal in light of the mammoth government-engineered bailouts that questionably helped safeguard the global economic fabric.

Those experts are not alone. The current White House chief denizen, who uttered openly during the 2008 presidential campaign his admiration for Reagan’s political persona – much to the ire of some diehard Democrats – , has so far spearheaded policies overmuch adversative to Reaganomics.

Many Americans remember President Reagan for his debonair, articulate and Hollywoodian public posture; yet, the former leader had developed a sophistication in economic analysis that served him throughout the recession that hallmarked his presidency.

Faced with a dysfunctional economy at the onset of his mandate, President Reagan ingrained his policies in supply-side economics, advocating a quartet of measures that revolutionized America’s social dynamics and reignited its growth machine.

First, he proposed vast tax cuts on labor and capital to incentivize corporations and entrepreneurs to invest and innovate, whereas citizens, freshly cash awash due to increased savings, were heartened to spend. Next, deregulation in targeted economic sectors aimed at eschewing unnecessary costs to investors. Third, he steered a package of major budget cuts approximating – from 1981 onwards – a 5% reduction in government expenses (circa $150 billion today). Fourth, Reagan sought to tighten monetary policy to combat inflation.

The late president’s plan delivered mixed results.

Inflation experienced a spectacular fourfold decrease from 1980 to 1983 (13.2% vs. 3.2%), federal receipts grew higher than outlays (at an average rate of 8.2% vs. 7.1%), and the 16 million new jobs created helped shrink unemployment by 3 points (to 7.5% from a 1982 peak of 10.8%). Other accolades from the Cato Institute, a libertarian think thank, include a real median family income rise of $4,000 and a higher productivity.

This said, Reaganomics and its no holds-barred canons structurally devastated parts of America’s socio-economic fabric: fiscal cuts coupled with a surge in Cold War military spending created a yawning abyss in the nation’s finances (e.g.: large budget deficits, trade deficit expansion). In addition, some culpability can be attributed to the Republican leader vis-à-vis the 1987 stock market crash and the Savings and Loans crisis, merely because, at a minimum, both pandemonia occurred under his watch. In order to cover budget shortages, the administration then embarked on a borrowing spree that catapulted the national debt to $3 trillion from $700 billion, part of which (circa $125 billion) subsidized an S&L industry crippled by the failure of 747 thrifts.

The portmanteau Obamanomics – used to depict economic policies espoused by current U.S. President Barack Obama – is a new concept, which understandably needs more time to develop before a studious analysis can be conducted on its merits.

Clearly, the current administration – also faced with a chaotic economy – has so far adopted, or is envisaging, policies diametrically opposed to Reagan’s precepts: higher taxes, increased regulation, more spending, and a loose monetary policy.

President Obama’s plan to save banks was the correct initiative for two reasons: decrepitude in capital markets would have metastasized into a more costly, general chaos, and the fact that banks are now relatively stable attests to the program’s effectiveness, notwithstanding the remaining work to be accomplished in the bank bailout’s scheme.

Even if the current economic recovery plan will take a while to reach its desired goals, preliminary results so far are altogether mixed: banks are loath to lend, the mortgage sector is still lethargic, the lackluster private consumption is hampering corporate investments and the global economic productivity. The economy is gradually adding thousands of jobs but the unemployment rate still stands at 9.7%.

So, which of Reaganomics or Obamanomics can save the economy today?

The answer is none.

No economy policy ingrained in political partisanship can save the economy; to be efficient, authorities must use a combination of ideologies, extirpating the best areas of each and amalgamating them into a coherent plan deep-rooted in sound economics.

First, the government must balance its budget by reining in bureaucratic waste at the federal and state levels, seeking higher efficiency in its social programs and maintaining a tax base able to provide sufficient inflows. The recent nomination of Jeffrey Zients as U.S. Chief Performance Officer is a welcome decision.

Second, the government and the legislative branch must agree to suppress or significantly reduce pork-barrel spending; even if some of the projects subsidized are valid, the lack of transparency and the fact that too much power lies in the hands of one lawmaker are troubling. Citizens Against Government Waste, a private, nonpartisan watchdog, estimated in its latest report that 2009 pork-barrel spending amounted to $19.6 billion, up from $17.2 billion the previous year.

Third, the government must invest in education, sciences, health, and recreation services to assure a productive labor force and educated populace. Every citizen appreciates a good local school system, an efficient police, and functional social services. Fourth, a gradual and well-balanced regulatory framework for critical sectors is needed to level the playing field for all economic agents and eschew the negative effects of systemic risks.

Finally, the tax code should be more efficient and easier to understand so more revenues are collected. Currently, it is estimated that it costs the IRS between 25 and 30 cents for every tax dollar collected, without counting the billions spent by citizens in tax compliance and planning. We have a simplified property tax code in our cities; why can’t we engineer a similar scheme at the federal level?

Did The Bank Bailout Work?

March 18, 2010 63 comments

Lire en français

By Marquis Codjia

A few months ago, the crumbling global economy was atop the agenda of many G20 leaders. Social unrest, banking sector meltdown, global growth conundrum, and stock market yo-yos were the main discussion topics among the planetary leadership.

Governments the world over addressed the most imperative issue, the banking pandemonium, with massive cash inflows into a sector that hitherto epitomized capitalism at its best (and worst), with a modus operandi more akin to central intervention in communist economies.

The global tab ranges from 4 to 5 trillion US dollars according to the most optimistic estimates, but the overall costs may run higher in the future.

The financial rescue of the ailing banking sector, in principle, was the right course of action and various experts across the political spectrum saw eye to eye on its criticality, including the staunchest free-market theorizers who routinely treat as leftist energumens out of the antediluvian era those who dare buck conventional wisdom regarding the role of government in social economics.

It was flummoxing, however, to observe how lenient authorities were vis-à-vis banks throughout the bailout process on top of the very favorable terms under which funds were disbursed. Hence, financial institutions that benefited from state largesse were able to quickly use monies received to regain profitability and reimburse their respective governments.

Other parts of the economy didn’t experience so swift a recovery. Unemployment is still high; the mortgage sector is still in a shambles. Banks have been reluctant to lend, creating an underperforming productive sector and a lethargic private consumption. The stock market may be up but, debatably, the “real economy” is still down.

Banks played a crucial role in the current economic malaise, but anti-bailout commentators were wrong to vilify them and to affirm that such guilt should have precluded public rescue. Financial intermediaries are an epochal pillar of our post-modern economies, and it would have been socio-economically ruinous and politically unpalatable to let them sink.

Admittedly, a majority of banks are today more cash awash and profitable than a year ago albeit some pockets of the industry are still comatose owing to the liquidity hemorrhage that has devastated them since the recession erupted.

Regrettably, nothing has changed. These institutions are resorting again to the erstwhile practices that wrought havoc to the economy in the first place, under the aegis of a regulatory body eerily blind, deaf and tongue-tied.

Banks, evidently, should be encouraged to pursue and make profits as any private concern. But when such a financial quest comes at the expense of an entire system or poses a systemic threat to the productive sector of the economy, the argument in favor of tougher regulation becomes of preeminent import.

Companies need to utilize hedging for exposure control; yet, speculators lately seem to use derivatives to bet against their very benefactors. Although outrageous to vast swaths of the populace, such practices are explicable if one considers that the speculating camp only furthers private interests of elites (their investors) who seldom factor morality into the profitability equation.

Case in point: Greece. The Hellenic government bailed out its banking sector with billions of dollars only to see their country downgraded a few months later because of a perceived default risk.

At this moment, elected officials and central bankers should ponder the following question: did the bailout work? Or, stated differently, did the mammoth cash infusion into banks and the associated supplemental initiatives reach the initial goals?

Seasoned economists and social scientists will grapple amply with issues regarding program effectiveness and efficiency in the future, but prominent experts currently believe the answers to such interrogations are negative. George Mason University economist Peter Boettke posited that bank bailouts have created a “cycle of debt, deficits and government expansion” that in the end “will be economically crippling” to major economies, whereas Barry Ritholtz, famed author of Bailout Nation and CEO of research firm FusionIQ, thinks the rescue programs could have been conducted better.

It can be argued that the initial rescue phase of the bailout program was effectual in that it helped avert a domestic and global banking hubbub. But, contrary to popular credence, that was the easiest part. The courageous headship of political leaders and regulators cannot be underrated in the process, but it is indisputably far facile for a powerful central bank, like the US Federal Reserve, to make journal entries to the credit of targeted institutions and replenish their corporate coffers via the much celebrated “quantitative easing”.

The Fed, just like other G8 central banks, is in an enviable position because it can create money ‘out of nothing’ by increasing the credit in its own bank account. Ask current Greek Central Bank governor George Provopoulous whether he’d like to have such latitude.

Regulation is where actual political bravery need be shown from authorities, and so far the lack of sweeping reforms in the financial sector may obliterate the latter’s plodding recovery.

At present, there are five distinct reasons explicating the mediocre results obtained so far from the bailout scheme.

First, the much needed financial overhaul is taking longer to move up the legislative ladder and reach US President Barack Obama’s desk because not only financial lobbies – such as the über-powerful American Bankers Association – are exerting strong pressure,  the political agenda is also crowded out with the pressing healthcare reform and the geostrategic concerns linked to conflicts in Afghanistan and Iraq.

The fact that Senate Banking chief Chris Dodd, D-Conn., wants to introduce reform in the sector will probably change little in the short-term.

Second, President Obama’s own senior level financial staff is composed of former Wall Street alumni and lobbyists, and many skeptics are incredulous that a clique so tied to financial interests can spearhead true reforms in an industry that was previously munificent to them.

The next two factors are endogenous to the banking industry. One is the past experience of regulation and deregulation cycles that usually make laws dissipate over time, and the other stems from the idiosyncratic ability of financial engineers and investment bankers to design new products and techniques to counter existing laws.

Finally, the regulatory endeavor should be global in scope, and the present lack of geographic cooperation and the practical difficulty to track systemic risk within the industry are currently handicapping further advances.