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Wednesday, March 23, 2011

Dude, Where's My Recovery? - Part I

Dude, Where's My Recovery? - Part II

After committing our military to fight a (air only) war in Bosnia...no, uhm, Somalia....uh....Libya (sorry, I was looking through the Congressional minutes for the authorization to use force, but I can't seem to find it), President Obama went on a Job Creation Jaunt to South America, where he samba'd, kicked a few soccer balls and agreed to fund and purchase oil from Brazil's newly discovered off-shore oil fields (I could of swore he meant create domestic jobs, but I must have read that memo incorrectly).  Except for a few snapshots in Rio with the landmark Christ the Redeemer statue, not sure why he didn't just take a trip to Miami & New Orleans.

Here in North America, spring has begun.  With the arrival of the warm air and sun, the new housing numbers came in.  New home sales in February were the worst ever for a single month in the 48 years these numbers have been tracked.  I remember hearing alot about Recovery Spring, then Recovery Summer last year as Washington tried to inspire a recovery, all to no avail.  But I've heard nothing but crickets about a Recovery Spring this year. Seems no one in Washington wants to talk about the economy.  So you may ask, "Dude, where's my recovery?"

While we are no longer in recession, the economy can't regain lost ground without going into overdrive.  Simply resuming normal economic activity will not create jobs to replace those that were lost.   President Obama has made the claim over and over that he acted to stop the fall, but stopping a falling economy is only half the battle.

In November 1982, the Reagan recession ended.  The 1st quarter of 1983 saw growth of 5.1% in GDP, 9.3% in the 2nd quarter and averaged 7.9% over the next 12 months.  Unemployment hit 10.8% in December 1982, but in the next four years 11.5 million jobs were created.

Following passage of Obama's stimulus package in 2009, "Even the most optimistic member of the Fed’s policy-making Open Market Committee predicts growth of no more than 4.6 percent two years from now, in 2011".  How far off were those predictions?  Larry Kudlow of CNBC's Kudlow Report is as optimistic an economist as you will find.  Here is what he says in an article at National Review.
Caveat emptor: The first-quarter economy is slowing and inflation is rising. A month ago, economists were optimistic about the potential for 4 percent growth. Now they are marking down their estimates toward 2.5 percent. Behind this, consumer expectations are falling while inflation fears are going up.
So if the economy ending in the March quarter slows to less than 3 percent, it would mark the fourth-straight sub-3 percent GDP reading.
Rather than taking off, the economy is dragging and the indicators are moving in the wrong direction.  While the housing market is still hitting all-time lows over two years after the crash, inflation is beginning to rear it's ugly little head.  Fuel and food prices are swinging up and having a noticeable effect on the overall economy.
Nationwide, the pump price has climbed to $3.55 a gallon, up from $3.16 a month ago and $2.82 a year ago (for a 26 percent one-year jump)....the gasoline price could knock a half percent off growth and add a half percent to inflation. In fact, the consumer price index has registered three consecutive outsized monthly gains, and is running 5.6 percent at an annual rate through the three months to February. This increase is led by a 79 percent increase in gasoline prices and a 5 percent gain in food prices.
Food commodities have jumped 37% in the last year.  Much of that increase has yet to be felt in the stores - but it is coming.  The dollar is weak, driving up the price of imports.   The price of raw materials and energy are rising which leads to rising retail prices and lower corporate profits.   The Fed has continued to pump new money into the economy ($360 billion at last count by the St. Louis Fed) so inflationary pressures are being exerted on the economy. 

Remember that tax cut we received from the December compromise between Obama and the Republicans?  Even with that, we're losing ground to the rise in prices, so its stimulative effect has been effectively muted. 

So what are we doing wrong?  Just about everything.

When a crash happens people get scared - understandable.  But when the government acts, it has to guard against the unintended consequences of its actions.  I believe Bush over-reacted.  TARP and it's many uses has not been helpful in the way that it was intended.  Easy to say in hindsight, but when it comes to markets, the government should look before it leaps.  It creates far too big a splash when it is wrong.  Better to act late with the right action than to do the wrong thing no matter how good the timing.

That aside, President Obama tried to do two things upon entering office - create a cushion for the economy as it bottomed out & transform our economy as it is rebuilt.  Both attempts have failed by succeeding in the wrong way.  In Part I, we will see that Obama cushioned the recovery as well as the fall.  Part II will discuss where his more earnest, transformative goals are a bigger danger.

The President worried about how the economy would affect those on the lower end of the economy as it bottomed out, so his policies were created to soften the blow.  But softening the bottom has a nasty consequence.  In seeking to avoid a Great Depression, his misguided policies have left us in the same stagnant position that America experienced under FDR in the 1930's.  We didn't go down as far as we might have, but wherever we are, we're not going anywhere anytime real soon.

Rather than allow the economy to bottom out naturally and quickly as it did during the Reagan recession, he has extended the amount of time the economy will languish near the bottom.  By pumping money into failing enterprises and mortgages without changing their underlying faults, the President has kept many in a state of perpetual risk of failure.  It amounts to treating a patient with a gushing artery by giving them a blood transfusion to replace the lost fluids and waiting for them to recover.  The patient may survive quite awhile like that, but no matter how long you wait, that wound still has to be closed before the patient can be healed.

The Keynesian notion that in times of recession, the government must put money into the economy - to prime the pump - is wrong.  The problem with having the government pump money into the economy is that their are no options on where to pump the money.  The businesses that are succeeding don't need the money and the businesses that need the money are failing.  So our tax dollars are funneled to the failing enterprises.  Why are they failing?  Because people aren't buying what they are selling.  Did our tax dollars change that?  Ask Chevy how many Volts they sold last month.  (answer - less than 300)

So we will also fund industries that need it.  Successful industries, again, don't need it, while failing industries do.  Now we are funneling money into failing industries.  Why are they failing?  Because there's no profit to be made.  Are wind and solar power a good investment?  (answer - not if you want to make money)

We are also funding homeowners and states that can't make their payments.  Homeowners and states that are living within their means, don't need it, while those that are going broke do.  So now we are funneling tax dollars to states and homeowners that need to re-prioritize their budgets.  Will this lead them to re-make their budget? (answer - not until the government money stops flowing).

All of these business, industries and homeowners are receiving transfusions of money (over a trillion $) to stay afloat, but many of them need to fail in order to move on.  Bankruptcy exists for just this reason.  Sometimes a person or business just needs to cut their losses, but the government pump is delaying the inevitable and extending the misery. 

My wife and I closed our floral shop because we saw no reason to continue throwing good money after bad - best decision ever for us.  Our economy will fully recover only after the government stops propping up the dead weight.  By creating a hard bounce as the pump runs dry, the economy can finally take off after shedding this dead weight. (ultimate mixed metaphor bonus for that one)

Obama may have had his heart in the right place as he sought a soft landing place for the economy, but it's like my big, comfy couch at home.  Don't sit down cause you won't want to get back up.  My big, lazy butt may like it, but you're not going to see me kick into overdrive anytime soon either. 

Under Reagan, taxes were cut across the board and Fed chief Paul Volcker pushed interest rates up to 20%, driving unemployment even higher but bringing inflation down.  William Niskanen, a member of Reagan’s Council of Economic Advisers said, “There was a feeling that we would have a V-shaped recovery with strong GDP growth”.

Obama's plan has been the opposite.  The stimulus was created to keep unemployment lower.  Interest rates have been held artificially low.  While Obama hasn't raised tax rates, by raising the annual deficit from Bush's under $450 billion to over $1.2 trillion in each of his first two years, he has created the effect of an implicit tax increase on the economy.  (whereas, cutting spending and bringing the deficit down acts similiar to a tax cut).  By pumping new money into the economy, Bernanke has created increasing inflationary pressures on the economy.

"Bernanke must worry about withdrawing stimulus to avoid reigniting inflation after doubling the Fed’s balance sheet to more than $2 trillion" said Niskanen, who is now chairman emeritus of the Cato Institute in Washington, a policy research group.  But he added “Bernanke is going to have to take money out of the economy”.  His quantitative easing has created a hole from which it will be hard to exit.  But we must.

It's time to defund the remaining stiumulus, stop printing money, allow the interest rates to rise and let the chips fall where they may.  We also need to drastically cut other government spending and lower the deficit.  It might sting for a bit, but it's time to rip that band-aid off.  The best stimulus that we can offer to anyone is a booming economy where successful businesses have the opportunity to create a job for him or her.  True wealth cannot be created without a job, no matter how hard the government tries to redistribute our money.

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