Knight-Ridder/Information Tribune Services, December 14, 2004
Everyone recognizes that this week's White House Economic Summit here in Washington is political theater. It's a chance for the White House to showcase its second term economic agenda, and get lots of mostly favorable press for it.
Still it is an important event, as much for what it leaves out as what it includes. The United States faces a very uncertain economic future. Our economy, public and private, is borrowing 6 percent of our income from abroad. Although the Japanese, Chinese, and other central banks have been kind enough to finance this borrowing by purchasing U.S. Treasury obligations, we cannot expect their generosity to continue indefinitely.
These central banks have already lost hundreds of billions of dollars over the last three years by holding U.S. dollars instead of Euros, as the dollar has fallen against the Euro. It would be nice if that were the end of the story, but the dollar has only fallen about 17 percent against a basket of foreign currencies that is representative of our trade. So it still has quite a way to fall before our record trade deficit, and hence our foreign borrowing, can reach a sustainable level.
Should the United States try to arrange an orderly decline of the dollar, co-ordinated with other countries, as we did between 1985 and 1987? This question does not appear to be on the agenda of the economic summit.
The dollar's decline will not be a bad thing in itself. It will help our economy by making America's exports more competitive, and our domestic industries -- we have lost 3 million manufacturing jobs since 2000 -- will no longer have to compete with artificially under-priced imports.
But as foreign central banks lose their appetite for U.S. treasuries, the interest rate that we have to pay on them will go up. That means mortgage rates will also go up. This could spell very serious trouble for the U.S. economy: our economic growth since the recession of 2001 has been fueled overwhelmingly through the housing market. Not only has demand for housing been unusually strong, but as millions of people took advantage of record-low interest rates to refinance their mortgages, they also borrowed literally trillions of dollars. And spent it. Hence our incredibly low personal savings rate (0.2 percent in October), and heavily indebted consumers.
The result has been a big bubble in the housing market, which began nine years ago as a spillover from the stock market bubble. In the past nine years housing prices nationally have increased 40 percent more than the overall rate of inflation; for the four decades prior, house prices increased at the same rate as inflation.
When the housing bubble breaks, it will almost certainly cause a recession -- as the bursting of the stock market bubble did in 2001. How will the federal government respond, with our public debt (65 percent of GDP) already at 50-year records, and the federal budget deficit at near-record levels -- again, as a percentage of our economy, including borrowing from Social Security and Medicare? And will the Federal Reserve continue to raise interest rates as the economy slows? More tough questions for an economic summit, but it doesn't look like anyone will be asking them.
So what is at the top of the summit agenda? Social Security "reform." Here is a program that, according to the numbers that the White House is using, can pay all promised benefits without any changes at all for the next 38 years. According to the non-partisan Congressional Budget Office, it's 48 years. Even if we still do nothing to "reform" the program for the next half-century, it will continue paying a higher real (adjusting for inflation) benefit than retirees receive today, indefinitely.
Yet somehow this is considered a "crisis," requiring serious benefit cuts as well as partial privatization. If this seems puzzling, consider that Mr. Bush's political allies -- including the Wall Street financial firms that could gain billions from administering individual accounts -- have spent the last 15 years convincing most Americans that Social Security is going broke, and that they will never see their benefits. This is the urgency: they need to move quickly, before people discover the truth about Social Security.