Another reason voters are angry

November 07, 1994|By James K. Galbraith

Austin, Tex. -- DESPITE STEADY growth and low inflation, polls show that voters, especially the middle class, are unhappy and may not reward the Democrats.

Have they forgotten economic growth?

No, but higher interest rates have spoiled the benefits of growth for many Americans.

Contrary to the prevailing consensus, the growth record in this period of expansion is poor. Total real growth in the first three years after recessions in 1970, 1974 and 1982 averaged nearly 16 percent.

But from 1991-94, total growth will barely reach 10 percent. Expansions have been rewarded at the polls in years of high growth: 5.3 percent in 1964, 5.4 percent in 1972, 7.8 percent in 1984.

No such good year has occurred this time.

In recoveries, the early gains in income go mainly to businesses and the newly employed. Continuously employed working people -- the majority -- gain little at first.

Average hourly wages and weekly earnings haven't risen in this expansion, when inflation is taken into account. Wages rise only when the economic growth rate is high and labor markets grow tight. This hasn't happened, and a policy that accepts 6 percent unemployment will prevent it now.

This year, rising interest rates have hit the middle class hard.

They raise the cost of mortgages and other loans. They depress mutual funds. They depress the housing market, where homeowners have their equity. And they lead to tougher credit standards, squeezing buyers of new homes and cars.

On taking office, President Clinton presented a program that would have accelerated growth while placing maximum pressure the Federal Reserve to keep interest rates down.

The program, which was much maligned and quickly discarded, was meant to avoid the slow-growth, rising-rate trap we now see and to avert the angry reaction now upon us.

The administration switched to a program of straight deficit reduction, placing the whole burden on low interest rates to support growth.

Then came another mistake: failure to secure guaranteed cooperation from the Federal Reserve.

Thus the promised benefits of deficit reduction were not realized. Instead, the Fed started chasing phantom inflation.

Long-term interest rates started rising just after Congress acted, as markets speculated that Chairman Alan Greenspan would soon jump Bill Clinton's ship. He did in February, raising short-term rates with the president's public but pained acquiescence.

Since then, the White House has been trapped. It predicted that higher short rates would bring long rates down. It turned out to be wrong.

Now it claims that long-term interest rates will remain high because of demands for capital, even though total credit is up only 5 percent this year.

The markets are not fooled.

All attention focuses every six weeks on the real seat of power, the Fed. And every piece of good news -- for example, the rise in construction spending reported last Wednesday -- sends the stock and bond markets down in anticipation of a new increase in interest rates.

The essential step now is to stabilize interest rates. If the administration remains silent, the new Congress, which has authority over the Federal Reserve, should act.

Some rates could even be lowered selectively, perhaps through a congressional program of economic recovery loans to states with high unemployment, such as New York, New Jersey and California.

But if interest rates continue to rise, Congress will be obliged to recognize that there is no way to reconcile responsible fiscal policy with the public's well-justified demand for economic progress.

Congress should then forge ahead with its own round of public investment and employment programs, a higher minimum wage and even a working-class tax cut, perhaps in the Social Security payroll tax.

Then the next administration might relearn the lesson that low and stable interest rates must accompany deficit reduction.

James K. Galbraith teaches economics at the Lyndon B. Johnson School of Public Affairs at the University of Texas. He wrote this for the New York Times.

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