U.S. must lead to avert another recession

November 06, 1998|By Jeff Faux

THE risks of recession are rising. Consumer confidence is fading, the trade deficit is relentlessly expanding and stock-market prices remain higher than profit margins justify.

The recent surprise interest-rate cut by the Federal Reserve Board suggests worry in high places, although the reduction itself is too small to stop an unraveling economy. And the 4,000-page budget agreement President Clinton signed won't help either.

This is a particularly dangerous time for the U.S. economy to turn down. We are facing the most serious economic crisis since the 1930s. The world's governments and central banks are struggling against a rising tide of financial instability that has engulfed Asia and Russia, and is threatening to flood Latin America. A healthy U.S. economy is the world's last defense against a global depression.

The administration and Congress have left the management of growth up to the Federal Reserve, whose principal lever is manipulating interest rates. Under the current extraordinary circumstances, lower interest rates are likely to be a necessary but insufficient remedy.

What we need now is an infusion of net economic activity that will assure consumers that they can afford to spend and business that it makes sense to keep investing.

To achieve this, our political leaders will have to shift to a policy of unbalancing the federal budget. It made sense to move to a budget surplus, which withdraws money from the economy, when the private sector is expanding. But, now that private spending is slowing down, the economy needs the public sector to reverse course and provide net new spending to compensate for the downturn in the private sector. Under present circumstances, a modest deficit injection of $75 billion -- 1 percent of gross domestic product -- would be a reasonable insurance policy against an economic stall-out.

There are two ways for Washington to move. One way is to reduce taxes; the other is to increase spending. Republicans have proposed a tax cut of $80 billion over five years -- too small for a stimulus and too oriented to upper-income taxpayers. The Democrats want to save the surplus in case it is needed to solve the gap in Social Security funding a couple of decades from now. This would involve paying down the national debt, which would depress the weakening economy and reduce tax revenues and ultimately be self-defeating.

But the case for increasing government spending if that spending is used to invest in making our people more productive is greater. For the past decade, spending on education, training and programs to help workers adjust to layoffs has been sacrificed to the effort to balance the budget. Once the fiscal deficit is eliminated, we were told, we could once again start investing in the future competitiveness of our people.

In the meantime, these needs have been shortchanged. The General Accounting Office has estimated, for example, that the nation needs more than $100 billion more for physical upgrading of our schools. But, again, Congress just turned down the president's modest request to make a down payment on that need.

A revival of public investment also would enable the federal government to target the funds at areas most vulnerable to an economic downturn -- communities where manufacturing employment is already cut and inner-city areas with populations that are last hired and first fired.

Moreover, although tax cuts can be mobilized faster, government investment spending is more efficient in boosting the economy because virtually all of the money will be initially spent in the United States. In contrast, a large share of the additional dollars consumers now spend is going to imports.

Finally, unlike spending on consumption, private or public investments in education and training would be well spent even if a recession does not occur. Like private investments for a house or business, it makes perfect sense to finance public investments that improve economic growth and tax revenues.

Unfortunately, the increase of about $20 billion spending in the federal budget was too small to stimulate the economy and scattered over too many trivial projects to add up to much investment in the future. For example, almost half went to expand the Pentagon and CIA budgets.

In the early days of the Great Depression, President Herbert Hoover had a chance to inject spending into the economy, and, thus, to halt the downward spiraling of confidence. Obsessed with a balanced federal budget, he refused to act. It was the largest single economic policy blunder of the 20th century, and the world paid an enormous price for it. History will not look kindly on those who repeat that mistake.

Jeff Faux, president of the Economic Policy Institute in Washington, wrote this for Newsday. His latest book is "The Party's Not Over."

Pub Date: 11/06/98

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