Economic Catastrophe Ahead?

I. If there is a paramount intellectual problem to be solved by philosophers, it is how, or how much, the past can be used by present-day philosophers, economists, sociologists, political scientists, historians and other intellectuals. Santayana famously wrote: "Those who cannot remember the past are condemned to repeat it." Karl Marx once penned: "Hegel remarks somewhere that all great world-historic facts and personages appear, so to speak, twice. He forgot to add: the first time as tragedy. The second time as farce."

"What’s past is prologue," is engraved on the National Archives Building (but originally appeared in The Tempest). But what is being said? Something came first and now something else comes later? No problem with this, but it’s neither helpful nor particularly enlightening.

Economists are forever using the past: if productivity or capacity utilization or home prices or construction spending does this, rather than that, it will mean recovery is around the corner. Leading indicators (or lagging ones) have been so over-utilized that there is an undeserved belief, if not faith, in them. Their limitations were correctly indicated years ago by America’s greatest economist, Paul Samuelson, when he suggested that "economists (and I believe this was based on their uses of leading indicators) have correctly predicted nine of the last five recessions.

I suppose many, many centuries ago, cave people could use the past, with much greater assurance–keeping in mind weather’s variability–until something big changed permanently–like the ice caps and then all Hell broke loose, slowly.

But in the economic world we live in, change, on one level, is snail-like. But looked at from a different angle, and over a longer time span, it is vast. We go from agriculture to manufacturing or from manufacturing to services or from a mostly closed economy to a globalized one. About 50 years ago, only about 35% of US women were in the labor force. Today, almost twice as many. Actually, new developments seem to be appearing more frequently: of recent there were unprecedented bubbles, one after another; the development of the Internet has transformed everyday life, along with the parallel decline in newspapers.

But the question still remains. How different is the past from the present? Economic predictions can only have real value if much that takes place now is what used to take place not that many years ago. But how does one determine this? Which changes are meaningful and which are mere noise? Without any question, the more life as we live it today is different from what it was a decade ago, or two decades ago, the less able we can use the past to understand what will be unfolding, either in the economy or in our politics (and culture).

Take a simple question I have no answer for. What is to become of Social Security? A few years ago, there was a consensus that Social Security was going to reach in the mid to late teens a situation where the money coming in was just equal to the money paid out. But not to worry: the SS fund owns trillions of dollars of US debt and for a number of years, it can simply use the interest from this debt and then it could draw down the principle, and in some distant future year–about 2040, the money will run out. But even then recipients will get about 70% of what they were previously entitled to. And believe it or not 70% of what you get in 2040 would be more than what the highest paid recipients get in 2009 (adjusted for inflation). Thus, 70% was not the end of the world (and this can be achieved without any changes in payroll taxes). [And some experts thought, including those mentioned in a first rate NY Times Magazine article (January 16, 2005) by Roger Lowenstein, that these estimates were far too pessimist and that Social Security would be able to pay fully what it owed for many decades after 2040.) But with the economy now in shambles and likely to be in shambles for some time to come, I’m sure more recent estimates are far more pessimistic. The original assumptions were based on a future economy which functioned as well as it did in the past. An unlikelihood.

All this is raised because I believe that beyond the pessimistic predictions being made by eminent economists is an associated assumption that, after we take care of or solve a few serious but temporary economic problems, we can think again in normal terms. In other words, after these disastrous difficulties are worked out of the system, we will once again be able to make predictions that are as good as those we once made.

Unfortunately, I believe this is an illusion. (The particulars are looked at next.)

II An economist friend of mine thinks I’m too pessimistic about the economy, even though he believes we are in for a “very protracted and anemic recovery.” In believing this, he is not different from many whose words I have read (and in one case, heard, Joseph Stiglitz).


He too knows of the weaknesses in consumer spending because of unemployment; an inability (or lesser ability) to borrow against housing values, stock advances, and credit cards; and perhaps a extended trend of consumer caution, where people save more in case there is a rainy day (or perhaps one should put it, for when the inevitable rainy day arrives). Investment in new houses will take a long time to recover and investment in general will be hampered for some time to come by a bank crisis that resists healing—smaller banks continue to fail at high rates. And describing the weak economic situation as “very protracted ,” with prospects for an “anemic recovery,” is extremely well put.


But what I believe, and I guess my friend does not, is that we are in the early stages of what I believe will be an epic economic transformation. It has started, but has not really been noticed, because of Bush’s perverse policies in Iraq and the Great Recession we are in the midst of, but most of all because people are slow to realize change.

In short, I believe the centuries in which the First World [or West—and by that I mean Western Europe, the U.S., the British Empire States—such as Canada, Australia and New Zealand—and “the great exception”—Japan] exploited through political and military means the Third World (mostly countries in Africa, Latin America and Asia), and thereby gained prosperity at their expense. These days are over. More important, the rise of such countries as China, but not limited to China, and their ability to produce goods at lower costs than we are able to produce them, implies that their rise will be associated with our decline, although none of this will happen overnight.

A partial sign of what is in store for us is provided by Great Britain. As its ability to control the world declined, its relative prosperity declined. But its absolute prosperity did not, since the Third World countries had not yet thrown off the imperialist yoke and made themselves into potential economic powers and rivals. I recognize that China has deep problems, especially on the environmental front (but also the fact that it lacks democracy) which will limit its economic potential). [One can get a glimpse of what is at issue by reading a Times article on a Chinese dissenter, its most famous economist, Wu Jinglian (in Sunday Business, September 27) and, in its way, a more optimistic version of what might take place in China by Thomas Friedman, a serious attempt at greening which will enable China to compete with us in solar and wind power, warning us “We ignore it (Chinese greening) at our peril.”(Week in Review—same day.)]

Perhaps another possibility is too horrible to contemplate. By all accounts, Argentina was once a first world country and by one account, it had, in 1929, the world’s 4th highest GDP per capita. The Great Depression in and of itself helped do it in, but mostly it was the nasty politics unleashed by the depression that ended its prosperity, a nastiness that lasted on and off for many decades. By 2008, according to the International Monetary Fund, Argentina was ranked 46th in per capital GDP, which was $14,465; by the World Bank, it ranked 58th with $14, 413; and by the CIA World Factbook, a rank of 62, with $14,200. Argentina is now behind many, many familiar names, including the US of course, ranked 6th or 8th , but also behind half-pseudo countries like Luxembourg, Liechtenstein, and Macau, with GDP's per capita of about $46, 800 (in 2008). The Argentine nastiness of the 1930's sounds dismayingly familiar. A recent description of what is going here in the US, in
2009, by Rachel Maddow, describing our mob mentality and hooliganism, is not reassuring.

These historical precedents aside, there are unusual signs of contemporary American distress. To mention a few: (1) manufacturing, as a percentage of GDP was in the early 1950’s just under 30%, but in 2006, before the Great Recession began, was just under 12% (and as best I can determine it has dropped below 10% since then); since the recession of 2001, it—manufacturing—grew slower than after any previous recession; (2) the average work week of recent, an associate measure of economic distress, along with unemployment, is 33 hours, the lowest since records began in 1964; (3) the employment/population ratio was 65.8 in 1999 and 2000 but in 2007 was down to 63—even for women it was down, bucking a long term trend (in 1960, the percentage was only 35.5 ) but in 2000—57.5—and in 2007, 56.6). The current unemployment rate of 9.8 percent is an archaic measure since it excludes those no longer looking for a job because they no longer feel they can find one and also those who are working part time but really want a full time job. Measured this way, unemployment is almost double the “official” rate.

Short term patterns can reflect many factors, although the figures on manufacturing are dramatic. What we know, however, is that before the Great Recession our trade deficit with China was astronomical. It is less now, but primarily because we are simply buying less (of goods and services wherever their origin). China and other nations are simply able to produce goods at vastly lower cost than we can and that situation will continue for decades. And while some products need to be produced near where they are to be sold, most are readily shippable. All but the biggest can even be shipped by air-freight.

Moreover, there is the question of the outsourcing of services. Not long ago, Alan Blinder (a distinguished Princeton economist and former Vice-Chairman of the Federal Reserve) indicated that the outsourcing of services was in its early stages. Now it’s true that many services cannot be outsourced—waitering or waitressing at restaurants, people who fix your plumbing, Walmart clerks, taxis drivers, etc. But one thing is true, in most of the cases, where service jobs replace manufacturing jobs, the earnings of most of those who are now working in the service sector earn less, by far, than what they previously earned.

One possible answer is not likely to be realistic—a change in trade rules which makes it both harder for American companies to outsource as well as makes it difficult for Chinese companies to export to us. At the moment, and for some time to come, free trade is believed in religiously, not only by economists, but by those who hold power--business leaders. That doesn’t preclude minor changes, of course, but meaningful changes that could help are not likely. Besides some economists manipulatively use the foolish attempt in 1930 to fix the deteriorating economy through the Smoot-Hawley tariff, which clearly worsened things. What I think this means is that trade changes have to be intelligently enacted—but when you look at the health care changes President Obama is proposing, and which are being attacked mercilessly as well as deceitfully, who really believes American politics can be fine-tuned to make reasonable trade changes?

A varient of this is that exchange rates change and life continues in a more normal fashion. (This is projected by my "optimistic" economist friend). But is it likely that the Chinese will let the Renminbi rise to a genuine market value, undermining Chinese exports? To ask is to answer. Moreover, as the dollar continues its likely descent--already visible against the Euro and Yen--it is possible that to some extent jobs might be saved, but at an enormous cost in living standards, as products from abroad will cost more. And, as the the Consumer Price Index rises, it is predictable that the Fed will step in to throttle increased inflation by raising rates, once again causing unemployment to rise.

Another possibility is that our productivity improves. In many areas, we still have an edge, although to read Friedman that will soon be undermined by a determined China. Productivity can be improved, and historically it always has. But I am not optimistic, partly because the world is now opened up to a degree no one would have predicted. And thus the Chinese might well succeed in competing with us in ways no one would have predicted a decade or two ago.

I remember an article I wrote and prepared for the New York Times Magazine—actually it was the cover story—the last issue of 1979. Twenty economists, mostly famous ones but I added a few less famous, as to what we should be prepared to do to improve the economy of the 1980’s. Not a single one mentioned the growing threat of Japanese imports—nor did I in my commentary—and therefore no one mentioned the rise of the “rust belt” caused by the Japanese sales of their automobiles. Economists failed as usual to predict what was to happen and thus earned their jocular reputation at being very good at predicting the past. Alas, the same might be said of my own predictions. But I mention this to make a point: I might nonetheless be right and most economists may be missing the biggest story of the 21st century.]

There are other worries. Paul Krugman is concerned about the aging of the American population and the hardships this will bring on programs like health care and social security. On this, he has a point, one that is not limited to the United States, but applies to other First World Countries.

But he is also less worried about stimuluses that increase indebtedness. On this, I am only half-way with him. We need a second stimulus. That is clear, given projections of double-digit unemployment for a number of years by informed economists and government agencies. Krugman asserts (October 2): More stimulus is "urgently needed. The question shouldn't be whether we can afford to do more to promote recovery. It should be whether we can afford not to. And the answer is no." I fully agree.

However, I believe Krugman believes that once normalcy is restored, the national debt as a percentage of the GDP will decline just as it did from about 1950 to 1975, and did so enormously. (Just after the war--World War II, that is--the national debt as a percentage of the GDP decreased because of a huge inflation. But then, after 1950, economic growth kept pushing GDP up, while deficits remained negligible, until Reagan irresponsibly cut taxes and quadrupled the national debt during his eight years in office. The conclusion might be that responsible fiscal policy--doing what Reagan didn't do (or what George W Bush, didn't do)--can restore our fiscal position over time. But what if "normalcy" never returns?

I think then we can simply live with a higher level of national debt and, if need be, a higher level of taxes (especially if we can capture the taxes from those who are rich and hide their incomes in Swiss banks and off-shore islands) and thus pay out-of-pocket for education and health, services truly worth spending more on, rather than much of what we are now spending our money on.

Simply put, it is not likely "normalcy" will return. Things are not likely to right themselves in 5, 10 or 20 years (Even the Federal Government is predicting high unemployment for a number of years and the Congressional Budget Office--a non-partisan group--is predicting a gap over the next years between what we actually produce and what we could be producing of more than 2 trillion dollars. Read Paul Krugman's column (of 10/2/09, just alluded to) on the negative implications that we all but know are going to happen.)

How will we compete with countries that pay their workers a fraction of what we pay ours? Partly, we may improve productivity, but the real answer is that it is all but inevitable that we will not be able to compete. Our wages and living standards, on average, will likely fall, and the only questions are on whom, when and by how much.

Thus I think the protracted and anemic recovery is going to be endless, something like the Lost Decade Japan suffered beginning in the early 1990’s (and to a degree continues). I don’t believe a Great Depression lies ahead, but I do believe high unemployment and lower living standards do.

Nor do I think this is primarily due to incompetence or political ineptitude. In effect, this is a readjustment to centuries of exploitation of one group (we are in this group) over others. There is no way one can make meaningful amends. Once the economic inabilities of those who were outcasts, and poor, was overcome--and more and more they have been overcome--there is no stopping the transformation. In the end, there is a kind of justice in what is happening. We are finally going to pay for what our forebears and ancestors caused. But, alas, it will undoubtedly be ugly.