About Me & This Website
My Positions
On Facebook
Contact Me

  DougCo School Board Loss
  Pro-Caucus Chairman
  Free the Delegates
  Clinton Surplus Myth
  Taxes, Rich & Poor
  Clinton Surplus Myth, Pt. 2
  Financial Crisis
  Obama's Economy
  More articles...

The Crisis is Confidence, Not Unemployment   November 26th, 2008


More observations...

President-Elect Obama and other Democrats are promising a large federal spending project over the course of two years. Numbers as high as $700 billion have been mentioned . But is more borrowing and spending really the solution?

There seems to be a growing understanding that Obama will not raise taxes on the rich as he promised in the campaign. At least not for now. If we assume that Obama isn't going to raise taxes then it must be assumed that any massive new spending project (in addition to the massive bailout already underway) must be paid for with government borrowing.

But, I wonder, is the solution to our current crisis really having the government borrow money and spend it? If so, how is that different than what President Bush has been doing for the last eight years?
President Bush has borrowed and spent over $4 trillion and that obviously didn't allow us to avoid the current crisis. In fact, some people are actually blaming Bush for the crisis. Why would borrowing and spending another trillion--or two or three--produce different results?

We Americans have basically borrowed and spent ourselves into the current crisis.
  • Those of us on Main Street borrowed too much money to pay for houses we couldn't afford, borrowed against home equity (which later evaporated) to pay for other lifestyle perks, and then borrowed money on our credit cards to make up the shortfall when all that other borrowing wasn't even enough. We borrowed ourselves into a lifestyle that wasn't sustainable.

  • At the same time, people on Wall Street borrowed (leveraged) too much money against insufficient reserves in order to pursue higher and higher returns on riskier and riskier investments. A house of cards was built on top of fundamentally questionable securities in order to obtain higher profits. Wall Street borrowed itself into a situation that was unsustainable and is now collapsing.

  • Meanwhile, the U.S. Government has borrowed over $1.4 trillion just in the first eleven months of 2008. In addition, it has borrowed and spent over $4.2 trillion from Social Security and other trust funds over the decades in addition to the $6.3 trillion it has borrowed from the public. In all, the Federal Government has borrowed and spent over $10.6 trillion .

And the current financial crisis has basically been caused by the credit market freezing up--in other words we can't borrow anymore. Why? Primarily because the people and businesses that normally loan money have lost confidence that those that borrow the money will actually pay it back. With so much of our consumption being permitted only by borrowing, a lack of credit basically translates into an economic catastrophe.

Obama's solution, apparently, will be to have the government borrow even more money and spend it on a massive public works project similar to what FDR did during the Great Depression. Even if we assume that was a proper response to the Great Depression (and that's not universally accepted ), it's not at all clear that it's a proper solution to the current crisis. In an economy that has a lot of unemployed construction workers (or unemployed people that could be construction workers) such a project may be a reasonable way to put them back to work; especially if the construction being contemplated is something the country needs anyway.

However, the problem right now isn't that we have a lot of unemployed people. Our current unemployment rate is 6.5% compared to about 25% during the Great Depression. Granted, 6.5% is higher than we'd like it to be, but it's not so extreme as to require lots of make-work projects. The problem is that even the people that are working aren't spending--either because they no longer have credit available or because they've hunkered down and are stashing their money in preparation for the unfolding crisis that the media has been threatening the public with for close to two years.

In a situation like this I'm really not all that sure that the government borrowing and spending more money is going to fix the problem. Even if it lowers the unemployment rate from 6.5% down to "full employment," that won't necessarily do any good if all the employed people are hoarding their money.

We don't have an unemployment crisis. We have a crisis of confidence. Consumers lack confidence in the economy so they're avoiding spending, and lenders don't have confidence in borrowers so they aren't lending. Building highways and infrastructure won't necessarily change that. EDIT Dec. 1, 2008: Nearly a week after this article was published, Treasury Secretary Henry Paulson said that "This lending won't materialize as fast as any of us would like, but it will happen much, much faster as confidence is restored." As I said, this is a crisis of confidence, not unemployment.

Living Beyond Our Means

The reality is that we've known for a long time that we've been borrowing too much and saving too little. We knew that was true of our government and we knew that was true about us as individuals. We knew we couldn't afford the houses and lifestyles we were trying to maintain yet we bought into the hype. The situation simply was not sustainable.

I suspect the solution here is for us to finally face cold hard reality. We have to accept the fact that we can't borrow our way into prosperity any more than we can tax our way into prosperity. Consumers can't take on more and more debt in a never-ending effort to obtain a lifestyle that their incomes don't support. Nor can the U.S. Government continue to borrow and spend money as if it had an unlimited supply. The debt load of the federal government is very close to becoming not a problem for our grandchildren in a few decades but for us right now.

What is happening today isn't because the government hasn't spent enough money. It's because we (as individuals and collectively as the government) have ALL been spending too much borrowed money. We've been living on borrowed time, so to speak, and the time has come to adopt a more conservative and frugal lifestyle--a lifestyle more similar to that of our grandparents who lived in (and learned from) the Great Depression.

The economy will eventually recovery. It always does. But, given the cause of the current crisis, I don't think any recovery will be because the government decides to borrow and spend a few hundred billion--or even a few trillion--on roads and bridges. The recovery will come, with or without government spending, as the economic correction takes its course, consumers adapt to the lifestyles they can afford, and we slowly pay off the debts that we generated in our multi-decade orgy of borrowing. This will probably be a painful process. But it's both naive and irresponsible to believe we can put off the day of reckoning further by borrowing even more. In fact, the opposite is true: The more we borrow today to try to lessen our pain, the more economic pain we'll have to deal with in the future. It's time to bite the bullet.

What we're going through is, in my opinion, a massive economic correction. It's an economic correction triggered by decades of careless misuse of credit. I don't think it's going to be solved by the government borrowing and spending even more.

 Go to the article list