University Times

The United States will have to change its behavior and policies significantly if it is to adapt to the fiscal and economic crises the country faces, according to a prominent economics scholar.

Robert D. Reischauer, president of the Urban Institute, delivered the American Experience Distinguished Lecture here Dec. 6. Behind him is former Gov. Dick Thornburgh. The lecture was sponsored by Pit’s Dick Thornburgh Forum for Law and Public Policy and the University Honors College.

Robert D. Reischauer, president of the Urban Institute in Washington, D.C., said the recovery from the recent Great Recession has been stymied due to seemingly immutable political party divisions, overblown federal deficits, the declining value of the U.S. dollar and several other social and demographic factors.

But, in a twist on the old maxim that not learning history dooms one to repeat it, Reischauer said that in the case of the current recovery, looking backward only would spell disaster.

“Most Americans look in the rearview mirror when they want to know what the future is going to look like. That rearview mirror will give us a very distorted impression of what will happen,” because economic factors have changed. What happened previously is non-repeatable, Reischauer said in an economic forecast he termed much more gloomy than optimistic.

He spoke here Dec. 6 on “This Time Really Will Be Different: Adapting to Fiscal Reality,” delivering the American Experience Distinguished Lecture, jointly sponsored by the Dick Thornburgh Forum for Law and Public Policy and the University Honors College.

“I’m a believer that not only the challenges we face are great, but that the expectations of the American people going forward are quite unrealistic,” Reischauer said. “One reason is because there isn’t a full awareness among the American people of the unusual circumstances and mechanisms that we’ve used during the last few decades to make us feel like our standard of living was rising. ”

The biggest myth, he said, is that the pre-2007 economy was perking along just fine and the country would be okay if it could restore those conditions. “Really, where we were when the recession began in 2007 was depending critically on a series of non-repeatable adjustments … we have not fully come to appreciate,” he noted.

The primary challenge the United States faces is how to get the economy moving again. “We’ve experienced the deepest and longest recession since the Great Depression, and the recession we’ve had is unlike any we’ve had since World War II,” Reischauer said.

“In this recession, we’ve lost about 8.7 million jobs and the unemployment rate peaked just under 10 percent, the highest rate except for a few months in 1982. At the nadir of this recession we were losing over 700,000 jobs a month. But painful as this downturn was, I’m more concerned with the weakness of the recovery that has followed,” he said.

To describe the magnitude of the jobs crisis, Reischauer noted that even if the economy produced job growth at the rate of the best year of job creation in the 1990s — a boom decade with the largest American economic expansion in history — the country would not reach full employment until 2017.

“This is just not the kind of recovery that America is used to at all,” he maintained.

The second great challenge is to get America’s fiscal house in order, he said. “We’re running large annual budget deficits, larger than any since World War II. For the last couple years, for every dollar  the government has spent on goods and services, it has borrowed 40 cents.”

Compounding that, “our government has been borrowing, by and large, from China, Japan, the Middle East, which are our competitors and geopolitical rivals,” Reischauer said. “Make no mistake about it: That reduces our independence and sovereignty.” For example, borrowing from China while advocating that the Chinese take steps to reduce oil consumption lacks the authority of persuasion, he said.

“He who pays the piper calls the tune,” Reischauer said. “The increase in these deficits, or debt to others, relative to our economy has roughly doubled in the last decade. It’s now higher than at any time since 1950. That was when we were running down the debt we’d accumulated in World War II and the Great Depression. It’s hard to look at the last few years and say they were equivalent eras.”

In fact, the U.S. economy has changed dramatically since the 1950s, when there were no food stamp programs, no federal housing subsidies, no student loans and no federal departments of education or energy, Reischauer noted.

But it also was deleterious actions taken by the government in the last 15 years that have altered the fiscal landscape, he said. “There are several reasons the debt has grown over the last decade and in rank order they are the Bush-era tax cuts; the recent recession; the unfunded wars in Iraq and Afghanistan, and the recovery stimulus measures,” Reischauer said.

“If we don’t take aggressive action to raise revenue and curb spending, the ratio of debt to GDP will rise and it will rise to the level that has led to sovereign debt crisis. That means that a nation gets to the point where it can’t borrow except at interest rates that put it on a death spiral. Creditors begin to intervene and they start dictating budget adjustments,” the last thing America wants, he said.

“Of course, these two challenges — getting our economy back on track and getting our fiscal house in order — are related. Much of the high deficits we have now are related to the deep recession and the slow recovery. When the economy is weak, incomes fall and tax revenues go down. Spending on entitlement programs like food stamps, unemployment insurance and Medicaid automatically grow because more people need them,” Reischauer explained.

He estimated that if the economy were growing at full capacity, the deficit would be about one-third lower because tax revenue would be higher and spending on entitlements would be lower.

“Having said that, we shouldn’t say: ‘Okay, things will turn out, it will fix itself,’ because the root cause of long-term deficits is the retirement of the baby-boom generation and the rapid increase in health care costs and, quite frankly, our desire to enjoy 21st-century services and pay 1950 tax rates,” Reischauer said.

There are new demographic and social factors that contribute to the crises as well, he noted.

“Income for the average family in America in real terms when adjusted for inflation for the last 15 years or so has been flat. Much of the growth in family income that occurred before that was attributable to the labor force participation rate of married women. Since the 1970s until the 1990s those incomes had risen. But that rate has leveled out,” he explained.

“In addition, over the past several decades Americans have boosted their living standards by borrowing more as consumer credit became more available through the proliferation of credit cards and other financial instruments,” he pointed out. “However, as borrowing increased, savings declined.”

In the last few decades there also was a shift from parents paying for their children’s college education to government-backed loans, adding a fiscal burden unknown previously, Reischauer said.

“Between 1963 and 2007, the median price of an owner-occupied home in America grew about 20 percent faster than incomes. Of course, this led to the housing boom, which then became a form of home-equity wealth for many American families,” he said.

“As interest rates fell and refinancing became easier, Americans went on a binge and extracted billions of dollars of accumulated home equity, much of which was devoted to consumption,” he noted. “This clearly is something that will not continue into the future, as real estate markets began to collapse in late 2006 and housing prices since then have fallen, wiping out homeowner equity in many cases. About a quarter of all homes are estimated to be ‘under water.’”

Another economically beneficial element unlikely to continue, he said, is the availability of imported low-cost consumer products due to a strong U.S. dollar. “That would be something that helped us in the past, but that going forward will not operate the same way, because the dollar was so strong when we were borrowing so much from abroad. Now we have to export to improve our economy and the dollar has been weakened and the price of many things we enjoy will rise at a disproportionate rate,” Reischauer said.

“Finally, it is the unfortunate reality that it’s in both parties’ interest not to solve these problems. We have a party of ‘no tax’ and a party of ‘no cuts to entitlements,’” he said. This year’s debate over whether to raise the debt ceiling — failure to do so would almost certainly have caused a worldwide economic downturn — and the failure of the so-called supercommittee to fulfill its charge are strong evidence of party divisions, he added.

“If you had a compromise plan of a little bit of this and a little bit of that, it would be hard going into an election to differentiate yourself from the other party. Congress’s preferred action is always to kick the can down the road and hope that lightning strikes. Well, lightning will strike in the form of an election next year. A new Congress will be convened: Let them deal with this” is the prevailing attitude, Reischauer said.

He said the questions become: How ready are the American people to tighten their belts sufficiently to put this nation back on a path of long-run economic health? How do we get from the American experience back to the American dream?

Reischauer acknowledged that he is pessimistic about any prescription for economic recovery, at least in the near term.

“The first thing we have to do is to change the expectations of the American people. We’re going to have to tighten our belts, in both the public and private sector, and reallocate — not just cut back — spending in ways that advance us in the future: invest in sensible infrastructure; invest in education; invest in R&D, and reduce the excessive amount of consumption-related spending done by the government with a cap system.”

—Peter Hart