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Rebound And Realities
By Steven Pearlstein
Wednesday, July 9, 2003; Page E01
The past three years have not been kind to economic forecasters, most of whom underestimated the strength and duration of the current slowdown by expecting the economy to behave pretty much as it did in the past.
The few who basically got it right tended to focus on the structural imbalances that had developed in the 1990s -- excessive debt, record trade imbalances, inflated asset prices and business overinvestment. Working off those imbalances, they reasoned, would require a longer, sharper downturn than in earlier cycles.
Now, however, three of the most prescient structuralists -- Jim Paulsen of Wells Capital, Bill Dudley at Goldman Sachs and Allen Sinai of Decision Economics -- have sounded the all-clear. It is not, they are quick to add, that the structural imbalances have been fully dealt with. Rather, it's that Washington has now pumped in so much extra money that the economy is bound to grow 3 to 4 percent over the next year -- and maybe a year or two after that.
Sinai figures the newly expanded budget deficit will deliver $60 billion of fiscal stimulus this year, $150 billion next year and $80 billion the year after that. Average it out and that's an extra percentage point on the GDP right there.
Then there's the Fed's low-interest-rate regime, which has been mainlining a heavy dose of cheap money into the financial arteries for nearly three years. The resulting 5-percentage-point drop in long-term rates has kept consumers spending on debt-financed homes, cars and furniture but also triggered wave after wave of mortgage refinancings and cash-outs that have put an extra $200 billion a year in household checking accounts. Corporations have also used the occasion to refinance debt, with immediate improvement to cash flow and earnings.
The current stock market rally not only anticipates this policy-induced economic spurt but going forward will contribute to it as well, giving consumers and executives the confidence to spend and invest.
But be careful, warn my three "structuralists." This isn't the start of another decade-long expansion. And what growth there is is likely to flag soon after George W. Bush has won his second term and Alan Greenspan has taken his final victory lap.
"We're going to feel like we've dodged the bullet, but we haven't," said Paulsen. "We'll feel very good for the next few years, but when it ends we'll be back in worse shape."
The stubborn problem here is that Americans continue to live beyond our means, making up the shortfall by taking on more and more debt. As taxpayers, we demand more government services than we are prepared to pay for. As consumers, we've grown accustomed to "dipping into principal" at precisely the demographic moment that we should be adding to it. And as investors, the amounts we are prepared to pay for stock or real estate make sense only if interest rates remain artificially low and growth rates are kept artificially high -- which they will for a while, and then won't.
The numeric expression for this underlying economic dysfunction is called the current account deficit. Roughly speaking, it represents the amount Americans spend and invest over what we produce and save. That number is already at an unsustainable 5 percent of GDP and will only grow larger in the next two years.
In the end, the only thing that will finally bring things back toward a more reasonable balance is some combination of a fall in the dollar, a rise in taxes and an increase in household savings, each of which will require a reduction in our standard of living. And whatever version of this rebalancing we chose -- or is chosen for us by foreign creditors -- it is likely to involve the kind of cleansing recession that never developed this time around.
So party on, dude. Enjoy it while you can. The fundamental problems of the American economy have been put off but not resolved.
Steven Pearlstein will host a Web discussion today at 11 a.m. at washingtonpost.com. He can be reached at pearlsteins@washpost.com.
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