The Anti-Economist — From the April 2013 issue

A Bit of Good News

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It’s dangerous to express optimism about the economy these days. Europe’s financial markets remain fragile. China, which supports much of the world’s economy through imports, is too dependent on highly indebted, state-subsidized corporations. The Federal Reserve may reverse its low-interest-rate policy. Nevertheless, there is at last some fundamentally positive economic news to be reported: the United States may be on the verge of GDP growth rapid enough to bring down the unemployment rate substantially.

The nation’s debt as a percentage of GDP has stabilized and is forecast to begin falling in 2015, while consumer debt has already dropped significantly since the financial crisis set in. Research by the Harvard economists Kenneth Rogoff and Carmen Reinhart shows that recessions caused by financial bubbles take a longer time to recover from, as governments and consumers pay off debt rather than spending. This has certainly been true since the collapse of the housing bubble. But there is reason to believe that U.S. households and government have returned themselves to manageable levels of debt.

Following major spending cuts and modest tax increases, the federal deficit is now running at about 5 percent of GDP, compared with 10 percent in 2009. In 2013, the deficit will fall below the trillion-dollar mark, and the recent round of planned cuts and tax changes may already have put us back on a sustainable path. Meanwhile, health-care costs — the principal factor in projected increases in Medicare and Medicaid spending over the next decade, and especially beyond — have for four years been rising more slowly than expected, prompting the “nonpartisan” Congressional Budget Office to knock several hundred billion dollars off its federal-deficit projections for 2020. This is considerably more than reforms proposed by President Obama or Congress would achieve. In the long run, the beneficial consequences of slow growth in health-care costs could be far greater. The CBO now figures that the nation’s debt will for the foreseeable future remain slightly above 70 percent of GDP, which most economists believe to be an acceptable level.

Some influential Republicans are now noticeably more subdued on the deficit front than they were during last year’s presidential election or during the 2011 debt-ceiling debacle. In late January, a top Republican adviser and former aide to House majority leader Eric Cantor wrote on Twitter that “conservatives would be wise to focus on economic growth and job creation instead of austerity/cuts alone.” A few weeks later, Cantor made a speech at the conservative American Enterprise Institute in which he attempted to divert attention away from budget issues and toward education and health care. After Congress and the president conclude another seemingly unavoidable fight this spring about raising the legal debt limit — a serious threat, because failure to do so could lead to defaults on Treasury debt — the deficit wars may be just about over. That would mean much less of a headwind for the economy.

More important than any government news, however, is the fact that the U.S. consumer is once again financially pretty healthy. In the 2000s, Americans took on huge amounts of debt — mortgages to finance their new houses; home-equity loans to buy appliances, pay for college, and take vacations; credit card debt to cover everyday needs. Debt, not rising wages, is what kept the economy running through most of the Bush years. It masked a systemic weakness that most economists warned us about too late. Household debt service — the amount required in a given period to pay both interest and debt principal — reached more than 14 percent of after-tax income in 2007, just before the Great Recession was to get under way.

In the past couple of years, consumers have been paying off these debts. The Federal Reserve has kept interest rates low. Even as levels of some types of borrowing, such as college loans, remain high, overall debt service is down to about 10.5 percent of income, the lowest it’s been since 1981. As a result, consumers are likely to start spending again, businesses to start investing — the virtuous circle that drives economic growth.

A rebound in housing is a key component of full-fledged economic recovery. Though reductions in debt levels and interest payments don’t always mean that consumers will start buying big-ticket items like houses again, there is real evidence that just this is happening. Building permits are up strongly, while the inventory of unsold homes is down. (Foreclosed properties left fallow for several years are no longer salable — a sad fact, but one that reduces the inventory of houses available to be sold.) Purchases of furniture and appliances are also up. Construction companies’ stock prices have risen sharply, and these companies are hiring workers. And, most important, housing prices are up 6 percent since bottoming out last winter.

Meanwhile, pent-up demand should continue to drive sales: younger Americans who postponed home-buying plans through their twenties, often moving in with their parents, have been able to save up the down payments needed to make a purchase.

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