Opinion

Felix Salmon

A global problem with no solution

By Felix Salmon
November 6, 2009

Mohamed El-Erian, the CEO of Pimco, sent me a note this morning which sums up the dire straits of the economy, as revealed in today’s employment report, in one sentence:

The problem is that very few people in DC are thinking of this as a structural challenge. Until they do, there is little basis for the sketch of a potential solution.

Here’s the issue: unemployment is at 10.2%, and broader underemployment is at 17.5%. For the foreseeable future, both of them are going to be extremely high — it doesn’t really make much difference, at the margin, whether they’re going up or down. Financial markets are used to looking at first derivatives, but in this case it’s the absolute level which is important.

When you’re unemployed, you don’t spend. So long as unemployment remains high consumer demand will be depressed. That’s going to be true even if the savings rate starts dropping, thanks largely to the enormous debt burden that US consumers have already placed upon themselves. That’s important for the US economy, and it’s also a major sea-change for the global economy. As El-Erian says in today’s FT:

There is one public good that needs to be replaced: the key role that the US has played as the engine of global growth. This role is now constrained by the debt of US households.

The implications of this are huge. If the US no longer drives the global economy, then the rest of the world will be much less inclined to fund its twin deficits to the tune of trillions of dollars per year. Meanwhile, the high unemployment rate means that the Fed is going to keep the Fed funds rate at or near zero, which bodes ill for the dollar. These are huge forces, acting in an extremely complex global financial system, and you don’t need to be Nassim Taleb to know that the end result of such a state of affairs is likely to be large, unpredictable, and potentially catastrophic.

Which brings me back to Washington. Here’s El-Erian again:

The best defence against these outcomes is early recognition and coordinated action. Key economic powers must shape their expectations and policy strategies to the changed contours of the global economy. They must also actively manage policy changes at the national and multilateral level in a way that broadens the provision of global public goods.

They must, yes. But will they? I fear — and clearly Mohamed fears too — that the answer is no. So far I’ve heard nothing out of Washington which says to me that the White House has a plan for addressing long-term structural problems in terms of unemployment, capital flows, and interest rates. A lot of these problems have been around for many years, and most of them have been diagnosed sharply at one point or another by Larry Summers. So it’s not like Washington is oblivious to what’s going on. But we’re at the limits of what monetary policy is able to achieve, and the nation cannot afford to repeat the monster hit to the US fisc which we’ve seen over the past couple of years.

Maybe, then, there simply isn’t a solution: the problem is just too big, too complex, and too intractable. It’s a depressing conclusion, but also a pretty compelling one.

Comments
35 comments so far | RSS Comments RSS

Perhaps we shouldn’t regard dollar weakness as part of the problem, but as an essential part of the solution. The US’s ‘overconsumption’ has come to an end, and the economy will depend on other sources of growth. A weaker dollar will help to stimulate net exports and investment. In turn, this also facilitates a less painful adjustment in the household sector. I suspect policymakers in Washington are content with this policy solution; I’m not convinced the rest of the world has woken up to what it means. But as the dollar continues to fall, they will.

Posted by Econoclast | Report as abusive
 

Since the government can’t solve the problem, it’s time the people start facing unemployment with their own ingenuity:

http://bit.ly/ozqT6

(satire)

 

It’s inconceivable that the US will ever again have trade and current account surpluses. (It does have a trade surplus in services, but that is dwarfed by the goods deficit.) No matter how far the dollar falls, you just can’t compete with emerging market workers making five to ten times less than you. In addition, increasing domestic savings to provide a large enough capital pool to substitute for foreign borrowing would require consumption cuts that would kill the economy.

Posted by Mike | Report as abusive
 

“So far I’ve heard nothing out of Washington which says to me that the White House has a plan for addressing long-term structural problems in terms of unemployment, capital flows, and interest rates.”

How can they address unemployment when captialism requires jobs to move to the lowest possible cost providers in the world versus keeping jobs inside the US economy?

Sure no one is going to buy a radio that costs $99 made by US citizens getting $16/hr versus a radio costing $19.99 made by Chinese citizens getting 0.25¢/hr but then who is going to buy the radio at all at $19.99 when US citizens do not have decent paying jobs at any level?

Duh, you can only outsource for lower labor so much until the higher value area has no capital left for goods…

Posted by econobiker | Report as abusive
 

Felix- the problem is that the “economic playbook” doesn’t really address this situation of lengthy elevated employment. Today we set a record for number of people (both in absolute terms and % of labor force) unemployed over 26 weeks…. yet economists (such as those at the Treasury) use a “recipe” that has different inputs to try to solve the problem

 

Too big to…solve?

Posted by Tyler | Report as abusive
 

But are we at the limit of what monetary policy can achieve. I do not think so:

http://www.economist.com/blogs/freeexcha nge/

15:59 GMT +00:00
Crank up the helicopter
Posted by: Economist.com | WASHINGTON
Categories: Monetary policy

 

Our “great moderation” basically consisted of bailing out financial messes by throwing low interest at them. Now we are at zero…just as people will start retiring. What will happen to all those private, and state pensions premised on paying benefits assuming a 6 or 7 percent return with a “balanced” portfolio???

Posted by fresno dan | Report as abusive
 

Felix, what will happen here is roughly similar to what has happened throughout history when humankind is faced with large, intractable, complex structural socio-political-economic problems: either 1) we will soon (short-to-medium term) enter upon a period of more or less extreme instability that lasts until the unproductive elements of our leadership elites are permanently removed from power; 2) the global leadership elites will agree among themselves on a power shift that is sufficient to avert extreme instability in the medium-to-long term; or 3) things calm down enough that everyone stops worrying so much about it, and the needed structural changes happen slowly.

#3 is clearly what the Western leadership elites are hoping will happen; but I think the Obama team is smart enough that they’re likely already thinking about how to work on #2 as well. #1 is what the Western powers are all afraid of, consciously or not, and our level of fear may determine whether it will happen.

Interestingly but unsurprisingly, the non-Western powers are less worried, perhaps because they don’t have quite so far to fall, and have much more to gain if the Western elites lose their grip on power…

Posted by Fraa Erasmas | Report as abusive
 

It truly is sad, because the problem is not that hard (intellectually).

The trick is resetting our economy to adapt to globalization.

The US must lower the cost and raise the value of its labor pool. So:

1. move cost of healthcare from business to government
1A. raise marginal rates above $250k to pay for it.
2. increase investment in education with two specific targets: lower HS dropout rate and increase graduation rates in math, engineering and science.
2A. cut defense budget to pay for it
3. Cut importation of oil 50% over ten years
3A. Tax energy to fund the development and efficiency work, and to subsidize the transition costs for consumers.

The net result is 1)labor costs per employee that are 15% lower because health care is off the employer; 2) stronger workforce is more productive due to education; 3) cutting oil importation 50% cuts trade deficit by 25% by itself.

How bad does it have to get before we can overcome the resistance of 1) the rich; 2) health lobbies; 3) defense; 4) big oil? Only President Beck will be able to tell us.

-retrain the 10% of the workforce that

Posted by Dollared | Report as abusive
 

Re: jobs creation

I have developed a business plan that has been praised by analysts at Microsoft, Amazon.com and top venture capital firm Draper Fisher Jurvetson.

The plan presents a business case for a start-up provider of:

* online markets that provide people with new and improved ways to customize education, and to showcase and earn money from expertise
* media and software that complement said markets

Canonical research findings (i.e., not mine) suggest that the best implementations of the plan will catalyze a lot of job creation.

Toward raising awareness of this info re: jobs creation, I have adapted the plan at OpportuniTV.com.

Any chance that your organization can help to raise awareness of the website, or can otherwise make use of the information? If so, please contact me at your earliest convenience with any questions, comments, etc.

Thanks kindly for your consideration.

Best regards,

Frank Ruscica

 

Washington is ran by a gang of criminals. They spent the fortunes of not only this generation, but the next 10 generations of Americans, and gave the loot, in the tune of several trillion dollars, to the same crooks that created the derivatives fraud crisis in the first place. Yes, your “representatives”, instead of throwing the crooks in jail, threw them more money that Americans don’t have.

If that $3 trillion was spend on job creation….

Posted by Zhuubaajie | Report as abusive
 

Nice post. El-Erian is right in asserting that Washington doesn’t recognize the nature of the problem. Based on recent responses, that might be all well and good. If they start sketching solutions then I fear mightily for the Republic.

Citizens have responded to this sort of crisis before by reinventing themselves, migrating to jobs and doing what it takes to pick themselves up. I’m not as pessimistic as you and still hold out hope that the average Joe can work his or her way through this.

On the other hand if the political class continues to flail about putting forth self-interested recovery plans one after the other then I might begin to share your gloomy view. At some point the bill for failed government initiatives will overwhelm whatever positive movement that might arise.

 

*************
Ignore if you don’t like to attempt to suss out the real conspiracies
*************

Things have taken a turn for the German lately…

1st Tuba Roubini hooks up with a German newspaper…

Pimco/Allianz’s El-Erian double teams the psyche by prognosticating Roubini-level doom with Felix…

Krugman was quoted a few months back — in a newspaper sponsored by a German foundation (gotta love those stiftungs) — as saying, when no one else of his stature was saying it out loud in the media, that we are in the midst of a deep global depression. If you’re a good internet sleuth, go back just for fun and count the number of times Herr Doktor has used the terms “scared” and “scary” in his posts and articles. Look, this is not brain surgery — fear is being spread with great skill. Think about why, and who is doing it. Often you’ll find Murdochs and Reuters, but go beyond that too.

If you need to reacquaint yourself with Allianz and its “controversial” history:

http://en.wikipedia.org/wiki/Allianz

 
 

Felix, you and Mohamed El-Erian are two of the brighter voices in the macro discussion, but I was disappointed by the quality of the comments on this post. I think that all of the hopes and solutions offered above suffer from the same virus of deadweight loss. There’s only one solution out of Washington that will reduce that disease, and they’re not going to go for it.

 

Felix, An excellent article. When you add to the mix the impact of demographics on consumption (boomers, who are an extraordinarily large component of the population, are aging, saving, retiring and consuming much less) then it is pretty much inevitable that consumption patterns will not return to past levels for perhaps decades, if ever. The United States must become an exporter and less of an importer and yes that means we will have to accept a weaker dollar and lower living standards.

And yes also, there will come a time when the nations around the world such as China and Japan come to the realization that it is no longer in their best interests to buy US Treasuries because we are no longer buying enough of their export to make such a trade off worth while. I suspect this is going to happen no matter what we do, but I agree that our policy makers need to be doing everything they can think of to minimize the damage once this happens. Perhaps they are already engaged in some of these activities by deciding to issue longer term maturities of Treasuries to finance our national debt. Unfortunately the political process in mired in self serving interests and both the Administration and Congress are seemingly incapable of even understanding the risks let alone developing a coherent strategy to address the structural changes that our economy is undergoing.

Posted by imapopulistnow | Report as abusive
 

Everywhere i look in the business community i see capitalism on steroids. It’s become the underlying problem in our society – the world should not be run by competition but by cooperation! It’s the Chinese finger puzzle solution: make it in everyone’s best interest to give, provide, help, foster, steward, care for the earth and all life (including the ethical and sustainable use of resources), and everyday we’re working on fixing the problems not continuing to make them.

Unfortunately, it’s going to take a massive paradigm shift and complete revamping of the way we live and too many of us won’t or wouldn’t be able to give up what we have (because it’s become ingrained in us, living this way). Many are saying it’s all over for humanity and that our future looks downright BLEAK (look into
Bottleneck: Humanity’s Impending Impasse, by William R. Catton, Jr. for a good argument that we’re toast going forward). That said:

Why can’t someone in the health insurance business see that if they’d just do business ethically they’d be overwhelmed with paying customers. After all, if they have all the stats they can design a risk rate within a range that makes them money – knowing that if they go overboard and make it too expensive no one will be able to afford it. If their business model no longer works for people for any reason (dubious practices to too costly), then health insurance is just another scam.

Now which is it?

Posted by maliki bote | Report as abusive
 

What we need is one global agreement to reset the entire, global economy.

control-alt-delete, global bankruptcy, all debt wiped out.

:)

 

If an individual investor were to make investments to mitigate against the scenario Felix describes, what would it be? You wouldn’t want to hold a bunch of cash, because the dollar will devalue in this scenario. You might invest in oil — it should hold value in time of inflation — but Felix has talked about there being a bubble in commodity prices because of all this free money that’s floating around. You invest in Chinese stocks, but you have to think they aren’t going to come out unscathed if they’re zillions in dollar loans become devauled. Maybe it’s time to buy US real estate, but who knows about that.

Seriously, what should an investor do who was worried about the type of scenario layed out in this blog?

Posted by Mike | Report as abusive
 

Well, we can start by only buying stuff made in America. If you want jobs in America you have to buy stuff made by people in the USA and use services provided by people in the USA. I’m as guilty as anyone else, but it’s now pretty clear that’s the only answer.

Posted by Neil D | Report as abusive
 

I have a friend who is graduating from a state school in computer science with good grades in December. He already has four job offers to choose from, one of which is remarkably high for someone fresh out of college.

In America there is a massive disconnect between the jobs available and the skill set most unemployed people have. There is a nursing shortage (not to mention shortages in many other medical areas) in America that will soon become a crisis. I heard that America produces five times as many psychology graduates as all engineering fields combined. Few psych majors will become psychologists.

America is still the number one producer of tangible goods in the world at official exchange rates — admittedly China is ahead a bit using PPP (but manufacturing is a small slice of our economy). A good half of revolutionary technology still comes out of America. We still get tons of nobel science prizes. And we, along with Brazil, will hold the rest of the world and especially China by the _________ in terms of food production over the coming decades as they pave over their fast disappearing farmland. America is doing okay, people.

Posted by Dan | Report as abusive
 

Well, lots of solutions and thoughts. This sickness in the economy came on slowly and will be cured slowly. The patient is still in bed and the parents (our government) have not seen fit to call the doctor yet. Our polititians are still asking the economists and they only know what they read in books. This is a serious illness and cannot be cured by aspirin or antibiotics. We will have to change our diet, and lose weight.

We must build or convert US factories to build the products that America needs. We also need to protect the US rather than running all over the world protecting foriegn governments. To blazes with the global economy. It has worked about as well as globally selling US securities packages to foriegn investors. Now is the time to rebuild the roads, rebuild the cities, bring the troops home. send the illegal aliens home, clamp down on imports, and stop the lobbyists(both local and foriegn) from running the government.

Posted by f belz | Report as abusive
 

Too big to…solve?
Not a problem, If we can’t solve the problems, they will solve themselves. We might not like the way they pan out, but they will.

Posted by twm | Report as abusive
 

Mine the unemployment data and it’s not too bad if you have a college education. Those unfortunates in our society who did not have the foresight to finish high school on the other hand are getting crushed.

Dan makes a good point about education and the skill sets of our grads being often pretty useless (my wife has a masters in community psychology and she’s never used it). We’re in our 50′s though. She got off cheap compared to the tuition rate today.

My son is in middle school and struggles with mathematics. I’ve a degree in economics (BS not BA) and studied calculus through calc III. I’m fairly mathmatically literate. That said I shudder when I see the way our schools try to teach math to our kids. Programs like the University of Chicagos’s “Everyday Math” are just horrible. My son gets private tutoring, help from me and extra help from his middle school teacher. With all this going for him he’ll overcome being shortchanged on his elementary school education.

We can afford this in our family. What about those folks who can’t? Of those poor kids with parents who just don’t care? Those kids are the biggest losers. Our society loses as well.

Posted by Barton | Report as abusive
 

Gee! Just when I got almost convinced the US economy was in a “Recovery” phase…

DC propaganda masters, Media hype specialists and Wall Street casino managers would like everyone to believe “It’s Getting Better Every Day”, when facts on the ground show things are as bad as before, and in some cases worse.

The credit crunch keeps crippling small businesses, loan defaults and bankruptcies are on the rise, and the same is true for foreclosures.

Too few have the guts to say this is a words-and-paper recovery, and not a real one.

Posted by yr | Report as abusive
 

Dan–
America is doing okay? That’s great! Instead of relying on money lost as an engineer whose job was awarded to cheap foreign labor, I think I will print up your post and treat it as currency the next time I head over to my local supermarket. Think they will go for it? Talk is cheap, and so are corporations; there is too much money at the top benefiting those whose lone contribution to our economic prosperity involves a hand in the pocket of people who work for a living. Doctor, dentist, or ditch-digger, no matter a person’s skills, the point is moot if an employer regards a fair wage enough to afford hamburger for Hamburger Helper.

Posted by jb | Report as abusive
 

Is Ben Bernanke A Dismal Failure?

The past fruits of Bernanke’s largesse to speculators whose favorite pastime is high stakes gambling with other peoples’s money (namely the poor US taxpayer’s money) included an almost simultaneous stock market bubble bust and a residential housing bust. Now we are waiting in line for another stock market bubble bust, a commercial real estate bubble bust, and an asset bubble bust. Which will be the first to pop? And it’s a double whammy–change dollars into foreign currency (and do what you can to weaken the dollar so that that the dollar loans can be repaid with depreciated dollars), and invest in foreign assets so that American imports are much more expensive.

An interesting side effect of this is the almost unnoticed political and economic waning of the US as a global power over the past couple of years. For example, with gold market manipulation, the US has been able to penalize investors who threatened the dollar by buying gold, but it no longer has the power to do so, which puts another weakening strain on the US currency. Also, our recent actions that took advantage of the dollar as THE international currency together with the resultant weakening of the dollar has turned many of our past friends into very powerful enemies.

While talking about negative assets, I would like to mention the expensive US military and CIA, which are little more than antiquated and absurdly useless money sinks in the modern world, and are much more a source of embarrassment and problems than of security.

 

The solution is quite simple: abolish taxes and shrink government. People will then have money to spend and be able to spend it any way they want without the government meddling in the economy.

Posted by Mufaso | Report as abusive
 

jb –

Your point is valid. America is running way below its potential, and a lot of people are suffering right now, but most people here continue to enjoy a standard of living that residents of other countries only dream about. But if a foreign engineer is willing to work for so little, it is foremost an indicator of how much better things are over here than where he is.

Meanwhile, with the right education and skills a person has very high odds of good employment eventually.

October 2009 unemployment numbers were 2.1% for healthcare practitioners, 4.6% for computer scientists, 6.6% for engineers, 5.4% for science people, 4.1% for teachers, 3.3% in legal and 20% in construction (i.e. depression-level).

http://www.bls.gov/web/cpseea30.pdf

- Dan

Posted by Dan | Report as abusive
 

I am no economist and do not follow politics, have been laid off (1993 and 2001) with just a knock on the door, and am now struggling to make it through each month, working three part-time jobs, even after recently taking a job I received more pay for in 1993. Nonetheless, I see things like this: the U.s. must start being the “maker of things.” Isn’t that what Obama said in his inaguration? I do not recall the last time I bought something that said “Made in America.” Why aren’t we making anything anymore? Because we are so greedy and short-sighted that we think buy, buy, buy is the solution to everything. We have become so lazy. We need to make our own products and grow our own crops.

Green energy = jobs. Why not covert (as mentioned in a comment already) current factories/warehouses for production of green technology, particularly in cities like Detroit and New Orleans? Green technology is necessary and can 1) teach skills, 2) provide steady pay, 3) get employees into houses (buying up all the vacant houses in Detroit, for example), which will 4) lower crime rates, and 5) improve neighborhoods – all at the same time. Creation of jobs here in the U.S. is what will improve our economy along with reduction in consumption. We, in the U.S., must reduce our consumption, create skills for ourselves, and convert those skills into consistent local employment.

As for me, I shop at Goodwill thrift stores at the 50%-off-sales, drive a 1990 Toyota Camry, and have reduced my utility bills dramatically by making a few changes:

average water bill: $12/month (2-minute showers instead of 10 minute showers), electric bill: $31/month (haven’t turned on my heat yet for winter but when I do, I keep it at 60-62 and were about 3-4 layers clothes instead), gas bill: $32 month. Also, dropped my landline phone, fax machine, and monthly insurance for my cell phone. Utilities are under $100/month.

Oh yes, the important food bill: no more junk food, save an occassional bag of tortilla chips and no more going to the movies (a 20-year true love of mine). Instead, for the latter, I get DVD’s out of the local library and enjoy a movie on my PC.

Now, making these changes was not difficult and free to do. We in the U.S. so love anything that’s “free.” Well, let’s be free to see we can create our own jobs and grow our own food – go to a grain-based diet instead of meat-based, and grow our way out of this mess, becoming healthier in the process.

Now, off to watch some Brando classics.

P.S. “Inherit the Wind” (Spencer Tracy version) is tops and so many topics discussed in the movie are still relevant today. I give it 5 stars ***** out of 5!

Back to the economy, we MUST create our own jobs, and for those of you struggling out there, a few changes in consumption (food and utilities), can save you at least $100/month or more.

Off to the movies,
Renee

Posted by renee | Report as abusive
 

Mufaso !!!

Abolish taxes and shrink the government !?! Are you kidding me ?!? Who the hell is going to bail out the big banks and other big corporations when they fail?? Yep, sure makes sense to me, let’s shrink the government, give them LESS control on business and have less taxes going into the system to maintain our infrastructure. Yep, that way all of us can get BENT OVER again by big business and our cities sewer systems, highways, postal system, water systems, police departments, can all go down the toilet too. Mufaso, what color is the sun in your world ?????????????????

 

Mufaso-

Oh, I know, your one of those kinds, ie..”godda*mn government ain’t gonna tell me where to build my house” –builds house on floodplain.

Flood comes along, ie..”hey, where’s my FEMA, why’s my national guard?”

OR

Madoff investor, ie..”godda*n government needs to keep there nose outta my investments, I’ll do what I want with MY money”.

Madoff victim, ie..”hey, where’s the SEC, what happened here, federal regulation?, what happened?, I want my money back” (sticking hand out to government).

Same bullsh** just a different day.

 

Maggie is correct, a new value system whereby everybody ‘feels’ that they still have the same net worth.

Else, ignore the problem, sooner than later it will go away all by itself.

The US has been caught napping and have been blindsided again, maybe too busy with its childlike war games: China is writing off most African debt.

Trevor, we pay for those goods and services through indirect taxes in any case

Posted by Casper | Report as abusive
 

No, the solution is to be rid of the car/oil/military mafia.

 

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