James Pethokoukis

Politics and policy from inside Washington

Katrina? Gulf spill may be Obama’s Iranian hostage crisis

May 28, 2010 16:24 UTC

The analogies have been flowing almost as fast as the oil from the Gulf seabed. The BP spill is Barack Obama’s Katrina. Or maybe it is his 9-11. Pick your disaster of choice. But however you want to classify it, the expanding oil slick is a mess for the White House:

1) Voters are impatient. By a 53-to-43 margin, according to pollster Gallup, Americans think the president has mishandled the crisis. CBS News found a similar gap. The spill strikes particularly at  one of the president’s supposed strengths — competence — and highlights a perceived weakness — that he is more an intellectual than a executive. Even Democrats don’t think he has been hands-on enough. (See James Carville’s near-hysterical rant on ABC.) And now Obama is reversing a well-thought out move to allow more drilling.

2) The president’s long-declining approval ratings had been perking up, thanks to the recovering economy and his push for financial reform. Now they’re sinking again. Since World War Two, presidents with sub-50 percent approval ratings — Obama is at 47 percent — have seen their party lose an average of 36 House seats in midterm elections. The GOP needs 39 to take control of the lower chamber.

3) The spill has also undercut Democratic efforts to pass an energy bill that would subsidize alternative fuels and create a limited carbon emissions trading system. Obama has suspended deepwater drilling. But Republicans won’t even consider passing a bill that doesn’t expand such efforts. That demand makes the legislation a non-starter for Democrats. Now energy companies have begun quietly talking to GOPers about what sort of energy policy they would push if they take one or both chambers of Congress.

4) And if BP can’t permanently stop the leak? Then the problem isn’t Obama’s Katrina, it is his Iranian hostage crisis — a long-term problem he has no control over that continually drains his political capital and popularity. The White House better hope the First Father can soon tell daughter Malia that “Yes, Daddy has plugged that hole.”


Devastation Horizon could be Obama’s Iranian hostage crisis if he had a deal with BP to plug the thing and magically clean up the Gulf overnight on the eve of his reelection. Otherwise, not really.

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Why austerity won’t fix global budget mess

May 26, 2010 18:36 UTC

Bond guru Bill Gross makes this point:

Tougher sovereign budgets produce government worker layoffs, pay cuts, reduced pension benefits and a drag on consumption and the ability of the private sector to accept an attempted hand-off from fiscal authorities. Recession becomes the fait accompli, and the deficit/GDP ratio moves ever higher because of skyrocketing risk premiums and a plunging GDP denominator. In many cases therefore, it may not be possible for a country to escape a debt crisis by reducing deficits.

Me:  This certainly seems to be the case with Ireland, as it has for most countries trying this path to escape a debt trap. As I point out in this Weekly Standard piece I wrote, the best way to solve a sovereign debt problem is by cutting spending and boosting economic growth.


WORLD is broke ?

15,20 p.m.
New York City
Wall Street – NYSE Stock exchange

Fifteen minutes ago, Dow fell suddenly 900 points, scaring even the glamourous dogs peaceful morning walk at the high Central Park, with one of the most sudden drops ever seen in the US market.

One minute later, Dow and SP500 climbed again till a -3,6% level, closing around -3,20%, waiting for tomorrow´s new surprises.

It was said that Greece concerns over a possible debt default affecting additional countries in South Europe, has been the main driver of this panic scene.

A systemic risk once again flouring around the world economies, just in case several key european countries cannot pay their huge sovereign debt and renew therefore, their cash needs.

I am really impressed on how we forget our recent past, or how we care for things that one day after another have been there and nobody has paid any attention to.

1) HOW MANY TIMES has been said that the US PUBLIC DEFICIT is unsustainable ?

2) EVERYONE expects that one day, the US will pay its entire debt charge ? … Of course not. But this has been so, for such a long time that if one day the markets panic because of this reason I would not understand the surprise of many.

I completely agree that today´s situation or even these week´s drops in Dow and SP500 are driven by speculators playing games again. But this time, playing with entire countries such as GREECE, PORTUGAL, SPAIN or ITALY. But they play with issues that are there, that are critical and that nobody looks at them the way they deserve.

So, and as investors, how must we react to these events ?

Very simple. Ups and Downs, volatility, etc … But the riskiest thing now in markets worldwide is that this volatility is increasing heavily, and this makes extremely difficult to guess future market trends.

I strongly believe in the CYCLES theory ( I published a post in this blog with regards to this point called “CYCLING” ), but in our current market situation, even this theory becomes terribly doubtful.

SP500 was reaching maximum levels. That is true. So, a correction was expected.

But my doubt now is: Is this movement today a correction signal or maybe a once again systemic default risk ?

I really think the answer is NO. It is NOT acceptable that governments once again let the world enter into a systemic risk, so I really hope that this will only be some kind of wear correction.

Let´s see tomorrow … and the day after tomorrow … to confirm if this hope is real.

Meanwhile, it is also true that problems such as the countries PUBLIC DEFICIT is there, it has always been there, and if we get really serious with this, let me tell you the problem has not an easy solution.

Jose Luis Revilla Escudero
Chairman & CEO
WWShares, Inc
-Private Wealth Advisors-

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5 reasons why “Son of Stimulus” is a bad seed

May 26, 2010 18:34 UTC

The American Jobs and Closing Tax Loopholes Act? Really? Even by the disingenuous standards of Capitol Hill, calling the $174 billion spending package making its way through the House “a jobs bill” takes some real moxie.

Die-hard Keynesians, of course, will contend that so long as money gets pushed into the economy, how it gets spent isn’t so critical. But for a government running trillion-dollar budget deficits, at least every billion or so should count. And it’s hard to argue that this bill is optimized for job creation or economic growth.

1) For instance, the bill includes a one-year, $6.7 billion extension of the federal research and development tax credit. By not making it permanent, the credit is less likely to foster long-term investment. The bill also extends tax breaks for NASCAR and Hollywood, ensuring both Red and Blue state residents get fed their respective helpings of pork.

2) More than a quarter of the spending — $47 billion over 10 years — goes toward extending unemployment insurance benefits. Economists worry the increased availability of such assistance may reduce the intensity with which the jobless look for work and lengthen the duration of unemployment by nearly 10 percent. It’s also tough to pin down the job-creating impact of spending $63 billion to increase Medicare payments to doctors and $24 billion for higher Medicaid spending.

3) Even worse, the proposal enlarges the budget deficit. Less than a quarter of the tab is paid for, showing again just how easy it is for Congress to avoid self-imposed limits on deficit spending. And increased Medicare spending was excluded from healthcare reform so the bill could get a better score from the Congressional Budget Office.

4) The White House will argue that given the high unemployment rate, bringing down the deficit is less of a priority. But listen to what economist Carment Reinhart told the president’s deficit panel today (via The Hill):

The gross U.S. debt is approaching a level equivalent to 90 percent of the country’s gross domestic product, the level at which growth has historically declined, said Carmen Reinhart, a University of Maryland economist. When gross debt hits 90 percent of GDP, Reinhart told the commission during a hearing in the Capitol, growth “deteriorates markedly.” Median growth rates fall by 1 percent, and average growth rates fall “considerably more,” she said.

Reinhart said the commission shouldn’t wait to put in place a plan to rein in deficits. “I have no positive news to give,” she said. “Fiscal austerity is something nobody wants, but it is a fact.

5) Barack Obama’s original stimulus plan was $787 billion (though costs have pushed it up to $862 billion). While some advisers argued for $1.2 trillion, the president sided with those who believed an amount of such Brobdingnagian size would alarm financial markets — and probably voters, too. This latest legislation, combined with a $17 billion jobs bill passed in March, would put the tally at around $1 trillion, not counting interest. In due course, the math will be easy enough for the markets to understand.


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5+ questions for Matt Ridley, author of ‘The Rational Optimist: How Prosperity Evolves’

May 25, 2010 17:08 UTC

Matt Ridley’s new book, “The Rational Optimist: How Prosperity Evolves,” notices that, yes, things are getting better. And they will continue to do so as long as humans innovate.

1. People might be gloomy right now about the prospects for economic growth, but do you sense much appetite for green efforts to persuade people to accept a frozen or declining standard of living for the sake of the environment?

I sense very little appetite for green efforts to persuade people to accept frozen or declining standard of living for the sake of the environment. Recessions remind us that economic retreat or stagnation is painful, whatever the goal. When Maurice Strong says that ‘the only hope is that the industrialized civilisations collapse’ or John Holdren demands a campaign to ‘de-develop’ the United States, they mean entering permanent and worsening recession: consuming fewer goods, accessing fewer services, inventing fewer novelties, traveling less far. People will not accept less prosperity as a price for saving the world. Nor need they. My argument is that the more we intensify farming the less land we need and the more we save the rainforests. The more we access natural gas reserves, the less we will have to despoil landscapes with wind farms or biofuel plantations. The more we improve our cars, the less pollution we will emit (emissions from cars have fallen 98% since 1970). In the same way economic growth will give us the innovations to continue de-carbonising our economy: we already use half as much carbon per unit of energy as we did in the 1800s, and by mid century we may burn very little carbon. Going ‘back to nature’ would put a terrible burden on nature.

2. Is there really much of anything government can do to encourage innovation beyond the basics of enforcing contracts and maintaining order? Investment in basic research? Lower taxes on capital formation? Anything?

Government can encourage innovation, but mainly by doing less, not doing more. Of course, government money does support innovation, but that money ‘crowds out resources that could be alternatively used by the private sector, including private R&D.’ – according to the OECD. There is no evidence that government, by funding blue-sky science or in any other way, is specially good at making innovation happen. Most innovation happens through the tinkering of technologists, not the thinking of scientists. And government is poor at picking winners, great at picking losers. While it was obsessing about strategies to encourage memory chips, private individuals were inventing search engines. Even some unprofitable things like space exploration would probably have been taken up by private funders by now – just as the arts attracts private patrons. So the main thing government can do to raise innovation rates is to enforce contracts and maintain order. But if it is going to spend, then better it spend on science than on some other things.

3. How important is it to future global prosperity that globalization has allowed so much additional human capital to come online? The global brain is getting bigger, right?

Yes. In the middle ages it took decades for technologies like paper or gunpowder to reach Europe from China. Once there, they combined with other technologies like book making and iron smelting to produce new technologies like printing and cannons. That’s a typical pattern – innovation comes about by the cumulative combination of other innovations – by ideas having sex, as I put it. Nowadays, ideas can meet and mate very much faster than before, and the internet is only accelerating this process. So innovation is bound to accelerate.

4. A McKinsey consultant once told me that countries need to be subject to “maximum competitive intensity” to reach their maximum economic potential. But do you worry things are going in the other direction, toward insularity and protectionism?

Many times in history, promising bursts of openness, trade, innovation and growth have been snuffed out by the erection of barriers to the free flow of things and thoughts. It happened to Phoenician Tyre, classical Greece, Mauryan India, Ming China, Abbasid Arabia, imperial Rome, golden-age Holland. It happened to America in the 1930s, to Latin America and India after the second world war, to China after the communist take-over. Protectionism, tariffs, piracy, war, or imperial plunder – they all have the same impoverishing effect if they interrupt trade. Liberalization, by contrast, dramatically raised the standard of living of Hong Kong, China after 1980, India after 1990, South Korea versus North Korea and so on. And there are always short-term incentives pushing people to recommend protectionist or plundering measures. So yes, it remains a risk. Now that the world is globalized, the risk of somebody shutting down the whole globe is greater than it was. In the past there was always somewhere to keep the flame burning. Italy and the Mahgreb, for example, kept the flame or trade burning at a time when Arabia, France and China all turned inward in the 1100s.

5. You have five minutes with President Obama. What point would you want to get across to him as it relates to your book?

That it is precisely because there is still so much wrong with the world that it is vital to understand how powerful the engine of prosperity can be – the process of specialization and exchange through which we all work for each other. Thus the best way to improve the world is not to expect catastrophe but to have the ambition to reach for growing prosperity, that the twenty-first century will be a time of ecological restoration, not managed ecological retreat, and that the free flow of ideas, goods, services and innovations is what causes prosperity.

6. What interesting question didn’t I ask that I should have? And please answer it!

You did not ask me why intellectuals are all such pessimists. And my answer is that pessimism gets attention – from funders, from the media, from governments. Also, for reasons I do not fully understand, it sounds wiser than optimism.


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How Greek debt crisis could save America

May 24, 2010 22:21 UTC

It’s absurd. Uncle Sam is likely to run up an additional $11 trillion in debt over the next decade. But Washington only replies with minor budgetary tweaks. First, the Obama administration says it wants to freeze some domestic spending for three years. Then it creates a new healthcare entitlement program “paid for” through tax increases and unlikely spending cuts. Next up, the Obama administration creates a deficit reduction panel that not even its members think will work. And now the Obama administration wants new “rescission” authority to cut billions from congressional spending bills — excepts it’s “trillions” that are the problem. None of these measures favorably alters the budget’s perilous trajectory.

Little wonder that many observers think Washington will do nothing substantial about the exploding debt problem without some sort of financial market crisis. It is the bond market vigilantes that will come to the rescue and enforce fiscal discipline. Here is one scenario devised by the Committee for a Responsible Federal Budget:

Under this scenario, at some point financial markets or foreign lenders decide we are no longer a good credit risk, possibly due to debt affordability concerns. They conclude the United States cannot escape basic economic and financial “laws of gravity” forever. They stop buying our debt securities or demand dramatically higher interest rates due to increased perceived risk. With the sudden shift and large rise in interest rates, the economy goes into a severe recession. … Unlike the past two years, we cannot, however, borrow to stimulate the economy because the crisis was caused by excessive debt and lost confidence. … Creditors concerned with hyperinflation or even default will not buy U.S. debt.

Presumably, that would be the moment when Democrats unveil their “emergency fiscal plan” to calm markets through a massive value-added tax. It would be TARP all over again. But the costs would be many magnitudes higher. But I think the conventional political wisdom is deeply flawed. First, Americans intuitively understand that there is something deeply wrong about running trillion-dollar budget deficits as far as the eye can see. Maybe deficits didn’t politically matter in the 1980s, but debt as a share of GDP was only 50 percent. Now it is 60 percent only its way to 100 percent in a decade.

This is why we didn’t see a second trillion-dollar stimulus. Although plenty of liberal economists though it was needed, even congressional Democrats understood that Stimulus 2.0 would not fly with voters freaked  by all the red ink.

Second, America doesn’t need a domestic debt crisis. Voters can easily track the one happening with Greece and the EU. Runaway spending. Overpaid civil servants. A loss of confidence. Trillion-dollar bailouts. Falling standards of living. National decline.

That all adds up to a pretty compelling case for action in America. And Republicans (along with fiscally responsible Democrats) who want to see true spending reform — of the sort outlined in Rep. Paul Ryan’s Roadmap for America — would do well to frequently mention Greece on the campaign trail. Kind of a “don’t let this happen to us” sort of thing. They should also note that lower spending plus smart tax cuts to boost growth are the best recipe for restoring fiscal order — not massive tax increases which politicians will only divert to more spending.


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New Obama budget knife a dull blade

May 24, 2010 19:41 UTC

If I was a U.S. taxpayer or holder of U.S. Treasuries, I would not take much comfort from President Barack Obama’s proposed Reduce Unnecessary Spending Act. Points for effort, I suppose. But fast tracking and streamlining the current fiscal process that allows the White House to submit proposed budget cuts from spending bills would do little.

1. As the Heritage Foundation notes, since 1990, presidents have proposed clawing back only $20 billion of legislated spending, with Congress approving just $6 billion of these rescissions. That’s just .01 percent of all federal spending.

2. A study by Douglas Holtz-Eakin, former head of the Congressional Budget Office, found that an even tougher measure, a line item veto, has a poor track record — at least at the state level. (Here is a good summary of research on the topic via the NY Fed.)

Holtz-Eakin noted that in studying the effect of line-item vetoes at the state level, he found they produced mixed results. He found no major differences in spending between states where governors had this power and states where they did not.

3. Some two-thirds of the budget — mandatory entitlement spending would be off limits.

4. Such expanded powers might work in reverse. It would give the White House power to cajole Congress into supporting its spending policies by threatening to cut the pet projects of individual members.

5. To be fair, this new proposal is just another step in controlling spending – not a solution in and of itself. Obama has already proposed a temporary freeze in some domestic programs and created a deficit panel to suggest more comprehensive solutions. The move also keeps the danger of deficits firm in the public consciousness, though Europe’s woes should be reminder enough. But the White House must be careful about deluding the electorate into thinking that current efforts by the government to trim waste will be sufficient. Investors in Treasuries surely expect bolder fiscal action.


An easy way to rout government spending would be a 10-year surge of inflation. For example, between 1973 and 1982 inclusive the US experienced an 85% aggregate increase in the CPI, which translates into sharp cuts in national debt and entitlements spending. Moreover, a national referendum is not even required. More at:

http://wjmc.blogspot.com/2010/05/student -recently-remarked-to-me-that.html

Thank you for the opportunity to comment…

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Mind the (budget) gap

May 24, 2010 19:33 UTC

This Strategas chart shows just how badly things have gone off track:


The danger of small banks

May 24, 2010 17:59 UTC

Binyamin Appelbaum of the NYT tries to simply things for me:  ”Broadly speaking, there were two ways for the federal government to respond to the financial crisis. The Obama administration chose more regulation.”

And that is bad news because regulators and their political overlords like bailouts with taxpayer money rather than market discipline. But shrinking the banks, while superficially appealing, is no magic bullet — as this Italian study argues:  ”A world with only small and domestic banks is no safer. The key benefit of multinational banks – being able to mobilise funds across countries – could still be extremely useful for maintaining stability in times of distress.”

Why Larry Summers may not make it until 2011

May 24, 2010 17:09 UTC

David Warsh dismisses reports that Larry Summers may stick around longer than many in Washington expect:

Defense is one possibility. Who wants to be seen as a lame duck while there are eight months to go on the clock – including the mid-term-elections? Offense is equally likely. No doubt the president would like to keep his chief economic adviser for another eighteen months.  Perhaps the administration is lobbying Harvard.

Summers’ other opportunities weigh in the balance: a successful marriage to Harvard English professor Elisa New (between them they have six children, all from previous marriages); the prerogatives that come with being one of Harvard’s fewer than twenty university professors, including the freedom to teach precisely what and where he wishes (or not at all); membership on the executive committee of an economics department that is one of the three or four best in the nation; and, of course, the famous day-a-week of consulting time that Harvard professors are permitted to spend in the moneyed world.


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Will seniors nix spending cuts to fix deficit?

May 24, 2010 17:08 UTC

My pal Bruce Bartlett says U.S. demographics support his position that America will need massive tax increases rather than massive entitlement cuts to get its fiscal house in order:

In short, what we see is that over the next ten years the percentage of the population that benefits from Social Security and Medicare is going to rise significantly and that this group of the population votes in higher percentages than those that pay for these programs. And those that will, over their lifetimes, bear the heaviest burden of paying for entitlement programs–the young–vote at the lowest rate of any age group.

Me: He might well be correct. Then again, most of the reform plans I have seen pretty much leave the current system in place for those who are, says over 50 or 55. I also don’t understand why a broad-based tax increase would be any more palatable to people than getting their expected benefits cuts. Not to mention that getting spending under control is a better way to restore solvency than tax hikes.