If there is one thing on which almost all Americans agree it is that the performance of their economy has been disappointing: growth is too slow and joblessness is too high. A large proportion of the electorate is prone to blame the president for its disappointment. It is a wonder that, in these circumstances, Barack Obama still has a chance of winning. Nor is this state of affairs surprising. Early in February 2009, I opened a column by asking: "Has Barack Obama’s presidency already failed?” My argument was that "doing too little is now far riskier than doing too much”. The president did indeed act, but not decisively enough.
That was the past. Now consider the future. I suggest that four economic challenges are particularly important: demand, supply, inequality and fiscal solvency.
Economists on both sides of the divide admit the weakness of private demand, while disagreeing on the cause. My difference from both is that I believe this weakness is likely to prove structural, not cyclical.
The point can be made by looking at sectoral financial balances (the difference between sectoral income and spending, as shares of gross domestic product). The US has long run deficits with foreigners. Since the crisis, these have come down, modestly. If foreigners run surpluses, domestic agents must run deficits. In the post-crisis world, households and businesses have also run surpluses. This has left the government running the deficits.
Can this situation change without causing recession? Not easily. Suppose that foreigners continued to run a surplus of 3 per cent of GDP, while the fiscal deficit fell to 3 per cent of GDP. The US private sector would have to be in balance. In the second quarter of 2012, it ran a surplus of income over spending of 5 per cent of GDP. To move into private sector balance, while sustaining demand, either household spending or business investment must soar. The former requires a surge in credit. The latter requires a rise in investment to shares of GDP higher than in the stock market bubble of the 1990s. The former then is undesirable; the latter is unlikely.
The second challenge is supply. In the long run, the determinant of growth is rising productivity. The US is the most productive large economy in the world because it has been the best at developing and applying new technology. On this, two points need to be made. The first, as I noted in a column on October 2, is that productivity growth seems to be slowing, though it remains good by the standards of other high-income countries. The second is that in a world in which the connection between innovation and science is so close, much depends on government support for the latter. The US government has played a seminal role in innovation: the internet is just one example.
The third challenge is inequality. Here changes are profound. Apparently, 90 per cent of US income gains since the end of the recession have accrued to the top 1 per cent of the income distribution. As the Congressional Budget Office notes, "real (inflation-adjusted) mean household income, measured after government transfers and federal taxes, grew by 62 per cent between 1979 and 2007. Over the same period, real median after-tax household income grew by 35 per cent.” This divergence has two implications. First, changes in GDP fail to measure those in economic wellbeing across the population. They measure changes at the top, instead: since the top 20 per cent earns 60 per cent of market-based income and the top 1 per cent earns far more than the bottom 40 per cent, that is obvious. Second, to the extent that a child’s opportunity depends on the resources of its parents, the result will be cumulative disadvantage. The more important human capital is, the more powerful this must become.
The final issue is fiscal solvency. Peter Diamond, Nobel laureate and MIT economist, argues that the US has an unemployment crisis and a public debt problem. I agree. Cutting fiscal deficits is not the urgent task many assume it is, for two reasons. First, as argued above, it cannot be done without risking a collapse in demand and then, possibly, a fiscal deficit almost as big as that before, but at lower levels of activity. That is what it means to be in a liquidity trap. Second, there is next to no risk of a significant rise in interest rates on US treasuries, unless there is a strong economic recovery. But that would eliminate much of the fiscal deficit, as revenue recovers and spending falls. The big solvency issue is spending on healthcare, where the challenge is cost inflation.
Which of the candidates seems to recognise these issues in a sensible way? My view is that Mr Obama’s vision is inadequate. But Mitt Romney is George W. Bush reheated.
Mr Obama does not offer a sweep of reforms, which might reignite the dynamism that lifted most boats in the mid-20th century. Probably, that is just too hard. But, as the Tax Policy Center argues, it is impossible to look at Mr Romney’s proposals -- reductions in marginal income tax rates offset by unspecified reductions in tax expenditures -- without concluding that they "would provide large tax cuts to high-income households, and increase the tax burdens on middle and lower-income taxpayers”. In an economy with surging inequality, this would make the underlying problem worse.
Given Mr Romney’s commitment to large increases in defence spending, the outcome would surely be a large rise in structural fiscal deficits. Republicans have proved much less hostile to deficits in practice than in theory. Tax cuts are their true fiscal religion. The good side of this is that the US will need those deficits, for some time. The bad side is that such policies are more likely to generate a brief expansion than solid growth.
Republicans believe that the key to performance is less regulation and lower tax rates. Yet a shift from rates of 35 per cent to ones of 28 per cent is unlikely to have a noticeable effect on aggregate performance. Yes, taxes matter. But the view that they determine economic performance on their own is certainly wrong.
The issues go far beyond economics. Divides over social and foreign policies are self-evidently profound. But the economic choices are also important. Americans have a choice between a man with modest ambitions and someone determined to double up on the fiscal and financial policies of the pre-crisis era. Mr Romney, like the Bourbons, has learnt nothing and forgotten nothing. What would be the consequences of such a repetition? The world may be about to find out.
Copyright The Financial Times Limited 2012