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Diplomacy in Action

The Role of the Economy in the 2012 Elections

Thomas Mann, Senior Fellow, Brookings Institution
Washington, DC
September 28, 2012

9:30 A.M. EDT


MR. MANN: Good morning. I hope you all are figuring out how our politics works. I’ve been – I’ve spent over 40 years and I’m still puzzled. But let’s see if we can’t beam in on the economic context of this election.

We begin with the reality of 2007-2008, the worst financial and economic crisis since the Great Depression of the 1930s. It’s easy to forget that, since it’s four years since it happened and the worst of it was experienced, but this is something that was felt virtually around the globe. And what is fascinating is that four years after, many countries continue to struggle in the aftermath. Even countries that seem to have done pretty well at the time, like China, are experiencing their own problems. But perhaps that’s most evident in Europe, where the crisis of the euro has caused probably more economic uncertainty for the world than any other fact. But Europe has problems beyond the euro. Many of the countries have had really very stagnant growth. And some, like Britain, have fallen into a double-dip recession.

Which brings us to the U.S. We took it very hard. The forecast about the time Barack Obama was elected president was for about a – on an annualized basis, in the fourth quarter of 2008, a 4-4.5-5 percent decline in the Gross Domestic Product. About a month, six weeks later we learned that it was actually 9 percent. It was a stunning drop in economic activity. We saw month after month of a loss of jobs of greater than 800,000. So Barack Obama inherited a mess when he was inaugurated. And frankly, it was a struggle, and has been a struggle, before and after his inauguration, to deal with the problems.

The first months of his Administration, the momentum from the recession continued with about 850,000 jobs lost in the first couple of months. About six months into his term, four months after an initial economic stimulus package passed, we began entering positive territory. The job losses stopped and we began getting some growth in the economy more generally. But because of the severe drop, the unemployment ended up much higher than certainly any economist advising the President-elect imagined, and we managed to get up near around 10 percent unemployment, which for us is just astounding. It’s not something we ordinarily experience. That unemployment rate has come down, but it’s – it really has been uneven in its descent. There was some hope of a quick v-shape recovery, but that was soon set aside.

What we found is that, beginning in the middle to late 2009, the private sector started producing net new jobs, but the drag was on the public sector because state and local governments were battered in their budgets because of declining revenues and they laid off hundreds of thousands of public employees – police, fire, officials, and teachers in particular. So gradually over time, you began seeing a modest decline in unemployment. The rate is now 8.2. But we’re still not producing enough jobs to absorb the new entrants into the marketplace as well as bring the rate of unemployment down.

So it’s been a difficult period. At times, we’ve had over 200,000 new jobs added, but then it drops back to 50 or 60. And sometimes the rate goes down even though the number of new jobs added is miniscule, the reason being people get discouraged, no longer look for work, and therefore the denominator in that calculation declines as well.

The level of economic growth has varied. We’ve gone above 3 percent in some quarters, but we’ve been below 1 percent as well. We recently had a re-estimate of the second quarter growth in this year downward from 1.7 to 1.3 percent. That was a discouraging sign, to be sure. About 0.2 percent of that was from a severe drought in the Midwest that led to a dramatic decline in agricultural harvesting. Nonetheless, it’s been disappointing, certainly, to those who realize we need at least 2.5 or 3 percent growth to really be on the road to full recovery.

Income is an important consideration in all of this. And frankly, the – we’ve gone through not just three and a half or four years of modest to no real wage increases, but we’ve gone through a couple of decades in which working middle-class families have seen real wages stagnant. We’ve seen a dramatic increase in the level of economic inequality. The harvest from growth in the income has been enjoyed mainly by the top percent of households in America. And this in and of itself causes all kinds of problems, not just in the economy but in the political system.

Now, the final element of the economy that I’d mention to you is the whole issue of deficits and debt. There is a lot of sort of misinformation among American voters about the nature of deficits and debt in America. It isn’t a matter of sort of inexorable long-term movement toward larger government and higher debts. We’ve gone through different periods, swinging one way and the other. We had deficits grow in the early 1980s, partly as a consequence of a very severe recession that we had at the beginning of that time, but also a consequence of policies cutting taxes and some other increases in spending. And we wrung our hands for many years about deficits.

But thanks to the initial President Bush, Bush 41, Herbert Walker Bush in 1990, and then President Bill Clinton in 1993, we had two deficit reduction packages that passed, which included a modest increase in marginal tax rates at the upper level, which was then followed by a period of extraordinary growth coinciding with the technology boom. But we actually turned those deficits into surpluses in the late 1990s so that when President George W. Bush was elected president, he had a surplus, and we projected surpluses accumulating to $5 trillion over the next decade. Alas, they didn’t develop. Not to worry; Alan Greenspan feared we’d pay down our entire national debt and wouldn’t know what to do with the remaining funds. We’d have to buy stakes in businesses, and that would be a bad thing.

A series of policy changes, including substantial tax cuts in two rounds, two wars, the building a homeland security apparatus after the 9/11 attacks, quickly turned those surpluses into deficits. And then, of course, the massive economic collapse of 2008 immediately ballooned the deficits to over $1 trillion a year and gradually increased the overall level of debt, getting people to focus very much on deficits. But it’s important to understand it wasn’t that long ago we had surpluses. There’s nothing inevitable about this. It’s a matter of two things: one, getting the economy to grow again, and two, taking policy steps with regard to both revenues and spending that will bring the budget into balance. And it will be a painful process, but I think ultimately we will do that.

Now, if you look around the world, you will see that most governments are thrown out of office during this period of time. When the economy’s bad, the rule of democratic societies is throw the government out; they’re bums, they haven’t done a good job. And that’s been the experience in the democratic world over the last four years. The exception really is Canada, where the Prime Minister has maintained his position in office. But Canada’s come – came through that financial crisis in much better shape than other countries.

But therefore, Barack Obama entered the reelection campaign season as a bit of an underdog just because of the reality of the economy. And Republicans felt this was a wonderful opportunity for them to get back into the White House simply on the notion of this Administration has not delivered, you’re not better off than you were four years ago. Throw him out; he’s in over his head, and let our team take over.

Now, political scientists and economists have all kinds of ways of developing forecasting models based on different economic indicators, and one other factor, which is, is there an incumbent president running for reelection? It turns out that latter is really an advantage, absent a recession or depression, that presidents are usually given an opportunity to serve a second term, and most are successful.

And if you look at the specific economic indicators and the history of them, you realize it’s more the trajectory of the change than it is the absolute level in the economy. Are things getting better? Is there a sense that we’re going to get out of this at some point? That’s number one. Secondly, if you really ask questions of voters – who’s responsible for this dreadful economic situation – by a large margin, more pick the past President, George Bush, than the current President, Barack Obama.

So what the baseline models suggest is that this will be a very close election, and that was the presumption under which we were operating. There were – the economic news was mediocre, but it wasn’t devastating. It was there was no dramatic new increase in unemployment. There was no double-dip recession. There have been some modest income increases. And we look around now and we see the worst part of the economy, the housing market, appears finally to be coming out of its long slump. And there’s some indication of Americans feeling more – a bit more upbeat about the economy.

So anyways, the baseline would be a very close election. And certainly, Mitt Romney, the nominee of the Republican Party, presumed that his entire campaign would be based on the referendum device. That is, surely we can do better than this, and I have the experience in the private sector and the business world of delivering on that.

The reelection strategy of the President was to not have it be a referendum on how we are now, but instead a choice – a choice of candidates, a choice of parties, and a choice of agendas. And what we have seen in the period from the time at which Romney pretty much locked up the nomination, continuing through the summer and the two party conventions and the aftermath, is that the choice question has come to overwhelm the referendum question. And on each element – the choice of candidates, the choice of parties, and the choice of agendas – the incumbent President and his Democratic Party have come out on top.

Romney has very high unfavorable ratings, partly as a consequence of him not being a natural politician. But much more importantly, he was defined to the public through Obama advertising through the summer. But I think it’s fair to say that the release of the purloined video of his ruminations to donors that is called “The 47 Percent” has had a really quite devastating effect and is being used in paid advertising by the Obama campaign. So on a strictly personal grounds now, the President has opened a lead, even on managing the economy, over Mitt Romney.

On the party side of things – and I’ll wrap up here in just one minute or so – on the party side of things, what you have to understand is we live in era in America of intensely polarized political parties. They’re acting like tribes and not traditional parties. But the Republican Party – and that’s what the book about It’s Even Worse Than It Looks is about – is the Republican Party in particular has moved sharply to the right while the Democratic Party after Bill Clinton has been roughly center-left and more problem solving and pragmatic while the Republican Party has been more ideological, with a – and as a result they have declined in their own standing and popularity. So being a Republican now forces you to be the party in which Michele Bachmann ran for president, and Herman Cain, and Newt Gingrich. And it’s not a very attractive element, and which Congressman Akin of Missouri got into a rather confusing and harmful discussion about forcible rape. In any case, as a result of that, right now the Democratic Party as party has an advantage over the Republican Party.

And finally, the agenda. It turns out Romney, by picking Ryan, in effect embraced a really quite radical agenda, which called for major additional tax cuts and then huge reductions in spending immediately for programs like Medicaid and Food Stamps, but eventually, after a decade or so, changing the nature of the Medicare program, which is a very popular one. And right now, Obama is being advantaged as a consequence of Romney’s identification with that budget and changing Medicare and resisting any tax cuts for the most wealthy families.

So it’s less a referendum. It’s on the economy more a choice between candidates, parties, and agendas. And right now, that has put Obama in the lead nationally probably by about 4 to 5 percent, and in the lead in every swing state that’s being heavily contested, with the possible exception of North Carolina. But even the recent polls there show a modest 2-point lead for Obama. And he’s increased his lead in critical states like Ohio. Colorado, where you’re going for the debate, is a very competitive state, but recent polls, again, show Obama ahead there.

So the question becomes: Can the debates, which are the only scheduled events that, other than paid political advertising or some unanticipated event, could have any change in the dynamic of this election? It’s especially difficult because virtually all voters have made up their mind already and have been pretty solid – probably 93, 94 percent of the electorate. There is a group of undecided voters, but it’s important for you to understand they are not undecided because they’ve been weighing information between the two candidates and their parties and their agendas and just can’t make up their mind. It’s rather because they’re so little interested that they have almost no information about the candidates, and they’re the last to hear about a gaffe, about an international event, about a debate. So it will be hard for the debates to move any undecided voters. The real remaining issue then becomes the relative success in mobilizing one’s voters, and that’s where many of the efforts of the remaining campaign days will go to.

Full stop, and your questions.

MODERATOR: All right. As we did yesterday, please wait for the microphone to come, and we’ll start here on the left side, please.

QUESTION: Good morning.

MR. MANN: Good morning.

QUESTION: My name is Kola. I work with Galaxy TV in Nigeria. I’d like to ask you to tell us what is actually responsible for the fluctuation in the American economy. And how will the current state of the economy impact on these elections?

MR. MANN: Well, we know what was responsible for the initial decline, and we know that our move out of that trough was in large part due to a very significant stimulus package, a pure Keynesian economics that included tax cuts and spending that stretched over about a two year period. It turns out that – however, that the size of the package, which for our country was large, unprecedented, was actually only large enough to compensate for the decline, the negative outlays in state and local governments. So it really wasn’t that big, but it was big enough to help turn the economy around.

And since then, there have been many efforts and struggles to provide additional stimulus. We did so at the end of 2010 with a temporary payroll tax cut and extending unemployment benefits, and we got some boost out of that. But I think it’s fair to say that the broad consensus – broad sentiment, agreement, a supermajority of professional analysts, nonpartisan analysts, is that the sort of decline caused by the great leverage, the interest burden taken on by individual citizens, largely because of the declining value of their homes but other reasons as well, just was a drag on the economy. And without getting the housing market back up and running, it was very difficult to get people in a position to purchase commodities again, that is to demonstrate demand, which would get business to rehire, which then would put us into a virtuous circle.

So I think it’s inadequate stimulus and its failure to deal quickly and effectively with the housing collapse that has kept us from having a linear increase. But remember, there were also global effects coming on. I think the scare from Greece and Spain in Europe and the chaos there, the slowing growth, and therefore the pressure on – difficulty for us in selling our exports around the world all had a bearing as well.

MODERATOR: All right. Next question, over here. I’m going to stay on the left side.

QUESTION: Hi. My name is Sergii from Ukraine. (Inaudible) is considered the modern crisis is the crisis of Bretton-Woods financial system, when the money began to produce money and the United States dollar became the worldwide reserve currency. Just the system came to an end, wherein the money producing money and producing money and et cetera, et cetera. So the way out of this crisis must be to reconsider and to re-establish the whole financial system of the world, to give it new principles of action. I don’t know. Is this false or true?

MR. MANN: Probably more false than true. There – if Ron Paul were here, he would tell you we have to hogtie the Fed, go back on a gold standard, and live happily ever after. There are strains, obviously, in the global financial system. There are all kinds of imbalances that exist that have to be righted if sort of perverse incentives and forces play out. So we – I mean, we need a lot of change in the international financial regulation, to be sure. But I would say thank God for the Federal Reserve and its initiatives, starting under President Bush and then continuing. The freedom and flexibility of the Fed to prevent absolute financial freeze that could have put us and the globe in a depression rivaling or exceeding the 1930s was just exceedingly important. And therefore, I’d sort of be cautious about efforts to constrain monetary authorities.

And with our political gridlock keeping us from pursuing fiscal policies that would be fully responsive to the problems we face, we should thank ourselves that we had reasonably free and inspired, wise monetary policies and interventions that I think compensated for some of that. But obviously we need change in the whole financial structure. I mean, if you look at what’s happened as far as banks and financial institutions and decline of capital requirements and the production of new financial instruments that went unregulated and serve no public good but did a hell of a lot of damage, I’m with you entirely on that.

QUESTION: Do you see the ways to establish these new relations, these changes that are --

MR. MANN: Yeah.

QUESTION: -- because if you have no – a relation in the USA, then the company could go to Belize or Cyprus and just to be some off-coast regulation and free regulative system (inaudible).

MR. MANN: Exactly. The Dodd-Frank financial regulation bill tried very hard to deal with this. And the international negotiations underway to set new standards are an important response to it as well. It’s not there yet. It’s not sufficient. We’re feeling our way. The financial institutions are fighting back aggressively to maintain their flexibility. But I do believe we’re making some progress.

MODERATOR: We’re going to go over here to the right side. Please, Murtula.

QUESTION: Thank you very much. My name is Murtala. I write for Radio Savannah in Ghana. Yeah, I want to know if the growth of China economically is a threat or an opportunity to America.

MR. MANN: I’m sorry. I didn’t --

QUESTION: Is the growth of China --

MR. MANN: The growth of China. I’m sorry.

QUESTION: Yeah. It is a threat or an opportunity for America?

MR. MANN: Listen, I think all in all it’s a good thing. We are not in a zero-sum game with the rest of the world or with China. And economic growth that raises the standards of living and sort of productivity, education, and well-being of citizens around the world is a plus to us. We’ve had some imbalances in our relationship that – and – that led each of us to distort what we ought to be doing. We were saving too little, running large external deficits, and China was not investing enough in its own domestic consumption. And so straightening out those imbalances is important. But for goodness sake, the growth is good for the globe, I believe.

And it – to those who see us in a war – economic war – with China, and you pick some of that up on the campaign trail these days, but it really is responding to concerns of sort of blue-collar working people in this country who have lost opportunities for well-paid jobs and believe they’re sitting over in China. And that encourages our politicians to use some threatening language with China. But basically, we have a lot of mutual interest. Mind you, China will grow to be a major power in this century. And there will be tensions inevitably with China and its neighbors in East Asia and South Asia, to be sure. And the United States will play a role in that. But to say that we are in a big competition with China and a struggle with China and need to contain China, I think is very wrong – very wrong.

MODERATOR: Okay. So you have several questions still coming, and hopefully time for one-on-ones. We’re going to go to the back, on the left side.

QUESTION: Kole Chashule from Den Weekly in Macedonia. Two questions: First related to this one with China. Do you think that the fall of the euro and the whole crisis in Europe has helped America, especially by strengthen the dollar worldwide? And a second question: You said the economic crisis here in the U.S. more or less – what – who is to blame for it or what is to blame for it. Both candidates, at this point, they don’t have, like, a magic trick yet. So you think more or less the debate now is about who can sell himself better to the public or ideas?

MR. MANN: Campaigns aren’t very constructive in laying out great new ideas or engaging the public in that kind of conversation. Sort of my own view is that there are – roughly speaking, there are two approaches. Romney, because of the nature of the Republican Party, has pretty much embraced the ideas of substantial additional tax cuts; of a diminution in – further diminution in the regulation, particularly in the environmental and financial arenas; and efforts to substantially shrink domestic government in the U.S. It’s not an original thought, a set of thoughts. It’s been around for a long time.

Obama’s approach is the deficits are worrisome but manageable; that we need, in the short term, additional investment in infrastructure – clean energy, education; but we need to couple it immediately with policies regarding taxes and spending that will go into effect once the economy regains its momentum, that the great advantage for America – we have two. One, as your first question suggested, we have a flight to the dollar. Our effective interest rates are close to zero. This is a wonderful time to use borrowed money to create real investment that will pay off over the long term. And he believes that’s an important thing to do.

The second is we’re still probably the least regulated country as far as businesses having an opportunity to start up and go to scale. Innovation is a central part of the American success over time. And if we can get our immigration policy straight to allow all these intelligent and well-trained non-Americans who come to the U.S. to study to stay and build their companies, we will be doing just fine.

But I really feel now there is this – by the way, the policies to deal with the deficits and debt are very straightforward. I mean, basically, we have traditionally spent 19 to 20 percent of GDP on our federal government for years and years. And we’ve taken in revenues usually just a little short of that. But that’s the rough picture. Right now, our spending is about 25 percent of GDP and our revenues are about 15 to 16 percent, okay? We also have an aging society, and we’re going to get the retirement cohort sort of moving in and accessing Social Security and Medicare. Those are just realities. And so the challenge is to deal with those two problems.

We are going to move to 22 to 23 percent of GDP because of the demographic changes, and so the trick is to bend the trajectory of healthcare costs, which will rise otherwise and bankrupt the whole society. We’ve passed 17 percent of GDP in expenditures on healthcare, at least double the amount of most comparable democracies, industrial democracies, and we simply have to do that. It’s not a matter of shifting costs; it’s a matter of taking money out of what would otherwise be spent for healthcare. And there it means a revolution in the way we deliver and reimburse healthcare services.

The other is we have to raise taxes. It’s just the reality. The question is will we do it at the right time and do it intelligently so as not to create disincentives to investment and growth. It would be good if we could have a progressive consumption tax. Sure, it’d be good to have on balance a broader base and lower rates and a simplified tax code, but the bottom line is we need 22 to 23 percent of our economy and revenues to be able to sustain the retirement of the baby boomers.

MODERATOR: All right. I think that’s actually going to be all the time we have for group questions and answers.

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