three bears metaphor killed

[Jim Devine <jdevine@xxxxxxxxxxxxxxx>]

The following is my effort at journalistic op-editorializing. It has clear
limitations due to the limited subject matter, while I added a ending that
suggested what I consider to be an impossible possibility. It's been
rejected by the L.A. TIMES and the PROGRESSIVE's news service. Does anyone
have any ideas about where to send it? does anyone have any criticisms or
comments?

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The Goldilocks Economy and the Three Bears.

Summary: The cheering of the U.S. economy's success should be tempered by
the fact of private debt accumulation.

by

James Devine

March 7, 2000

Many economists describe the U.S. economy as the "Goldilocks economy," one
that isn't "too hot" or "too cold," but "just right." Though the boom on
Wall Street is part of this happy circumstance, most people should see the
Main Street economy as more important. The economy (as measured by gross
domestic product, GDP) has grown rapidly, at about 4.3 percent and rising
in 1999, despite the Federal Reserve's (the Fed's) hiking of interest rates
steadily during the last 6 months. The economy's growth spurt has meant
more hiring, driving unemployment rates below those seen in the last
quarter-century, to about 4.1 percent of the labor force. Economists had
predicted that such low unemployment would inevitably spark an inflationary
explosion. But ignoring the rise in oil prices, the inflation rate has been
low and stable. Finally, we've seen the economy's boom allowing increased
tax revenues, helping the U.S. federal government to run a budget surplus
of $124 billion in 1999. This allows the government to "pay down" its debt.

Many forget, however, that in the Goldilocks story our protagonist engaged
in home invasion, theft, and property destruction. That is, it was costly
to get where we are today, undermining the old economy of job security,
safe pensions, and blue collar workers earning "middle class" wages. But
even if we can forget this history, we cannot ignore the story's
dinouement: the three Bears came back, chasing Goldilocks out of their
cottage. Similarly, the "Goldilocks economy" faces the advent of Bears: the
U.S. economy is living on borrowed money. We don't know when or if the
three Bears will arrive. But their coming could cause a stock-market slump
-- or be encouraged by one.

Before discussing the nature of these beasts, note how times have changed:
we're no longer concerned with the government's debt, since government now
runs a surplus. But other kinds of debt represent more serious problems,
since unlike the U.S. federal government, individuals and private companies
can go bankrupt, forcing them to slash their spending, while creating
problems for creditors. This can break the current boom and delay recovery.

Papa Bear is the immense U.S. trade deficit. The high international value
of the U.S. dollar has largely resulted from the U.S. boom in a generally
stagnant world (since we buy their stuff but they can't afford to buy as
much of ours) and from money flowing in seeking a "safe haven" in Wall
Street. The high dollar may sound like a patriot's dream, but it has priced
U.S. exports out of the world market and has allowed us to buy imports in
mass quantities. This over-spending, which intensified during the Clinton
years, has raised the U.S. debt to the rest of the world, magnifying the
U.S. status as a net debtor nation. Credit market debt to the rest of the
world rose from about 10 percent of GDP in 1990 to over 22 percent in 1999.
In turn, this encouraged net property income payments to the rest of the
world to double from 1.4 to 2.8 percent of GDP.

Unlike Mexico or East Asian nations, which have faced external financial
crises in the past, the world allows the U.S. to pay its debts in its own
currency, since the dollar is currently the world currency. The problem is
that the rising external debt and interest payments that result from
sustained trade deficits encourage confidence in the dollar to fade in
favor of the Euro and the Yen, and a move away from the dollar standard.
The Fed's Alan Greenspan may want to prevent a steep fall in the dollar's
value by raising interest rates even more -- but that encourages recession.
Alternatively, he may allow the dollar to fall as confidence wanes: this,
however, would mean a rise in import prices and a revival of inflation.

Consumer spending (and its flip-side, low personal saving) is powering the
U.S. boom, but Mama Bear approaches. This is the tremendous amount of
borrowing that U.S. consumers are doing, getting deeper and deeper into
debt: consumer debt rose from 86 to above 95 percent of after-tax income
between 1990 and 1999. In 1999, household interest payments and the like
have risen back almost to the record level hit in 1990. This rise occurred
despite the fact that automobile lease payments aren't counted as debt
service even though they play the same role. Whether one borrows or leases,
skipping payments leads to repossession.

Why has consumer indebtedness risen? Following the famous "wealth effect,"
some are borrowing on the belief that the stock market is going to stay
high forever. Margin debt to pay for stock-market speculation is also
rising steeply, encouraging Greenspan to worry. But most are borrowing
because they are having a hard time making ends meet, given the general
stagnation of their incomes.

All this threatens to encourage bankruptcies at a time when Congress has
passed a new tough-on-debtors bankruptcy law. (We should hope that Clinton
vetoes the bill, as he has promised.) Shocked by rising interest rates,
revived inflation, a slowdown in growth, or a stock market slump, consumers
are likely to retrench and cut back on spending, encouraging a deep
recession. In fact, this may happen simply because consumers decide that
it's prudent to save more than the 2 percent of income, the current norm.

Baby Bear is corporate debt. After the recession of 1990, corporate debt
fell because business has been quite profitable. But since 1994, corporate
debt has been soaring, attaining 45 percent of GDP in 1999, even higher
than its previous peak of 43 percent in 1990. Profit rates have stopped
climbing, so that many companies have started borrowing again to finance
expansion of their operations. They also borrow to buy back their own stock
(encouraging the stock market to be high), which means that CEOs can cash
in their stock options in a lucrative way.

Debt acquired to finance expansion is no big problem as long as the rest of
the economy is doing well. But if the economy slumps, it encourages
businesses to "down-size" their workforces and to cut wages to restore
profitability -- rather than investing in new plant, equipment, and
software. Corporate debt thus represents a barrier to recovery, making the
Fed's job more difficult. Lowering interest rates when households and
corporations are saddled with extreme debt encourages refinancing of old
debt (as it did in 1991-92) rather the new spending needed to spur recovery.

Excessive private debt may push the U.S. into the kind of situation now
faced by Japan, where half-hearted efforts to "jumpstart the economy" using
public works have failed, driving well-known economists (such as M.I.T.'s
Paul Krugman) to call for the deliberate creation of inflation to evoke
recovery. This would have a depressive effect on the rest of the world,
since the U.S. has been stimulating its markets by excessive importing.

But can Goldilocks clean up her act, avoiding ursine incursions? If the
U.S. encourages the rest of the world's economies to recover quickly, that
would allow the U.S. trade deficit to shrink, as they buy more of our
goods. If the Fed allows recent rises in real wages to continue, that may
avoid rising consumer indebtedness and bankruptcy rates. In fact, the
recent dip in the bankruptcy rate seems connected with the cyclical upswing
in real wages. But high wages are precisely what Greenspan seems to fear,
since he has used labor-market tightness as an excuse for hiking interest
rates.

Gradualism helps: a gradual decline of the dollar's value moderates any
inflationary shocks, as does gradual attainment of consumer and corporate
sanity about debt. Finally, a gradual fall of the stock market, as opposed
to a sudden fall, will also moderate the end of the Goldilocks economy.
Perhaps, as in some versions of the story, Goldilocks and the three Bears
can achieve a compromise!

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Jim Devine jdevine@xxxxxxx & http://clawww.lmu.edu/~JDevine
"It takes a busload of faith to get by." -- Lou Reed.