With unemployment at a record high and the economy going from bad to worse, Joe Biden was forced to admit the obvious on Meet the Press on Sunday. "Everyone guessed wrong," he said about the impact of the administration’s economic stimulus on the American economy. Biden’s admission comes on the heels of one made by President Obama only a few days previously. “We are still in the middle of a very deep recession,” the president observed upon returning from his latest oversees trip. He then added, “It's going to take a considerable amount of time for us to pull out of.”
In many ways those are remarkable admissions, because not long ago the president assured us that he and his team have taken steps to prevent the present situation from taking place. The mammoth $787 billion stimulus package, the largest single bill ever passed in American history, would turn the ailing economy around, we were told. In an address he gave just days before his inauguration, Obama asserted that the measure would “likely save or create three to four million jobs.” The president-elect went on to say that his plan would “revive our economy, create jobs, and lay a solid foundation for future growth.” But to avert the impending economic disaster, it was essential that we act fast, “It's not too late to change course, but only if we take immediate and dramatic action.”
Following the inauguration, the president’s economic team launched a massive PR campaign to force the stimulus’ speedy passage. Christina Romer, Chair of the Council of Economic Advisers, warned that without the stimulus the unemployment could go as high as 9.2 percent. Larry Summers, former Treasury Secretary and Obama’s chief economic guru, claimed that the economy would start improving “within weeks” of the stimulus plan being passed.
Objections to the size of the bill and the way the money would be disbursed were quickly brushed aside. The urgency of the moment was simply too great to waste time debating details. The measure had to be implemented without delay, it was said, or the economy would collapse. The legislation was rushed through Congress with virtually no debate and the president signed it into law on February 17.
In the four months since, the economy has progressively worsened. Larry Summer’s prediction about the bill’s immediate beneficial effects never materialized. Today’s unemployment stands at 9.4 percent, two basis points higher than the level Christina Romer warned it would reach if nothing were done. Most economists now think that unemployment will shoot past ten percent before the year is out.
Instead of reviving the economy, it now appears that the stimulus is actually making it worse. This is not surprising, because due to the nature of our economic malady unrestrained government spending was precisely the wrong kind of medicine. Unfortunately, those who were trying to point that out were drowned out in the atmosphere of panic and hysteria that prevailed at the time.
One of those sounding the alarm was Peter Schiff, a noted money manager and one of America’s most astute market observers. In an interview he gave in February, at the time when the administration was taunting the package as America’s only hope, Schiff predicted that the stimulus would lead to “unmitigated disaster.” Since recent developments bear him out, we may do well to consider some of the things he said in that broadcast. When asked by his interlocutor whether recovery was in the offing, Schiff replied, “Not a chance. This thing is just getting started.” He then explained why:
What’s imploding is the entire phony American economy where Americans borrow money and spend it. What’s happened right now is that government is now taking on that mantle. The government is now borrowing and spending because Americans are too broke to do it. But what we are doing is making the problem worse.
What Schiff said is common sense. The crisis began with the bursting of the housing bubble when certain segments of the homeowner market were unable to keep up with their mortgages. This eventually set off a chain reaction in other sectors of our economy, which had become over-leveraged through years of easy credit and easy money. But instead of letting the recession purge the excesses, the Bush and then the Obama administration made more acute – through unprecedented spending – the very problems that had brought us the trouble in the first place. As Schiff observed elsewhere, Bush’s policies had set us on the path toward the cliff and Obama stepped on the accelerator.
The senselessness of this approach is accentuated by the fact that the government simply does not have the money for the massive new outlays, which can only be financed by incurring more debt. “The last thing we need,” said Schiff, “is more borrowing. We need less borrowing. The government is trying to encourage more consumption when we are in trouble because of all the excess consumption. We actually need the tough medicine that the free market is trying to force upon us.”
Thus in the final analysis the administration’s recovery effort hinges on the hope that we can borrow our way out of debt and spend ourselves into prosperity. Most people intuitively perceive the absurdness of such an approach. For some reason, however, there are those who believe that government can somehow pull it off. But ultimately even government cannot escape the laws of finance and economics. We now see evidence of this around us. Contrary to what the president and his advisors have predicted, debt-driven spending does not have the reinvigorating effect they envisioned.
Bad as the present situation may be, Schiff thinks the going will really get rough once those who finance our deficits start fleeing the bond market:
And when the bubble finally bursts in the bond market… if the dollars rolls over… that’s going to knock the rug from everything the government is doing, because when the bond bubble bursts now the government needs a bailout, now the government is broke and that’s when this crisis is really going to go into a whole new gear.
We may be entering that stage now. Last week the US Treasury conducted an auction of $19 billion worth of 10-year notes. The demand was tepid and the Treasury had to lift the yield to 3.99 percent to attract buyers. This was four basis points higher than the yield available just before auction. The Financial Times reported that this made for the largest yield mark-up for this type of bond in more than seven years.
The following day, Bloomberg reported that “treasuries tumbled 6.5 percent so far this year, the worst performance since Merrill Lynch & Co. began tracking returns in 1978, as so-called bond vigilantes drove up yields to punish President Barack Obama for quadrupling the budget shortfall to $1.85 trillion and raising the risk of inflation.”
Those who finance our debt do not like what Obama is doing. This is no wonder, since the record levels of spending he has initiated can only be described as reckless. Even the most eloquent rhetoric cannot abrogate the laws and realities of the world in which we live; those who deal in financial realities know it and are alarmed. Those who may not be well so versed in finance should look beyond the president’s words and ask themselves this question: Does it seem reasonable to hope that we can build real and lasting prosperity by burying ourselves under a mountain of debt?
A spiritual maxim says: “Be sure your sin will find you out.” The same underlying dynamic applies to borrowing, since no nation has ever escaped the consequences of its fiscal immoderation. One way or another, debts have to be paid for. Not infrequently the cost of fiscal recklessness is the collapse of the whole financial system followed by a loosening of societal fabric. Our exploding deficits and a ballooning national debt will come to bite us hard, because even the American government can’t forever evade the destructive repercussions of its fiscal folly. And when the hour of reckoning finally arrives, the hope of that ultimate bail out will be just that: a hope.