This is the second in a two-part series examining how the US economy has failed the middle and lower classes and what can be done to fix it. Here, Turbeville explains how short-term thinking short-changes society.
In my first post, I gave a brief economic history of the US and outlined some facts about our current situation. These included growing disparities among income groups, unemployment persisting for longer periods following recent recessions, US consumption of goods and services from countries that in turn rely on American consumption, asset price bubbles and bursts appearing to be more frequent and extreme, and the stagnation of high school and college graduation rates. All of these things point to a growing inequality and a stagnating economy, and they are interrelated in important ways.
Relationships Among Critical Factors
One side of income disparity -- stagnating middle and lower incomes -- shares much in common with persistent unemployment. Workers were not "all that employed" before the recessions, even though they technically had jobs. Temporary and part-time work, as well as frequent job changes and outsourcing, held down incomes and indicated a more tenuous relationship between employers and these employees. The jobs were convenient for the employers, but not essential. Re-staffing as growth follows recession may be a convenient time to implement foreign outsourcing programs (this has been recently reported in relation to the technology sector). Unreliable and, ultimately, unsustainable jobs did not represent the kind of stable employment that had historically been a feature of the economy.
Raghuram Rajan, in his recent book Fault Lines, observes an internal inconsistency in the American economy. The human capital value (i.e. the valuable qualities of individual workers) of the workforce does not align with the kinds of opportunities available to businesses in the modern economy. In other words, the growth of higher-end businesses that can prosper in the American economy is constrained by the pool of appropriate high school and college graduates -- and graduation rates for both, he notes, have ceased growing. Dr. Rajan's observation is completely consistent with the realities of middle and lower income stagnation and persistent unemployment. The economy may grow in terms of GDP. But it cannot accommodate uniform growth of jobs and incomes, which is an essential element of the American social structure.
The failure of business growth to provide productive employment seems inconsistent with the growth of high-end incomes, the flip side of income disparity. The trajectory of income disparity and the bubble/burst cycle reflect financial institutions and wealthier individuals making short-term and risky decisions. There is an increasing preference for short swing use of capital intended to secure quick profit in lieu of longer-term investments. This behavior, of course, is facilitated by information technology that speeds the implementation of investment decisions. But it is significant that this type of decision-making is particularly rational in an economy that is at risk for a long-term decline.
Behavior focused on the short-term by individual investors and businesses is not evil. In a deregulated economy, it is sensible. This is true even though the short-term behavior may increase the risk of overall economic decline over time. Longer-term interests are uncertain and obscure, while short-term opportunity is more certain and will be lost if not seized immediately. The problems is that excessive short-term behavior is destructive for the collective interests of all businesses and investors. But business decisions are not made collectively. That is the role of the government. The only way to curb this destructive behavior is through sensible regulation.
The cycle of bubbles and bursts is also politically related to income disparity and persistent unemployment. The "irrational exuberance" of the inflating bubbles created a sense of wealth that deflected public attention from stagnating incomes.
The housing and consumer credit bubble is the most significant example. The Clinton administration actively promoted home ownership and access to credit generally by lower-income groups. If you believed the false assumption (shared by the government, the Fed, banks, rating agencies and the public) that residential real estate would forever trend upward, this made sense. Recall that this policy was conceived during the dot-com bubble, when pundits openly speculated that a "paradigm shift" had occurred, promising eventual prosperity for all. Giving lower-income groups a stake in an appreciating asset mitigated the effects of stagnating incomes, soon to be remedied by universal prosperity. Allowing residential real estate appreciation to be cashed out along the way through easy home equity lines and credit card debt made the policy more effective. Asset appreciation could be used for consumption, and people would feel wealthy, even as relative incomes lagged. If mortgage payments became unmanageable, refinancing with more mortgage debt, which relied on higher home values, could be used to increase the wealth effect.
The deregulated financial sector saw this as an opportunity perfectly suited to the growing short-term views of business and investors. Securitization of consumer debt pools was not new, but the increased size and diversity of the pools provided almost boundless opportunities to create tradable products. The expansion of home ownership and credit was supercharged through aggressive and sometimes fraudulent securitization. Using derivatives, the financial sector multiplied the risks to the economy geometrically. The appreciation of residential real estate became a massive bubble.
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However, relying on residential real estate appreciation to mitigate the hardships of stagnating incomes was fatally flawed. Home values are ultimately a function of household incomes. If the trajectory of middle and lower incomes was not reversed, real estate values could not continue to grow. Disaster could be averted only if, before the bubble burst, incomes could be increased to levels consistent with prices. When dot-coms failed to produce a new era of universal prosperity, the government used historically effective economic growth techniques (accommodative monetary policy and tax cuts) to induce business expansion, assuming that incomes would mirror economic growth. But this was a race that could not be won using conventional, indirect methods. The constraint on incomes was not cheap capital for investment; it was structurally-flawed employment. So the core income problems persisted.
The United States has become the consumer of last resort for export-led economies in the developing and developed world. And pre-recession estimates of outsourcing to foreign countries predicted as many as 3.3 million jobs outsourced by 2015. Imported goods and services are produced by foreign workers; and foreign outsourcing similarly reduces US employment opportunities. Each transaction that transfers chunks of the American economy overseas makes sense on its own merits. But unless US exports balance them out in aggregate, incomes of the middle and lower classes suffer. There is no such balance, and the middle and lower classes have absorbed the cost.
What is to be done?
Logically, there are only two ways to rectify this problem: the range of business opportunities can be expanded to efficiently absorb the domestic workforce, given its productive capacity; or the workforce can be conformed to the available opportunities through education and training (see ND20 Exclusive Interview: Josh Rosner's Bold Plan for Reeducating the Unemployed). The first way can be successful in the short term and the second approach promises more stable long-term prosperity.
The inducement of primarily domestic activities like clean energy and infrastructure makes sense, but the industries' long-range impacts are limited. Some methods of expanding the range of business opportunities involve significant dangers. The interaction between American income stagnation and the nation's role as the consumer of export-led economies is dangerously volatile. It is tempting to actively reduce imports through protectionist policies and replace them with domestically-sourced goods and services produced by protected businesses. Precipitous and aggressive trade policy could disrupt a system in which export-driven economies depend on US consumption. For example, China's manipulation of its currency to aid exports cannot be tolerated, but the temptation to retaliate should be resisted. The economy might not be able to withstand the inevitable trade conflict. To avoid damaging conflict, reduction of reliance on US consumption through internal consumption in exporting countries and increasing productivity of American enterprises are preferable. But these are arduous and unreliable processes.
Improving the American workforce through education and training, together with a robust and targeted industrial policy, is a solution that is more in our control. But it is also a long-term and costly project. Decades of neglecting educational achievement and technical training caused the problem. The time and resources required to remedy it will be proportionate to the magnitude of the neglect.
Remedies will evoke ethnic and regional prejudices, since deficient skills are more prevalent among minorities and in inner cities. We must demonstrate that lifting up minorities and urban poor is in the interest of the majority. Worker deficiencies limit the potential of the economy and the well-being of all without regard to accents or skin color. Ignoring the problem is worse for the majority.
At one level, the solution is clear: put more people to work at higher incomes. This means that more people must graduate from high school and college. With intelligent encouragement and direction from the government, businesses will provide them opportunities for work. This is a complex task, but there are some obvious system deficiencies that need attention:
• College must be affordable to anyone who is qualified, no exceptions.
• Assistance for higher education must be tied to graduation. Far too many students give up before graduating.
• High schools must be equipped with physical plants and technology so that they can function properly in a modern society.
• Serious programs aimed at lower-income preschool and elementary school children are critically important. This is because we cannot afford the low productivity of a permanent underclass. It is a practical necessity. Racist attitudes and conservative ideology have nothing to do with it.
• There is no doubt that improving teacher performance is important. However, fixation on this issue is a transparent tactic of conservative ideologues to deflect attention from pragmatically necessary expenditures and government intervention.
• Our approach to criminal justice is simply defeatist. We must move away from ncarcerating enormous numbers of ethnic minorities and permanently burdening their productive potential. Early intervention, before youthful attitudes harden, based on cooperation between schools and community-based organizations, is desperately needed.
• Devising a new role for unions and employers is sensible. Workers' rights are important. But unions can be a vehicle for improvement of the workforce through training and educational assistance to members and their families. Membership would be more attractive if it more effectively offered opportunities for advancement. Collaboration between unions and employers to provide training and further education without loss of income is in the interest of both.
• Business leaders need to be involved to craft a targeted policy to encourage new and expanded enterprises that can employ the people productively. Businesses need to participate, not just absorb subsidies and tax breaks. The government could accomplish much by simply facilitating local organized activity by providing the overall goals and minimal matched funding.
• We must deal with outsourcing. The use of foreign employees, especially in skilled positions, has become a major issue that can no longer be avoided. It is short-term decision making, as discussed above. It works for a single employer in the short run, but the long term damage to the entire economy is great.
• Addressing the immigration issue is unavoidable. A shadow workforce, whose contribution to the community through productivity and taxes is limited, is intolerable. Since we need more productive workers, integration of undocumented workers into the economy is obviously the better approach for the economy.
These challenges and many others will require the willpower of a public at war. We must hope that the nation will be blessed with leadership worthy of wartime challenges.
Wallace C. Turbeville is the former CEO of VMAC LLC and a former Vice President of Goldman, Sachs & Co. He is Visiting Scholar at the Roosevelt Institute.