Economy

Economists believe that people respond to incentives. The fact that economists never suffer career consequences for failing to consider new ideas explains why they so rarely consider any policy that has not long been in the standard bag of tricks. I mention this background since it is relevant to the reaction given a proposal on the debt ceiling that Ron Paul originally put forward and that I subsequently endorsed. Paul suggested that the Fed could destroy the $1.6 trillion in government bonds that it now holds as a way of getting room under the debt ceiling.

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Whatever form the final agreement to raise the federal debt ceiling takes, it will surely include some sort of promise that Congress and the president will pursue “tax reform” or a “tax overhaul.” It can’t be called a tax increase, but the purpose will be not just to close tax loopholes and keep basic marginal rates low, but also to bring revenues up from their current level of 14.4 percent of gross domestic product, a level last seen in the Truman administration. The very words “tax reform” are music to the ears of good-government liberals like me—and Barack Obama.

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p.MsoNormal, li.MsoNormal, div.MsoNormal { margin: 0in 0in 0.0001pt; font-size: 12pt; font-family: "Times New Roman"; }span.Italic { font-style: italic; }div.Section1 { page: Section1; } As the U.S. economy fails to recover, there is a growing fear that the United States has entered a phase of long-term decline. Conservatives blame “big government” for throttling entrepreneurship; liberals tend to take aim at Wall Street.

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As the U.S. economy fails to recover, there is a growing fear that the United States has entered a phase of long-term decline. Conservatives blame “big government” for throttling entrepreneurship; liberals tend to take aim at Wall Street. Rolling Stone writer Matt Taibbi memorably described Goldman Sachs as “a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money.” Among less inventive critics, the term in vogue is “financialization.” According to author Kevin Phillips, who popularized this notion, financialization is “a process whereby financial services, broadly construed, take over the dominant economic, cultural and political role in a national economy.”Elements of this thesis can be found in scores of books, articles, and blog posts on the state of the U.S. economy. Phillips blames financialization not just for the “Great Recession,” but for “excessive debt, great disparity between rich and poor, and unfolding economic decline.” In their book, 13 Bankers, former International Monetary Fund (IMF) chief economist Simon Johnson and James Kwak blame financial factors for the “anemic growth” in the overall economy prior to the crash. And, in an influential essay—titled “WHAT GOOD IS WALL STREET?”—The New Yorker economics writer John Cassidy pointedly contrasts the period when regulators restrained the growth of the finance sector (when wages, investment, and productivity grew, lifting “tens of millions of working Americans into the middle class”) with the period of growth experienced by the finance sector since the early ’80s (when “financial blowups have proliferated and living standards have stagnated”). One thing is clear: Financialization, in some form, has taken place. In 1947, manufacturing accounted for 25.6 percent of GDP, while finance (including insurance and real estate) made up only 10.4 percent. By 2009, manufacturing accounted for 11.2 percent and finance had risen to 21.5 percent—an almost exact reversal, which was reflected in a rise in financial-sector employment and a drop in manufacturing jobs. It is also clear that high-risk speculation and fraud in the financial sector contributed to the depth of the Great Recession. But Phillips, Johnson, and the others go one step further: They claim that financialization is the overriding cause of the recent slump and a deeper economic decline. This notion is as oversimplified, and almost as misleading, as the conservative attack on the evils of big government.

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This is no time for gloating, neither for Americans nor for Europeans. For both sides are in deep economic trouble, only in different ways. The U.S. runs the worst deficit (as share of GDP) since World War II, and yet Keynesianism to the max won’t budge the unemployment rate—pace Professors Krugman and Stiglitz. What does fall is the dollar and the price of real estate, a double-whammy if ever there was one. The euro, meanwhile, may be rising, at least against the greenback, but the common currency, now ten years old, is about as stable as was Confederate script back in the Civil War.

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Sally Cameron thought she had done everything right. After studying French and Arabic at a tony liberal arts college, she knew that graduate school would help her career chances. But when she hit the job market, her Ivy League management degree didn’t seem to matter. The worst recession in decades had pushed the unemployment rate to nearly 10 percent and good jobs were scarce. Sally paid the rent by tending bar and filled her time with volunteer work. Meanwhile, experts and government officials warned that the days ahead would be grim.

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After yet another weak jobs report came out last Friday—the U.S. private sector, it turns out, added just 38,000 jobs in May—economists have been groping for an explanation. One theory is that the economy is still in a deep, deep funk: As the IMF warned back in 2009, it takes a long time for the world to recover from a severe financial crisis.

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Listening to today’s debates, one might think that the United States faces a budget deficit. Not so. America faces two budget deficits. The first challenge is near term. Once the economic recovery is well-advanced, we must find a way to cut spending or raise taxes to prevent government debt from rising faster than income. The second challenge is dual: to slow the growth of health care spending, in general, and Medicare spending, in particular, and to decide whether to make cuts to Social Security.

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Broken Links

Not many people in the American electronics industry had ever heard of the Japanese town of Niihama before the summer of 1993. That changed overnight when a small specialty chemical factory there was knocked out by a fire. Obscure though it may have been, this factory accounted for 65 percent of the world's supply of epoxy cresol novolac, a resin essential in making most semiconductors. As shockwaves shot through the world electronics industry, prices of some kinds of semiconductors doubled in days.

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State governments are facing catastrophic budget deficits for fiscal year2012, and they are suggesting drastic cuts to attempt to fill the gaps. But this proposed austerity may not be necessary, and, moreover, it is almost certainly unwise.

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