Peter G Peterson of The Blackstone Group believes that the key to US stability lies in reducing US consumption and imports.
As part of my recent book, Running on Empty, I interviewed a dozen leading global capital market experts about the sustainability of the US’s unprecedented current account deficit of nearly 6% of GDP, about $670bn annually.
Just covering these deficits – not investment needs – annually requires the US to borrow $2.5bn every working day.
None of the experts believes the current account deficits are sustainable. None. Herb Stein, who was a [president] Nixon humourist in the White House in which I served, used to say: “If something is unsustainable, it tends to stop”; and “if the horse dies, I suggest you dismount”. The only issue in this case is not whether we dismount, but whether we are thrown off or we get off in our own time.
Risk of hard landing
Roughly half of the experts that I interviewed believe that the risks of a so-called “hard landing” are high. Paul Volcker, for example, who is a former head of the Federal Reserve from 1989 to 1999, says he believes that there is a “75% chance of a dollar crisis within the next five years”. Bob Rubin, former US Treasury secretary, speaks of a “day of serious reckoning”.
A hard landing envisions the following and rather haunting scenario. For reasons that are hard to predict, foreigners lose confidence and there is a sudden, big fall in the dollar. This is accompanied by a big spike in interest rates and nasty effects on financial markets and the economy, particularly on interest-sensitive sectors such as automotives and housing.
The balance of the 12 experts predict a softer landing. The same phenomena take place but more gradually. But make no mistake about it: these are all landings not take-offs. No-one knows when or how these current account deficits will be made lower and sustainable – but no-one disagrees that they must be. The deficits present risks in both economic and national security that no great power should be taking.
We have talked a great deal about outsourcing jobs. We have talked far too little about a reckless kind of outsourcing: the outsourcing of savings. Redressing this pronounced global imbalance will require some profound and perhaps even traumatic structural and cultural changes in the US’s and other countries’ political economies. The US must consume less and import relatively less; export and save relatively more. The rest of the world will need to do the opposite.
Consumption addicts
US society is addicted to consumption. But the counterpart of that addiction is the rest of the world’s dysfunctional dependence on export growth to the US as a way of growing their economies. Both habits have to change.
And there are not only economic and financial risks, but also national security and foreign policy risks. How long can the US be the biggest debtor and the biggest borrower in the world and also be a great leader and superpower?
In my book, I attack what I call the theologies of the US’s two main political parties. I use the word theologies deliberately because a lot of these policies seem faith directed and relatively untouched by analysis, history or evidence. And they are commonly delivered with a kind of moral certitude.
Tax cut theology
My party, the Republican Party, seems to have adopted a tax cut theology, which has morphed into ‘any tax cut, any time’. To continue the theological metaphor: the tax cutters have formed an unholy alliance with the big-spending, big-government Republicans. Alas, a new oxymoron: the big-government Republicans.
Highly conservative institutions and individuals agree with me. The CATO Institute, a US public policy research foundation, refers to the “spending explosion”. Dick Armey, the former, very conservative, majority leader of the House of Congress, says: “We can’t pin this one on the Democrats; we’re in control of everything.” Senator Chuck Hagel says: “Our party has lost its moorings.” And John McCain, calling this spending binge the worst in his 22 years, says: “It is like any other evil. First, you condemn it, then you condone it and, finally, you embrace it.”
I was chagrined that my party, the so-called fiscally responsible party, voided the budget enforcement mechanisms – pay-as-you-go, spending caps and the like – that had made such a difference in the fiscally responsible 1990s.
These Republicans are joined by their fellow “starve-the-beasters”. Paradoxically, their argument is in sharp contrast to that of the supply side Republicans, who might argue that increased revenues would grow us out of any problem. The “starve-the-beasters” take the opposite view: cut taxes, they tell us, and revenues will fall. Then we can get rid of, or drastically cut, these awful benefit programmes.
Social security
They had better be careful what they wish for. Have they considered certain melancholy facts? One-third of US citizens at retirement age have no net financial savings. According to the Federal Reserve, half of all people aged 45 to 54 have total gross financial assets of less than $46,000. According to the Social Security Administration, social security and other benefits account for 91% of the total cash income in the year 2000 for elderly households in the bottom fifth of the income distribution.
Picture the scene: 77 million baby boomers, a significant portion of whom are in serious need of support. Am I to believe that there will be no political or social effects if we say “sorry folks, there is a big cut in your benefits”? And that the elderly will say: “Thanks, I needed and I deserved that”? When in a major crisis did governments get smaller?
My party has done one better than former president Lyndon B Johnson. We have guns, butter and tax cuts.
Benefit hikes
If the Republicans cannot see a tax cut that they do not like, it might be charged that many Democrats have hardly ever seen a universal entitlement programme that they did not like. Viewed historically, they have been the prime movers, along with a few Republican co-conspirators, of a rather startling trend: in the past 40 years, federal benefits to individuals have gone up six times in inflation-adjusted terms.
Take the Medicare prescription drug benefit. Despite virtually all serious analysts saying that the projected costs of the Medicare programme are unsustainable, there has been hardly a word from Democrats about controlling the cost of it. Instead, Democrats complained that the new Medicare drug benefit plan does not go nearly far enough. Surely that would make an unsustainable programme even more unsustainable.
Action triggers
What are the possible action scenarios? Scenario one, which I prefer, is that the public needs a massive dose of truth telling. Take the example of the great success of the 9/11 Commission, which alerted the country to problems with the intelligence structure. I recommend that the president immediately appoint a bi-partisan Twin Deficit commission, composed not of the usual special-interest devotees who always seem to want “more”, but of credible US citizens who have a transcendent national interest and reputation. Citizens such as former senators Sam Nunn, Warren Rudman, Bob Kerrey and Alan Simpson, and Messrs Rubin and Volcker.
Reform also requires bold leadership by a president who not only educates but also leads US citizens to take constructive action and, ideally, creates a global consensus for other developed countries to take similar action. This is emphatically a global problem.
Why might a president do what no other president has done? The next president may realise that the country’s reckless dependence on foreign capital could hit on his watch. And what a negative legacy that would be. There is an opportunity for a positive legacy: to be the first president to confront the daunting fiscal and economic challenge of the US’s metastasising senior benefit programmes in a rapidly ageing world.
Reform must also be done on a bi-partisan basis. A partisan approach to reform energises the “turkey shoot” phenomenon: the turkey that lifts its head with a proposal and has its head shot off by the opponent. That is why presidential elections, as we have just seen, are such a terrible time to propose reforms. The only proposals are “all gain, no pain” proposals. No tax increases, no benefit cuts, new benefits, etc.
Waiting for a crisis
Then there is scenario two, which is to be deplored. The crisis, or Pearl Harbour, scenario. A lot of hard heads believe that it will take a crisis to get action. I pray that this is not the case. Waiting for a crisis will impose severe costs on all of us.
Peter Peterson is chairman of The Blackstone Group and of the Council on Foreign Relations
