Clouds over the American Economy

The first lines of A Tale of Two Cities capture the mood of the day:

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity . . .

Fast forward from London and Paris during the French Revolution to today, and nothing much has changed. A recent headline in the Wall Street Journal reads: “Mixed signals cloud economic forecast,” referring to whether we shall have the proverbial “soft landing” or the dreaded recession that has everyone looking over his or her shoulder. One response to the problem is to provide everyone with tips on how they should weather a recession that is not of their making: stay liquid, trim inessential spending, shorten vacations. But these countermeasures, of course, do nothing to promote or stanch a recession. The question remains: what explains these prospects?

One obvious place to look is short-term movements of the stock market, which turns everyone’s attention to the weak jobs report of August 2, followed by a three-day rout in the stock market; as of today, the market has recovered some but not all of those losses. The conventional wisdom is that the so-called Sahm rule, named for former Federal Reserve economist Claudia Sahm, points to a recession, “when the three-month moving average of the national jobless rate rises 0.5 percentage points above its prior twelve-month low.” There is a strong a priori sense that any ad hoc rule of this sort cannot be correct, given the welter of conditions that it necessarily ignores, and Sahm, to her credit, got it just right when three years after her initial publication, she blogged “I created a monster,” because the rule “is a historical pattern, not a rule of nature.”

There is also a deeper problem: what is the relationship between the odds of a recession and the upcoming election? Such a question splits into two branches. What will happen before election day, November 5? And what will happen when the new administration takes over in January? As to the first, we can expect that the battle will be over the question of short-term interest rates. Keep these rates high, and consumers can get nice rates on long-term bank deposits. But the other side of the coin is far more ominous. Individuals who have to refinance short-term home loans will be in something of a pickle. The housing market will see high (if somewhat declining) mortgage rates, now at around 6.31 percent for a thirty-year loan, which means that individuals with long-term favorable rates on existing properties are reluctant to sell if they know their next purchase will require a hefty increase in mortgage rates. These high rates also deter first-time buyers from entering the housing market unless they can, as seems to be more common as of late, come up with enough funds to eke out an all-cash offer. Lower those interest rates and the costs of homeownership goes down, as does the cost of credit for individuals who are interested in starting new businesses or expanding old ones. No one can predict with confidence the timing of any anticipated rate decrease, and that uncertainty adds costs to buyers, sellers, lenders, and borrowers alike, which in turn slows down the overall rates of transactions. Couple that with another Biden spending spree to forgive student loans, and the two could easily spell a move to a recession.

Yet the greater uncertainties lie not with interest rates but with the rate of taxation and regulation over the long run. These are critical because inflation requires the confluence of two sources, too much money chasing too few goods and services. Thus there is more than one way to wreck an economy, such that antigrowth policies can contribute to inflation by reducing the productive capacity of the nation.

I am not aware of any pro-growth policy that has ever been championed by either Joe Biden or Kamala Harris. Over the past years, we have seen overly aggressive antitrust enforcement under Lina Khan, chair of the Federal Trade Commission; massive moves by the Securities and Exchange Commission to impose onerous climate-change reporting onto private companies; sweeping efforts to drive out fossil fuels in favor of electric vehicles; attempts to weaken the protection afforded patents; and more. Donald Trump, for all his weaknesses, falls on the opposite side of that divide, for he would scrap, not support, the green policies of both Biden and Harris, among others. A lot rides on the outcome of this election, which many rate a tossup.

Think of how businesses and individuals should react to what they do know of the candidates’ stances. Whatever the fine points, Harris’s policies are going to be hard left while Trump’s are going to be more market-friendly, given his general skepticism toward taxation and regulation, which is diluted only in part by his misguided love for tariffs—a love shared by both Biden and Harris as part of their pro-labor stance. Neither side seems aware of the damage that tariffs can cause to an economy. Business decisions may well be put on hold until the election is over, which itself could help spur some kind of a recession.

It is an open question whether Harris will continue to hold to the raft of left-wing positions that she took in the Senate. But if she wants to win Pennsylvania, she will have to back down, as she is now doing, from her earlier statements in favor of a ban on fracking. But that is more easily said than done: beneath her current campaign for “joy,” there lies a serious set of difficulties with left-wing progressives who would like to see a (surely unattainable) world that runs not on fossil fuels but on wind and solar energy. A tangible symbol of this idealistic vision is the catastrophic failure in late July of a wind turbine near Nantucket, its blades washed ashore as debris.

The difficulties run deeper. Harris will suffer mightily if she continues with the Biden administration’s policy of mandating the use of electric cars when the infrastructure is not there to support such a huge shift, a goal that has run ahead of the technology. That gap is so pronounced that even in blue New York, there is pressure is to push back or eliminate green-conversion mandates resulting from legislation which would require 70 percent of all electricity to be derived from renewable sources by 2030. It is no secret that the Harris-Walz ticket will endorse or even increase government activity in this direction, along with pursuing a tax policy more aggressively redistributive than that of Biden himself.

Harris’s selection of Minnesota Governor Tim Walz as her running mate makes it clear that she may tack to the center with her words, but continue to run hard left. The Wall Street Journal has explained just how Walz has embraced tax-and-spend policies that have already stifled economic growth in Minnesota and would do even more damage if implemented nationally. High taxes and extensive transfer payments are especially poisonous at the state level because they drive productive individuals to move away, just as they have done for several years as residents of California, New York, and New Jersey move to red states like Florida, South Carolina, and Texas.

In looking for signs of growth, it is not wise to look at total rates of employment. Instead, it is important, as in Minnesota, to differentiate between public and private employment. Some jobs may be heavily taxpayer-subsidized, in contrast to those in heavily taxed industries like construction and finance. Jobs in the former industries increase take-home pay for the fortunate workers in the short run, but the effect is to reduce productivity in the private sector—which means a failed strategy in the long run. Signs of trouble are apparent. Personal income growth is down to a standstill in the past four years as inflation has outpaced wage growth, and the boom in the stock market is something that favors individuals with wealth to invest. Meanwhile, the labor market in the private sector tends to favor high-income workers who are less hit by labor regulations that raise minimum wages and foster unionization.

In mere months, it could become clear whether the economy and the country are heading toward the “the best of times” or “the worst of times.”

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