THE BLOG
06/18/2010 11:31 am ET Updated May 25, 2011

Unemployment: The New "Washington Consensus"

The Washington Consensus is a term long used for the harsh austerity imposed by the International Monetary Fund and other lenders on troubled third world economies. Under its dictates, unemployment and lowered incomes, rather than being the problems of insufficient economic growth, are its solutions. After several decades of failure, the Washington Consensus is now widely discredited around the world. But in Washington, it's back in fashion.

Fifteen million Americans are out of work. Another roughly 10 million can only find part-time jobs or have disappeared from the labor force and are surviving God knows how. State and local governments are shredding the social safety net. In a nation where the vast majority live paycheck to paycheck, forty-five percent of the jobless have not worked in six months. And the fierce competition for jobs is shrinking the paychecks for those who still have them.

The basic economic problem is not very complicated: if no one spends, no one works. Since the financial market crash in late 2008, consumers, businesses and state and local government have cut back on their spending. In order to keep people working, as the Great Depression taught us, the Federal Government must therefore compensate by increasing its own fiscal deficit. As jobs return, consumers resume buying, businesses respond by investing and state and local government revenues grow. When we're back to full employment, the Federal budget should return to balance.

Last year's $789 billion government stimulus clearly braked the economic free-fall. But, given that this is the deepest recession since the 1930s, it was not enough to get the battered job market growing again. Thus, we need a second stimulus. Roughly $400 billion would create over 4 million jobs, and put us solidly on the road to recovery.

Not going to happen. Despite the polls showing that the chief concern of voters is unemployment, Republicans and Democratic Blue Dogs have perverted legitimate concern over future deficits into a jihad against the increased public spending needed to jump-start private job growth. Within the Beltway, the only serious debate is over how fast to reduce the deficit. Since tax increases are toxic and military budgets sacrosanct, this means cutbacks in domestic spending. Intimidated by Tea Party hysteria and Republican Party hypocrisy (even at full employment George W. Bush was running sizeable deficits) the White House has cut back on its job creation proposals, slapped a freeze on discretionary domestic spending and asked agencies to plan for actual cuts.

Don't worry about unemployment, say the pundits of this new consensus. It's a "lagging indicator." A hiring upturn is only a matter of time.

How much time? The assumptions upon which the Administration bases it ten year budget projections show the unemployment rate remaining over nine percent next year. By 2014 it's still at 6.5 percent, leaving some three and a half million more people out of work than before the current crisis began. In 2020, assuming ten years of steady economic growth without another recession, the unemployment rate is still expected to be higher than it was in 2007. Every Administration wants to show an upbeat future, so if anything these numbers are optimistic. Many private forecasters say the jobless rate will actually rise in 2011.

Moreover, these forecasts assume that recovery - as others in the recent past --will be driven by consumer spending. But in an era of prolonged unemployment and depressed wages, consumers can only spend significantly more by going further into debt. With consumers reluctant to borrow and banks reluctant to lend, this is unlikely. And certainly not sustainable. As the President has said, "We cannot rebuild this economy on the same pile of sand. We must move us from an era of borrow and spend to one where we save and invest; where we consume less at home and send more exports abroad."

So the solution is to find consumers somewhere else. Easier said than done. For thirty years, the US has been outsourcing production and buying more from the rest of the world than it is selling. We have financed the resulting trade deficit by borrowing to the point where we are the world's largest debtor nation. The list of products we no longer make in this country is a mile long.

So, what's the new plan for growing through exports? Same as the old plan.

The Administration wants to conclude Bush-initiated trade agreements with Korea, Columbia and Panama. Its economists claim that this will increase exports. And so it will. But experience shows that without changes in trade and competitiveness policies, such deals expand imports even more. The net result has been to widen the trade deficit, further slowing economic growth.

It also promises to "get tough" with China and other nations running up huge trade surpluses with us. So Obama's Secretary of Treasury, as did Bush's, regularly shuttles off to Beijing to beg China's leaders to stop manipulating their currency and discriminating against US imports. The Chinese, now sitting atop two billion dollars in US IOUs, are unmoved. In what is becoming a Washington ritual, Geithner vows to try harder next time.

Finally, this Administration, like the last several, confidently asserts that America will successfully compete on the basis of its natural superiority in technological innovation. Sure, U.S. scientists and engineers still invent lots of stuff. But making the stuff, which is where the jobs are, continues to be outsourced. The US now runs a chronic trade deficit in hi-technology products, and Europe, Japan and China are far ahead in the development of green industries. Last year's stimulus included funds for research and development, infrastructure and education. But nowhere near enough to close the gaps. We're planning to invest $6 billion for high-speed rail; the Chinese are investing $100 billion.

So, by default (or design - depending how you think economic policy is made), the American governing class has implicitly adopted the Washington Consensus formula for recovery through export-led growth -- lower your costs. Inasmuch as most costs are more or less fixed, this means lowering the cost of labor. High levels of joblessness together with cuts in government social safety nets will force workers to accept lower wages. Their lower incomes will also reduce your imports. Eventually, trade will be balanced and growth will return, justifying all the suffering and pain. In the meantime, to preserve social order, exempt the military from your budget cuts.

Export-led growth had some claim to credibility for small countries when the worlds' global markets were expanding. But the chief engine of that expansion was the US trade deficit. Today, there is no equivalent consumer of last resort willing to run chronic trade deficits with America. Europe is going through its own austerity program. Japan is not about to give up the trade surplus that has kept the country afloat during its own long recession. And China's leaders are unlikely to sacrifice export industry jobs in order to reduce unemployment among Americans whose living standards are so much higher. As applied to the United States in 2010, therefore, export-led growth implies a drop in wages and living standards much more dramatic than anything that today's deficit hawks are willing to admit.

There is an alternative, especially for an economy the size of ours. That is to prime the pump of the domestic market with government investments that create jobs in the short run and help make us more globally competitive in the long run. But we lack the leadership needed to overcome the country's ideological and political dysfunction. Just as third world politicians responded to the sufferings of their people by claiming "the IMF made me do it," so our deficit-obsessed leaders pass the buck to the bond market, despite the signals - low interest rates, high demand for US treasuries -that global investors are hardly panicked by our fiscal deficit.

So as prolonged unemployment continues to erode income and opportunities for the majority of Americans who must work for a living, remember that it was not imposed from afar. It came from Washington.