Hey, remember the presidential race of 1992? Remember the put-upon middle class? Remember the folks whose pain candidate Bill Clinton felt and whose plight he wanted to remedy? You know, the ones he promised a tax cut and a faster-growing economy with more jobs and fewer entitlement programs?
So what happened to those people once candidate Clinton became President Clinton? Forgotten and put-upon, once again.
First, they watched the middle-class tax cut disappear, then they endured an economic recovery that turned out to be limp and jobless, then they heard new entitlement programs proposed--more government spending for health-care reform and welfare reform. Now, they are being squeezed by the great interest-rate run-up, or, actually, creep-up.
The Federal Reserve has nudged up rates three times--with another bump-up expected this week. This sort of creepy-creep unsettles the markets--particularly the long-bond market, where interest rates have shot up from a tad more than 6% to 7.6%.
But the Clinton Administration hasn’t complained. Nope, its economists have begun to talk about the inflation menace. Indeed, the Administration has gotten angry at the bond market for responding, appropriately, to the Fed’s actions, not at the Fed for trying to dampen what little economic growth there is.
Not that there aren’t good reasons to inch up interest rates: There are certain signs, however faint, that the rate of inflation is accelerating. Commodity prices are on the way up. After three years of being on the flat side, food prices have begun to rise; gold prices are smartly off their lows of last September, while prices for other precious metals and some industrial metals, such as copper, have jumped.
There are other anxieties as well. Some economists find high capacity-utilization rates and lower unemployment rates worrisome; others are bothered that the Fed’s monetary policy has been too loose for the past two years, while others fret the Fed waited too long to tighten.
But some inflationary augurs are a self-created political problem. And herein lies a great puzzle. It is widely believed that Clinton won the election with the simple focus of “It’s the economy, stupid.” Yet, Clinton’s actions in office indicate a great ignorance. Indeed, coming after a decade of hard-won and welcome disinflation, his policies almost suggest a wish to re-inflate the economy.
Take the Clinton Administration’s policy on the dollar: the weaker the better. After two years of talking the dollar down to promote exports--the Administration suddenly decided the dollar was “too weak.” A weak dollar promotes inflation in two ways: Consumers must pay more for imports, and those higher prices provide a shield for domestic manufacturers to raise their prices. Hence, two weeks ago, the Administration reversed itself and led an effort to boost the value of the dollar by intervening in currency markets and inviting speculation that the Fed would again push up interest rates.
Also adding to the dollar’s weakness, and thus to the threat of inflation, has been the Administration’s foreign policy, or lack of a coherent one, which has unsettled investor confidence worldwide. Specifically, the Administration’s trade threats against Japan have fostered global nervousness. And the potential impact of money and sex scandals on the effectiveness of presidential leadership has not helped world confidence in the dollar, either.
Finally, the Administration hasn’t helped the anti-inflationary case by appointing two inflation doves to the Federal Reserve to fill positions opened when two inflation hawks retired.
But are these inflationary prickles strong enough to heed? Probably yes. Accelerating rates of inflation are always serious. Price volatility that accompanies inflation is a drag on economic growth through the uncertainty it generates. Worse, once inflation becomes embedded in people’s expectations, it not only aggravates the initial problem but is hard to reverse--without a nasty recession.
But why fight inflation by raising interest rates and therefore running up mortgage rates, interest rates on car loans and credit cards? Why slow an already sluggish economy?
For cynics, the answer lies with the political-economic cycle. This view holds that the Administration wants an economic boom in 1996, a presidential election year, so it is trying to slow growth now. If this is true, Clinton owes the working middle class a better deal.
The Administration has other options for fighting inflation. After all, an economy growing at 2% to 3% a year is not exactly gangbusters. Especially now that the rate of growth in productivity seems to be, finally, recovering from a two-decade slump. Rather, the Administration should concentrate its efforts on accelerating productivity growth.
For starters, a review of business-tax policy would be in order. It is business investment and technological breakthrough that drive productivity gains, and tax law ought to encourage such activity. Instead, the Administration raised some corporate tax rates in its 1992 budget and is hoping to hit business with another tax--to pay for health-care reform. In addition, the tax rate on capital gains ought to be lowered to encourage the entrepreneurial effort that is a main engine of technological breakthrough.
The Administration could also improve the general climate for economic activity by crafting and maintaining a stable and dependable policy environment. Long-term investors don’t like surprises. They don’t like going to bed under one regime and waking up to find government has changed the rules with another “initiative” that requires intervention in the economy. The less government activity in the economy, the more room there is for business and private investment activity.
Simply put, the Clinton Administration is doing plenty to promote inflationary expectations and its response to those expectations--cheering the rise of interest rates to slow growth--will hammer those who can least sustain a hit in the head. A faster growing economy is what Clinton promised the middle-class and he should match his policies to his promises. As long as he is about it, how about that middle-class tax cut?*