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As Unemployment Predictably Rises, the Solution Couldn't Be Simpler
This article was originally posted on Forbes.com. The news this morning that employment gains were scant in May should hardly come as a shock. In January, the Congressional Budget Office projected that the jobless rate would rise to 8.9% by the end of this year — today’s report bumped it up from 8.1 to 8.2 — and that Gross Domestic Product would increase a mere 2% for 2012 and just 1.1% for 2013. First quarter GDP, as of yesterday’s revision, was 1.9%, so we’re following the forecast. This is the worst recovery since the Great Depression — and maybe even including the Great Depression. Typically, after a sharp downturn, the economy bounces back enough so that it gets right back on its 3% GDP trendline within a couple years. That hasn’t happened. As a result, writes Edward Lazear of Stanford, “At this point, the economy is 12% smaller than it would have been had we stayed on trend growth since 2007.” Another way of saying this is that income per household would be about $15,000 more if this were a typical recovery. Think of what the economy would be like if every family had an extra $15,000 to spend. So why such a terrible recovery? Certainly, mistakes were made: the bullying of business, the advent of a massive and expensive new health care system, the stimulus itself. But put those aside as well. Also, forget the excuses du jour — gasoline prices, the European debt crisis, sluggishness in China and India, intransigence in Congress, etc., etc. The hard truth is that the United States has been on a low-growth trajectory ever since the recession officially ended three years ago (!), and the problem is endogenous. As Cassius put it: “The fault, dear Brutus, is not in our stars, but in ourselves.” What we truly lack, to continue Shakespeare’s metaphor, is a lodestar, a guide, a goal. That goal is growth. Strong growth, in the range of 4% on a sustainable, consistent basis, cures all economic ills. It dramatically lowers unemployment. It cuts the deficit. It boosts consumer demand, housing prices, and business investment. Like anything else, if you want growth, you have to make it the only economic goal and do everything you can to achieve it. Only recently are we hearing that from U.S. policymakers. Instead, they have fixed on possible tactics as if they were ends in themselves. If your goal is “creating jobs,” for example, then you will be tempted to have the government extract tax dollars (or borrowings) and shower the money on projects that will hire people. In the very short run, such a policy might actually create a few jobs, but it won’t take long for the effect of the extraction of those dollars to be felt by the people from whom they were extracted. Even worse, as Milton Friedman explained in his “permanent income hypothesis” more than a half-century ago, taxpayers aren’t as dumb as politicians think. When they see the federal government spending lots of money, they know that they will have to foot the bill eventually, so they constrain their spending so they’ll have enough to pay taxes in the future. Stimulus of the job-creation sort simply does not work. The way to get more Americans working is to adopt policies that will increase economic growth — not the other way around. Lately, talk of growth has been tainted by a false dichotomy: The Europeans are saying that you can have growth or you can have austerity, and their preference is for growth. Well, duh! Given that choice, whose preference wouldn’t be? But, in fact, austerity — that is, reductions in wasteful government spending — is one of the key factors that produces growth. A bloated bureaucracy of the sort that characterizes such nations as Greece, Spain, and France puts a damper on growth for the simple reason that it is supported by taxes and borrowing that discourage private sector investment and hiring. As my colleague Amity Shlaes has written, “Growth happens more easily when people believe that government is, and will remain, small. Austerity makes government smaller.” Cutting government spending is one way to get growth. And there are many others. Probably the fastest is reforming the tax code so that rates at the margin (that is, the next dollar) are reduced, loopholes and preferences are ended, and taxes are applied on consumption rather than on income and investment. We can also get more growth by adopting policies that bring the best and brightest immigrants to America, that improve our school systems, that increase free trade and remove constraints on developing energy resource. In fact, constraints throughout the economy are what we need to remove. Government’s role is not to create jobs but to help foster an environment where the private sector can flourish. It’s really not so complicated: To go from 2% growth to 4% and from 8% unemployment to 5%, we need to make growth the goal. In this crisis, every policy — current and proposed — gets evaluated by a single standard: does it contribute to getting to 4% growth? If not, kill it. If so, do it!