Deficit Reduction Doesn't Solve Unemployment

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Published on Monday, June 7, 2010 by The Guardian/UK
Robbed of Jobs by the Deficit Cultists
The latest US jobs report shows how feeble this recovery is. Yet those managing the economy are set on a low-employment path

by Dean Baker
Friday's US jobs report caught most economic analysts by surprise. After touting the strength of the recovery for months, they had to come to grips with the fact that the economy just is not creating very many jobs.

If the temporary jobs generated by the census are pulled out of the count, the economy created just 20,000 jobs in May. The average rate of growth of non-census jobs over the last three months has been just 130,000 a month, only slightly faster than the growth of the workforce. At this rate of job growth, it will take decades, not years, to get back to normal levels of unemployment. It's time that we stop the happy talk about recovery and get serious about the country's economic problems.

Once again, the reason for this downturn is very simple, even if most of the country's top economists were (and are) unable to see it. We saw an $8tn housing bubble and a somewhat smaller bubble in non-residential real estate collapse. This bubble had been driving the economy prior to the recession.

The bubbles directly generated close to $500bn in annual demand by stimulating construction. The housing wealth created by the bubble indirectly spurred another $500bn in demand by lifting consumption. With the destruction of this wealth consumption has now been drastically curtailed. The question is not one of consumer sentiments. Consumers are not spending for the same reason that homeless people don't spend: they lack the money.

The $1tn plus in lost demand is the cause of the downturn and there is no obvious basis for replacing it. The stimulus package pushed a bit more than $300 billion a year into the economy, but close to half of this was offset by cutbacks and tax increases at the state and local level. The negative impact of the state and local actions will intensify after 1 July when most new fiscal years begin.

There will be additional downward pressure on consumption coming from further drops in house prices. The first-time buyer tax credit, along with other supports for the housing market, temporarily reversed the drop in prices. However, with the end of the initial credit, and now the expiration of the extended credit on 30 April, house prices are again falling and are likely to drop at an accelerating rate in the second half of 2010. Purchase mortgage applications fell to their lowest level since April 1997 last week, suggesting that the falloff in demand is likely to be substantial.

The crisis in Europe is another drag on the economy. As countries across Europe are forced to adopt contractionary fiscal policies, growth in the region will weaken as will imports from the United States. The decline in the euro relative to the dollar will further reduce exports, as US goods become more expensive in the eurozone countries.

Even the end of the census jobs will be a drag on the economy. The census is currently employing more than 500,000 workers. The wages of these workers are helping to sustain demand in the economy. When the census lays off most of these workers in June and July, another source of demand will be eliminated.

All of these factors dampening demand should have been evident even before last Friday, but May's weak job report should make the recovery's weakness so evident that even an economist can't miss it. At this point, we are presented with the option of taking steps to further stimulate the economy such as an extensive jobs programme, or facing years of unnecessarily high unemployment. (Work-sharing is another option that should be considered, especially if we can't get the political support for more stimulus. As a result of an effective work-sharing policy, Germany's unemployment rate has actually fallen slightly even though it has had a steeper downturn than the US.)

Unfortunately, the deficit cultists are making it likely that the country will follow the path of high unemployment. This will mean an enormous amount of unnecessary pain for millions of workers and their families. These people will be out of work not because they lack the necessary skills or don't have a willingness to work – they were working just two years ago.

No, today's unemployed are out of work because the people who are managing the economy don't have the skills necessary to do their job. And the incompetents who are managing the economy are all getting very well paid for their work. That is not good economic policy.
© Guardian News and Media Limited 2010
Dean Baker is co-director of the Center for Economic and Policy Research

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