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Domestic Economy:
The Middle Class Crunch
Jeffrey Frankel
Harpel Professor of Capital Formation and Growth
Harvard University
Bipartisan Program for
Newly Elected Members of Congress
By some standard measures,
the US economy has recently done better:
• Better since the recession of 2007-09, of course;
• also better than Europe & Japan,
• and better than most people think.
• E.g.,
– GDP growth is up,
– job growth up,
– stock market up (all-time high in November),
– budget deficit down (since 2009: sharpest fall in history).
Growth has been gradual since the recession’s end
in June 2009: a slow 2% per annum during 2011-13,
but a little faster lately.
GDP (Gross Domestic Product)
Source: Macroeconomic Advisers, Nov. 18, 2014; monthly numbers derived from US Bureau of Economic Analysis quarterly series. ellside/ EmailD ocView er?encr ypt=a0 739b1e-a7af-4c91-a588 -b698c0a5a30 2&mime =pdf&co=macr oadvise rs&id=r [email protected] thwest
GDP growth = 4.2% over last 2 quarters; 2.4% over last 4 quarters > 2.1% in 2011-13.
The private sector has added 10.6 million jobs
over 56 straight months of job growth, easily the longest streak on record;
and at least 200,000/mo. for nine consecutive months.
The 2014 federal budget deficit is down to 2.8% of GDP.
That is down more than 2/3 from 2009,
and below the average deficit since 1980 (3.2%).
Then why do Americans feel worse off?
Real median household income
is still 8% below the 2007 pre-recession peak, and barely above its 1990 level.
How to restore rising real incomes?
• Eight policies
– Some sound popular, some very unpopular;
– They all have in common:
support from economists,
regardless of party affilliation.
Eight policies
• Universal pre-school education.
• Infrastructure spending financed by cheap US borrowing now;
by a funded Highway Trust Fund in long run.
• Social security:
– take steps today to put it on a sound footing for the long term.
• Address the long-term rise in household debt.
• Tax reform (revenue-neutral: lower rates, but cut distorting deductions)
• Corporate income tax (curtail subsidies to oil, race horses, race tracks…)
• Personal income tax (curtail subsidies to mortgage lending).
• Allow fracking (but with careful regulation) and expedite LNG exports.
• Resume US global economic leadership.
• Do No Harm:
No fiscalcliffs, shutdowns, debtstandoffs or sequesters.
• More graphs of recent economic performance
GDP growth (latest figures)
Budget deficit (going back to post-WWII)
Real household income (a more timely version)
Policy uncertainty (the effect of dysfunctional fiscal politics)
• Specifics on some policy recommendations
– Social security
– Household debt
– Global economic leadership.
GDP growth turned positive after 2009, 2nd quarter,
marking the end of the recession
Includes 11/24/2014 BEA revisions.
GDP growth = 4.2 % over last 2 quarters (= 4.6% + 3.9% /2)
The budget deficit is down more than 2/3 from 2009,
to 2.8% of GDP. That is below the 1980s (4%),
but above the average since 1947.
Why do Americans feel worse off?
Real household income
is still well below the 2007 pre-recession peak,
though it finally started rising in 2013-14.
Source: annual survey
of the US Census Bureau,
made monthly by
Dysfunctional fiscal politics hurt the economy in 2011-2013,
not just directly (e.g., through the sequester), but also indirectly
through the risks for business created by policy uncertainty.
Policy specifics: Take steps today to put social
security on a sound footing for the long term.
• Fiscal policy has been exactly backwards
The US fiscal problem is in future decades, not today.
We hurt the economy by cutting spending & raising taxes in 2011-13
while failing to address big future deficits in social security & medicare,
exactly the opposite of what we should have been doing:
allow deficits when the economy was weak,
while taking long-term steps to address entitlements.
• Specific policies to put social security on sound footing:
– Raise the retirement age (while accommodating blue collar workers);
– Slow the rate of growth of benefits for future retirees.
– At the same time, we could make payroll taxes less regressive:
• Exempt low-income workers. (Much as we should expand the EITC.)
• Raise the maximum-income threshold (from $118,500 in 2015).
Address the long-term rise in household debt:
housing, auto, & student loans
• Reduce the policy tilt toward getting American families
up to their eyeballs in mortgage debt they can’t afford.
– It drives up housing prices,
– without even much raising home ownership rates.
– Specific policies:
• Require a serious minimum down payment, as other countries do.
• Require “skin in the game,” on the part of mortgage-originators.
• Curtail tax deductibility of mortgage interest,
– which mainly benefits the well-off.
» It generally saves less than $200 for households earning $65,000.
– Reduce deductions at upper end
» as in Rep. Dave Camp’s proposal to lower ceiling from $1m to $500k,
– especially if used for something other than purchase of residence
» i.e., 2nd home or home equity line of credit.
Address household debt: housing, auto & student loans, continued
• Auto dealers should not be exempted from
the Consumer Finance Protection Bureau.
• Although most college educations are still a good deal,
and worth going into debt for if that is the only way,
some enterprises are bad deals.
• Government should expand student loans,
• but require that the college or university have a decent
record regarding rates of graduation & employment.
Resume US global economic leadership:
• Pass Trade Promotion Authority (TPA)
– To be used for WTO free trade agreements
– and regional agreements
• Trans Pacific Partnership (TPP)
• Transatlantic Trade & Investment Partnership (TTIP).
• Pass IMF quota reform
– Recognizes the rise of Emerging Market economies,
– with no downside:
• No loss of US power at the IMF;
• No cost to the American taxpayer.