The Annual Economists Roundtable: Sailing Against the Wind
The U.S. economy is recovering, albeit slowly, and manufacturing seems to be a bright spot, along with the energy and technology sectors. But this recovery is taking place in a sea of uncertainty. Companies of all sizes and in most industries face an array of potentially disruptive technologies, the threat of cyberattacks and system failures, and a federal government locked in hostility and refusing to address tax, immigration, trade and other issues and programs that could invigorate the economy. In our fifth annual roundtable, moderated by Margo Thorning, chief economist for the American Council for Capital Formation, three economists address this precarious environment: William Gale from the Brookings Institution, Matthew Slaughter from Dartmouth College’s Tuck School of Business and Kevin Hassett from the American Enterprise Institute (AEI). Forward Editor Steve Lawrence joins the discussion as well.
Margo Thorning: What is your take on the U.S. economy in 2014? Why has the recovery been slow and uneven?
William Gale: The recovery has been slow and uneven for three reasons. First, recoveries from financial crises take a long time. But compared to recoveries after other financial crises, we’ve not done that badly. The second factor has been the government’s fiscal position—its policies on taxation and spending. These have created an enormous contractionary effect at precisely the time when the economy could use a boost. Third, there have been a number of long-term trends like an aging workforce and problems with the quality of education that are contributing to a slow recovery. But my take on the economy in 2014, having said all that, is surprisingly optimistic. We seem to be beginning to chug along at a steadier pace. No one is saying this is a tremendous boom, but the economy seems to be getting its legs again.
Kevin Hassett: It seems like we’re currently at least on a growth trajectory that’s a little bit better than what we’ve seen. I think that the Affordable Care Act probably has had a negative effect on expansion and on hiring. But I think that it’ll take a long time to tease that out of the data and identify it for sure. It’s probably true but it’s not something we know is true. Also, the banking regulators have been pretty tight because of higher capital requirements. One of our economists [at AEI] estimated that there has been about $1 trillion less in loans than normal.
Matthew Slaughter: I worry about how much productive capacity we are building for the future. Productivity growth, even before the financial crisis, was slowing in the United States. And in the past couple of years, very slow productivity growth seems to be continuing. So one of my big concerns is how much American companies and their workers are going to be able to enjoy growth and business opportunities. It comes back to thinking about the productivity-boosting policies we could be putting in place that we aren’t in the United States. Specifically, immigration reform, comprehensive business tax reform, trade and investment liberalization—things that would allow metals manufacturers, related manufacturers and tradable services to see growth in new markets and give them a reason to hire more workers.
I tend to be an optimistic person. But with the continued lack of policy progress in Washington on these issues of tax, trade, investment and immigration, I think it’s unfortunately not surprising that growth continues to be slow in the United States.
The New Energy Economy
Margo Thorning: What about energy policies? Do you see the outlook shifting at all?
Matthew Slaughter: Here’s a good example of what can happen when the policies in place support innovation and new product discovery: The United States’ energy boom over the past several years almost nobody saw coming, with fracking and horizontal drilling and those related technologies. Gas prices in the United States have plummeted to a fraction of what they are in other countries. This dynamism is definitely encouraging more capital investment in a lot of energy-intensive and related manufacturers. But the ultimate, economy-wide impact of the energy boom will connect back to what public policy is or isn’t doing to support it: If we don’t build the Keystone Pipeline, if we don’t relax restrictions on exports, especially oil to other countries, then policy is going to limit both the boom and also how much it will ultimately support jobs in manufacturing and elsewhere in the United States.
Kevin Hassett: One of the most promising areas in the economy is the energy sector. It’s likely to have a significant local effect on manufacturing because natural gas is sort of tricky to move; you see big geographic variations on the price of it. The price of oil might spike because of all the craziness in the Middle East. But medium-term, the energy sector is probably the biggest positive we have going forward.
William Gale: The energy sector is particularly prone to projections of the greatest thing ever happening or the worst thing ever happening. If you look back, even nuclear was going to save the day. Now, horizontal drilling is sometimes talked about saving the day. And solar went from being the “in” thing to the “out” thing, and now it’s partly back. There’s a lot of uncertainty and variability in energy forecasting. But at some point the United States is going to come to its senses and create either a carbon tax or a cap-and-trade system. I don’t think that’s any time soon. But I would think that hangs over the energy sector as a policy variable to keep an eye out for.
Kevin Hassett: The one near-term potential economic growth negative is the greenhouse gas regulation that is probably going to do a lot of economic harm in the near term to coal states. Quantifying that will depend on the future path of litigation. But the big reduction in coal consumption that might be coming soon would be an offsetting effect.
Steve Lawrence: Won’t the potential for exporting coal to places like China, where the appetite seems to be just voracious, offset some of the production cutbacks in this country if that happens?
Matthew Slaughter: Yes. The continued rates of growth in China, India and some of the other emerging markets require a voracious amount of energy. Even though China sits on top of some of the world’s largest reserves of relatively dirty coal, America is still exporting coal to them. So the sobering reality of addressing global climate change and CO2 emissions is that, what we do in the United States—let alone what we do in other advanced countries—is year-by-year more overwhelmed by what emerging markets in general do and in particular what China does.
This dynamic may be changing quickly, though. I was just in China last month, and you see that in the day-to-day conversations among business and government leaders, there is a heightened awareness of the threat to social stability that pollution and environmental degradation are creating. Chinese leaders are increasingly realizing they cannot focus just on growth, that they must also focus here and now on the pollution that growth has been and will continue to be creating.
The Impact of Inequality
Margo Thorning: Another issue that has been in the media in recent months is economic inequality. Do you see inequality as a serious problem for the economy and the country? If so, what are the appropriate policy remedies?
William Gale: There’s been an enormous amount written on what appears to be a pretty clear trend in growing inequality. I would say there are two types of inequality. There’s the education-related demand for skilled workers, where we’ve seen a gradual increase in inequality across the board over time. And there’s what you might call the top 1%, where there’s been a significant concentration of wealth and income over the past 20, 30 years. I think it’s a serious concern. The issue lies in both the actual and the perceived fairness of the economic system, the access to opportunity, the access to mobility and the role of inequality in politics. When you get this increasing inequality, it has a way of cementing itself into the economy’s structure, making it difficult to reverse. The key issues are opportunity and mobility and a rise in living standards. And the rise in inequality, both kinds, is getting in the way of that.
Kevin Hassett: The question is, if you think inequality is a problem, can you do something about it in a way that doesn’t stop the growth in overall incomes? And then on the mobility question, there’s a lot of geographic variation. There are pockets in the United States where mobility is pretty unlikely, and other places where it’s pretty likely. The research shows, for example, that in Charlotte [North Carolina], a child has a 4.4% chance of reaching the top quintile when they start in the bottom quintile, and in San Jose [California] it’s 12.9%. So there’s a big difference. Obviously there are a lot of places where people are stuck because of local government policies, on education for instance, that have really failed them. So the mobility question might best be addressed by thinking about geographic problems and policies that could address them.
Matthew Slaughter: The concerns about mobility that I think a lot of Americans rightly worry about are long-term: How are my kids and grandkids going to do? But many policy conversations about inequality are focusing on ideas that won’t solve the deep, underlying problems. Especially when you think about our policies on connecting to the rest of the world to try to build jobs and opportunities. Even before the financial crisis, Americans were rather wary of globalization. The average voter did not want more immigrants coming to the United States or more trade agreements with other countries. But one of the important aspects of rising inequality is the slowing of real income growth for so many Americans, including recent college graduates and nonprofessional master’s degrees. These more-educated voters today tend to be much more wary of the idea of connecting the U.S. economy to the rest of the world than they used to be, since they too worry about the downward pressures that global connectivity might have on jobs.
So at a time when we need to have good, strong trade agreements with other countries and open foreign markets to steel and other manufacturers, American voters worry about that opening. So agreements need to be smart: to open new markets and new opportunities to Americans, not just to expose their current activities to heightened competition.
How Big Data and IT Disruption Change Manufacturing
Margo Thorning: Many people argue that the vitality of our economy hinges on our ability to understand and capitalize on Big Data and other technological disruptors. How and where do you see advanced IT and high-tech innovation affecting the economy?
Matthew Slaughter: With the availability of large amounts of data combined with rapidly advancing processing speeds and capabilities, what manufacturers and service companies alike can do to understand their customers and supply chains is changing by the month. Despite the problems in Washington that we’ve been talking about, I’m hopeful that the real innovation in processing information will create great new companies and new industries that will build growth in income and jobs.
More specifically, what it means to be a manufacturer today is quite different from what it meant in the past. In a lot of the Washington policy conversations, there’s still the notion that manufacturing entails only goods, not services, that those goods should contain 100% value added in America, and that they should be put on boats in Cleveland and shipped out to the rest of the world.
That image has long been an anachronism, but Big Data makes it even more so. Big Data enables the proliferation and function of global supply networks where manufacturers in America make different products in different stages around the world through their foreign affiliates or partners. Big Data also allows manufactured goods to have more, smarter services embedded around them. It might be through enhanced product customization, or in the transit of these things through better-monitored shipping that reduces spoilage, theft and time spent sitting in warehouses. And it increases the ability of high-tech and value-added manufacturers to sell services and support. Companies like General Electric and Siemens can now track and process so much operating data with sensors embedded in their goods that they can offer customers better after-sales service than ever: detecting early operating problems, predicting malfunctions and service needs, and avoiding equipment downtime. Big Data could be a real boon for American manufacturing.
Kevin Hassett: One of the things that I think modern technology is doing that’s going to be quite noticeable and maybe even a key driver of changes in how the economy functions is not only Big Data but the sort of access to Big Data that we have through the cloud, even on our simplest devices. Because the wireless spectrum is being used more efficiently—though not as efficiently as it could be—your iPhone connects you to supercomputers in the cloud that have Big Data capabilities.
You see it in things like the development of service-matching programs like Uber, the automated pickup and ride-share service, which I think could fundamentally change the workforce. You might argue that an Uber driver has the best boss on earth: It’s just his phone telling him that he’s got a customer. It’s amazing how many businesses are expanding rapidly into that space, from matching you with baby sitters or letting you do your shopping and delivering it to your house and so on. I think more and more people will be linked to micro-jobs through these things.
William Gale: There’s a lot of talk in the blogosphere about how innovation is ending or how we’re entering a new period of slow technological growth. I don’t see that or feel that. Anything from 3-D printing to robotics to all the stuff with the biotech firms, I find it amazing. In terms of what it enables us to do as an economy and how it boosts productivity and the standard of living, it seems like it’s all good.
Steve Lawrence: Do you see a bubble developing around all these technological developments? Some of the valuations you’re seeing for Uber, for example, but others as well, seem pretty off the charts.
William Gale: I think you’re seeing in some of those valuations the fascination and the upside potential that I was just referring to. I can’t tell you what the market value of Uber ought to be. I remember that Warren Buffett said around the turn of the century that if he were a business school professor, he would ask the question, “How do you value Internet companies?” And he would flunk anyone that gave an answer because it was such a weird business model at the time, with companies like Amazon selling at enormous prices but losing money. I just think there’s a huge upside to all this, and I don’t think we know what that is. The possibility of a financial bubble is definitely there, but that’s an issue of human psyche. It doesn’t mean that the technology isn’t amazing.
Kevin Hassett: Today, Amazon is trading at about $320 a share. In 2000, at its peak, after having a tenfold increase from its IPO, it was at $100. And so in 2000, people would’ve pointed to the Amazon price that in the previous two years went up astronomically and said, “Oh, well, clearly that’s a bubble.” Yet people who bought at that peak would have tripled their money. The problem is that for every Amazon that survived, there’s somebody who is now gone and cost people a lot of money. The lesson for people when they’re thinking about how to function in this space ought to be that you shouldn’t bet everything on one.
The Cybersecurity Threat
Margo Thorning: What about cybersecurity? What part will that issue play in economic growth?
Matthew Slaughter: When we talk about cybersecu-rity, globalization really matters. A lot of technology firms are trying to build up their capacity around the world. But a lot of countries are concerned about data in the cloud and about where knowledge and processing power actually reside. Some sovereigns and companies in these foreign countries are saying that data needs to reside in their jurisdiction. This is one of those potential issues where we don’t have good progress on international economic, trade and security policy. Not that it’s going to totally stop innovation around Big Data and computing power, but it definitely has the potential to constrain this innovation and to make it much more difficult for companies to realize the economic gains they seek.
Kevin Hassett: The two types of cybersecurity issues that are very concerning are, one, that we could have a significant terrorist-style disruption of infrastructure. The second is that we could wake up one day and—think of what happened with Bitcoin this past winter—all of a sudden, one of the exchanges just lost all its money and no one could find it. Bad things that we can’t yet anticipate become increasingly possible the more dependent we are on these computers. And I don’t think that the United States has rationally thought through how we should respond to those threats. I’m very concerned that we need a big expansion of policy thinking because what we’re doing now is extremely 20th-century. And the criminals are 21st-century criminals.
The Tax Reform Muddle
Margo Thorning: We can’t end this without talking at least for a minute about tax reform. Earlier this year we saw perhaps the most detailed attempt at a bipartisan reform package from House Ways and Means chairman Dave Camp, a Republican. But even fellow Republicans turned their back on it. I think it’s safe to assume the plan is dead in the water.
William Gale: What was different about the chairman’s plan relative to other tax reform plans is that Camp actually explained how he would pay for all the reforms he proposed. And as soon as he did, proposing a relatively small tax on large banks, for instance, people ran from it as fast as they could. In the next year or two, if there’s a prospect for anything changing, it might be the top corporate tax rate and a look at the international issues with the money parked overseas to avoid taxation. But I don’t think it’s likely that we’re going to do anything on the corporate side any time soon.
Kevin Hassett: Bill is exactly right that tax reform is highly unlikely. The reason is the focus on inequality in current debates on the Democratic side. There’s this view that if you cut the corporate rate then you’re giving money to rich people. I don’t think that’s true as a matter of economics. But then on the corporate side, if you’re a typical U.S. multinational, you’ve got the highest rate in the developed world but you’re not really paying it, because if you just locate the income offshore then you don’t have to pay U.S. tax until you mail it home. There are some multinationals, such as oil and gas companies, that face high rates around the world, but for most, if you don’t ever mail profits home, you’re fine.
So to have a high rate but not pay it is kind of the best of all worlds for a company, because the high rate is insurance against a tax increase. My guess is that the multinational community actually wouldn’t like it if you opened up the corporate tax code very much because it’s unlikely that the system would be as good for multinational income as the current system.
Matthew Slaughter: Frankly, I find it completely depressing that it’s 2014 and we’ve still had no movement at all on business tax reform of any kind, let alone something more comprehensive, with personal tax income included. Tax policy is Exhibit A that what matters for policy is not just what we do in the United States: It’s what we’re doing compared to the rest of the world. As we continue to maintain a high statutory corporate tax rate of 35% and very complex tax codes, dozens of other countries continue to simplify their tax regime for businesses and also reduce relevant marginal rates. Almost every American manufacturer has to think about this reality. Multinationals have to consider that when they earn income abroad, they still have a U.S. tax liability, but if their headquarters is in another country, they don’t.
This is an example of, do you want to shoot the messenger or do you want to listen to the message? Unfortunately, there’s a lot of people in Washington who wag their finger at these American manufacturers and say, “They’re unpatriotic. They’re not doing their duty.” But these companies are simply trying to run a good business. They’re trying to build jobs in America. And we’ve got policies that are making it harder and harder for them to achieve these important goals. And unfortunately, they’re not getting much of a response in Washington.
Margo Thorning: Well, this has been a fascinating and excellent discussion. I want to thank everybody.