Gridlock in Washington

Everyone you talk to complains of “gridlock” in Washington.  Congress’ approval rating is close to zero.  And the economy remains in the tank.  The so-called recovery is the slowest and weakest since the Great Depression, which took more than two full terms of FDR’s “New Deal” and World War II before it really got started.  Most of the ire at Congress, and the President, appear connected with this “gridlock.”

But should we expect anything other than “gridlock” in Congress with one house controlled by a (newly) fiscally conservative GOP and the other controlled by the Dems, and with a Democratic president?  The fact is that the Dems think the way you “stimulate” the economy is through increased spending and deficits, wealth redistribution (to those who will spend the money), targeted (read “more intrusive government”) programs, like “cash for clunkers” to encourage particular economic activity (and discourage other economic activity), stricter regulation and more government control over the economy.  That is, the Dems believe that smart, “disinterested” government officials can guide economic activity better than the market and better than businesspeople who are risking their own money. 

Republicans believe all these policies will only make things worse.  They believe that the way to fix the economy is to reduce the role of government, limit regulation, spend and tax less, encourage businesspeople to invest in new and expanded businesses and basically get out of the way of the economy. 

Democrats are inherently disposed to big-government, demand-side, Keynesian fiscal policy to fix the economy because they are favorably disposed to big-government generally.  Republicans are, on the other hand, predisposed to favor small-government, supply side, solutions to the economy because they prefer more economic liberty and smaller government in most cases anyway.  All this being the case, virtually anything the President will propose will be viewed as counter-productive by the Republicans, and vice versa.  There seems almost nothing that they agree upon, except perhaps the free trade agreements which the President has yet to send to the Hill for ratification. 

When an economy is entering a cyclical recession, as it was during 2008, consumer demand is usually falling, both because income is less due to job losses and lower business profits and because people are feeling less confident and therefore pay down debt and increase saving.  At that point, before businesses have gone through their lay-offs, it makes sense that fiscal stimulus, by putting more money in the hands of consumers, may support demand and slow down layoffs thus making the recession shorter and milder.  The hope is that once the stimulus is all spent, the economy is already in a cyclical recovery and will continue to grow.  But once demand has leveled off, and businesses have already terminated their excess workers to equalize supply and demand, fiscal stimulus will be much less effective.  Since all such stimulus is, by nature, temporary, a rational business person will not hire many new workers to fill government stimulated, temporary, demand, but will rather work his remaining employees harder and longer, liquidate inventory and otherwise do everything that he can to avoid adding to his expenses until the cyclical recovery starts.  His profits will go up which he will use to pay down debt or save for the end of the “stimulus” and not use for new workers who he fears he will have to fire anyway as soon as the “stimulus” ends. 

It seems to me that this is where we are in this economy.  The massive one-time stimulus program that began in early 2009 ended up getting off to a slow start.  It did goose the economy for a couple of quarters of 3%-4% growth, but then had little further effect.  The cyclical recovery has been delayed or frustrated by the anti-business policies and rhetoric of the administration.  In Keynesian terms, any budget deficit, whether by tax cuts or spending increases, is stimulative.  We have been running annual deficits of in excess of $1Trillion since 2009 and will, unless something happens, continue to do so in the future.  Yet all this Keynes has left us with flat growth so far in 2011.  The layoffs have already occurred.  Keynesian policies have lost whatever punch they had, and more of the same will not help. 

Now what are needed are policies that encourage entrepreneurs to invest in new businesses and expand existing ones.  Because of the high profits induced by the “stimulus” existing businesses have plenty of cash.  Now all they need is the prospect of actually making, and keeping, a profit on their investments to really create jobs and get growth back on track.  Anything that adds to costs or reduces profits, such as new and burdensome regulation, higher taxes, new employer mandates such as ObamaCare, and policy uncertainty will reduce the expected profit from an investment.  Anything that directs investment away from economically profitable investment toward politically favored investment (such as so-called "green jobs") restricts growth.  Anything that adds to the perceived risk of an investment, rapid or arbitrary regulatory changes, anti-business rhetoric, general lack of confidence, will make it harder to raise capital for a new investment.  Anything that threatens to take away profits once earned such as higher income, capital gains and dividend taxes, reduces the “upside” of investment and thus incentives to invest.   

Republican job-creation policies thus concentrate on reversing the last three years of progressive governance in order to encourage business people to invest and hire new workers.  Majority Leader Cantor yesterday proposed a series of efforts to stop, delay, repeal or improve job-killing regulations and thus increase incentives for job creation.  Of course, these proposal have about as much chance of passing the Senate or getting the President’s signature as new spending has of passing the Republican controlled House.  Thus gridlock.  We will need another election before we see this gridlock resolved.