Back to the Future on Markets

Friday, October 9, 2009

Polls show that President Obama’s policies are being less and less well received. The president’s personal approval rating may still hover around 50 percent, national polls show, but fewer of those polled approve of his specific polices for dealing with a nation in turmoil. Indeed, Obama has had to climb a steep learning curve, with the economy in shambles, car companies failing, grave concerns about health care, wars on two fronts, an ongoing threat of terrorism, a bellicose North Korea, and even piracy on the high seas. An impatient public, however, seems to think he hasn’t climbed fast enough.

The policies in disfavor give the federal government power in virtually every realm of our lives on the grounds that markets caused the problems and need to be fixed by government. Although it is true that markets overextended credit and took on excessive risk, they would not have done so without the help of government regulators and regulations. The Federal Reserve’s loose monetary policy, coupled with pressure from quasi-govern-mental companies such as Freddie Mac and Fannie Mae, surely deserves much of the blame.

Increasing the power of government has resulted in a spending spree that delights all Keynesians but is far less popular with the taxpaying public. Using executive orders and newly passed legislation, the administration has called for unprecedented federal deficits that will turn the market system upside down. From regulated financial institutions, we have moved to government ownership of banks; from potential bankruptcy, we have moved to bailouts for businesses “too big to fail.”

Wall Street was far from perfect and needed some prudent regulation, but not government ownership of banks.

Along with colleagues from the best of the nation’s universities, we have written the new book Reacting to the Spending Spree: Policy Changes We Can Afford, published by the Hoover Press. Our prescriptions offer pragmatic policies, some of which will not be cheap and all of which acknowledge the importance of markets, property rights, and the rule of law. Consider just a few of the policy proposals we can afford:

  • Bankruptcy and bailouts. Successful markets depend as much on failure as on success. Using “too big to fail” as an argument for bailing out any company eliminates the Darwinian discipline on which efficient markets depend. Changing the rules and coercing participants to accept such changes will inevitably lead to confusion and perverse incentives and undermine contracts.

  • Financial markets. Wall Street was far from perfect and therefore needed some prudent regulation, but government ownership of banks is not the answer. Improving measurements of risk in the banking system and generally making it more transparent would go a long way toward eliminating the problems that got us where we are.

  • Taxes. Simplify, streamline, and flatten. Rather than increase rates for the top 10 percent of taxpayers, who already carry more than 70 percent of the income tax burden, President Obama must place some of the blame for bad tax policy on special-interest lobbying groups.

  • Environmental policy. The president’s preoccupation with a capand- trade system to reduce carbon emissions is foolish. It is clear that companies such as GE and Duke Electric are going to get Congress to give them carbon emissions permits and that they will use cap and trade to restrict competitors and competition—never mind that reputable scientists agree that this inconvenient, inequitable tax will have no discernible impact on the amount of greenhouse gases in the atmosphere and no impact on temperature during the next hundred years.

  • Infrastructure. Few doubt the role of government in making longterm investments in infrastructure, but the administration must be cautious not to make shortsighted decisions that squander the opportunity. The administration’s spending should focus on projects that stimulate investment and put idle resources to work on projects that pass benefitcost muster. Money should not be spent on pet projects that have been sitting on the sidings waiting for a chance to slip into a gap in the political and economic freight train know as the stimulus package.

  • Trade. If there is one place where President Obama should hold the line on government power, it is open trade. Openness is the way out of recession, poverty, and environmental degradation around the world. Whether it is carbon tariffs or labor protection, raising trade barriers is the wrong approach.

What has fueled the U.S. economy for the past thirty years is innovation, consistently and predictably enforced rules that protect property rights and commerce, and markets that allow players to succeed and fail. The policies of the Obama administration that are not faring well in polls cost too much and do too little.

If Obama wants to bring his policy approval ratings up to his personal approval ratings, he would do well to back off from his spending spree and show some fiscal and regulatory prudence. The president can follow his more liberal instincts and let the heavy hand of government correct market failures without totally cutting off markets’ invisible hand. As Nobel laureate Jagdish Bhagwati puts it, “President Obama’s missing eloquence on [market] openness to date is a matter of the utmost regret. Will he surprise us?”