For those unfamiliar with the memo’s author, Larry Summers is the former Director of the United States National Economic Council for President Obama. And although he resigned from this position in November 2010, as the White House’s chief economist he “played a leading role in crafting the administration’s interventions in the economy,” according to the Wall Street Journal.
Summers’ influence being understood, this 57-page memo helps explain why certain economic strategies and initiatives have been adopted, and in many cases maintained, by the Obama administration. But it does a little more than that: the memo also sheds some light on why the administration has failed to revive the economy.
Summers’ memo is “striking for two reasons,” writes Dean Baker of The Guardian. “First, it…showed the economic projections that the administration was looking at when it drafted its stimulus package. These projections proved to be hugely overly optimistic.”
Many critics would agree.
The other striking part of this memo is the concern with “bond market vigilantes”. The memo discusses the need to focus on the medium-term deficit with the idea of reaching deficit targets by 2014. The highest deficit target listed in the memo for this year was 3.5% of GDP. The memo also includes calculations with a deficit target of 2.5% of GDP, and a balanced budget.So what does this mean?
The deficit for the fiscal year that ended last October was 8.5% of GDP. Depending on how the payroll tax debate, the extension of unemployment benefits and a few other issues get resolved, the deficit is not likely to be very much lower in 2012.
This means that getting from a 2012 deficit near 8.0% of GDP to even the 3.5% target for 2014 would require some very serious budget cuts in an economy that will still be suffering from massive unemployment. The difference between a budget deficit of 8.0% of GDP and 3.5% of GDP is equal to almost $700bn annually.
“In short, the Obama administration made plans that were quite obviously based on a far too rosy view of the economy,” Baker concludes. “While this favorable assessment was the prevailing view at the end of 2008, what is inexplicable is why the administration never appears to have strayed from its original path – even when it became clear that the economy was doing far worse than projected.”
Just how poorly did Summers and the Obama administration “fail to grasp” the seriousness of America’s economic situation?
For an answer to this question, one can turn to James Pethokoukis of The American, the online magazine for the American Enterprise Institute.
The following are the most “stunning revelations” about what the Obama economic team was thinking as the financial crisis was blowing up (as compiled by Pethokoukis, with quotes from the 2008 memo itself):
1. The stimulus was about implementing the Obama agenda.Perhaps more unsettling than Pethokoukis’ list is the fact that the Obama administration has done very little to update any of these ideas. It’s as if Summers set the tone in 2008, and the Obama administration never looked back.
The short-run economic imperative was to identify as many campaign promises or high priority items that would spend out quickly and be inherently temporary. … The stimulus package is a key tool for advancing clean energy goals and fulfilling a number of campaign commitments.
2. Team Obama knows these deficits are dangerous (although it has offered no long-term plan to deal with them).
Closing the gap between what the campaign proposed and the estimates of the campaign offsets would require scaling back proposals by about $100 billion annually or adding new offsets totaling the same. Even this, however, would leave an average deficit over the next decade that would be worse than any post-World War II decade. This would be entirely unsustainable and could cause serious economic problems in the both the short run and the long run.
3. Obamanomics was pricier than advertised.
Your campaign proposals add about $100 billion per year to the deficit largely because rescoring indicates that some of your revenue raisers do not raise as much as the campaign assumed and some of your proposals cost more than the campaign assumed. … Treasury estimates that repealing the tax cuts above $250,000 would raise about $40 billion less than the campaign assumed. … The health plan is about $10 billion more costly than the campaign estimated and the health savings are about $25 billion lower than the campaign estimated.
4. Even Washington can only spend so much money so fast.
Constructing a package of this size, or even in the $500 billion range, is a major challenge. While the most effective stimulus is government investment, it is difficult to identify feasible spending projects on the scale that is needed to stabilize the macroeconomy. Moreover, there is a tension between the need to spend the money quickly and the desire to spend the money wisely. To get the package to the requisite size, and also to address other problems, we recommend combining it with substantial state fiscal relief and tax cuts for individuals and businesses.
5. Liberals can complain about the stimulus having too many tax cuts, but even Team Obama thought more spending was unrealistic.
As noted above, it is not possible to spend out much more than $225 billion in the next two years with high-priority investments and protections for the most vulnerable. This total, however, falls well short of what economists believe is needed for the economy, both in total and especially in 2009. As a result, to achieve our macroeconomic objectives—minimally the 2.5 million job goal—will require other sources of stimulus including state fiscal relief, tax cuts for individuals, or tax cuts for businesses.
6. Team Obama wanted to use courts to force massive mortgage principal writedowns.
The next step in the housing plan is responsible bankruptcy reform along the lines of the Durbin bill you cosponsored. This would allow bankruptcy courts to write down the principal of primary residences to the current market value. We recommend announcing this reform to begin immediately following the close of the enhanced Hope for Homeowners period.
7. Team Obama thought a stimulus plan of more than $1 trillion would spook financial markets and send interest rates climbing.
To accomplish a more significant reduction in the output gap would require stimulus of well over $1 trillion based on purely mechanical assumptions—which would likely not accomplish the goal because of the impact it would have on markets.
8. Greg Mankiw, economic adviser to Mitt Romney, was dubious about the stimulus.
Greg Mankiw is the only economist we have consulted with who refused to name a number and was generally skeptical about stimulus.
9. But the Fed was a stimulus enabler.
Senior Federal Reserve officials appear to be of the view that a plan that well exceeds $600 billion would be desirable.
10. IPAB was there at the very beginning.
There are two possibilities for making tough decisions on the long-run budget, which could be done either separately or together: creating an executive-branch “health board” (which focuses on one part of the issue) and a Congressionally chartered commission (which could focus more broadly).
11. The financial crisis wasn’t just Wall Street’s fault.
A significant cause of the current crisis lies in the failure of regulators to exercise vigorously the authority they already have.
Now, considering that there‘s a growing consensus that the president’s understanding of the U.S. economic crisis has been naïve (if not willfully ignorant), is it any surprise that he is receiving so much criticism? Take, for example, many of the conservative-to-moderate commentators who, despite having once possessed “a surprising degree of hope and good cheer” for his presidency, have denounced President Barack Obama as an abject failure:
In 2009, the president was a dinner guest in the home of conservative commentator George Will, according to Lizza. By 2011, Mr. Will had declared President Obama a “floundering naïf” and someone advancing “Lenin-Socialism.”
In 2009, Fox News commentator Charles Krauthammer wrote that Obama could be “a president with the political intelligence of a Bill Clinton harnessed to the steely self-discipline of a Vladimir Putin” who would “bestride the political stage as largely as did Reagan.” By 2011, Mr. Krauthammer had written the president off as “sanctimonious, demagogic, self-righteous, and arrogant.”
In 2009, the economist Larry Kudlow claimed that the president loved “to deal with both sides of the issue,” when it came to business and the economy and that he “revels in the back and forth. And he wants to keep the dialogue going with conservatives,” according to Lizza. By 2010, Mr. Kudlow had accused President Obama of presiding over a government of “crony capitalism at its worst.”
In 2009, while commenting on the violence set off by Iran’s rigged elections, the supposed “Reaganite” Peggy Noonan gushed “Mr. Obama was restrained, balanced and helpful in the crucial first days, keeping the government out of it.” By 2011, Miss Noonan declared the president “a loser.”
Given the fact that the Summers memo only confirms what several of these critics had already feared (i.e. that the Obama economic team has been utterly incompetent), perhaps these “over-the-top” criticisms aren’t that far off the mark.