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Uncertain Distinctions

Christina Romer in the New York Times has a worthwhile piece drawing a distinction between types of “uncertainty” holding back the economy. This is the contrast I was trying to make in some of my previous discussions on the topic. The argument that policy uncertainty such as the current debate about the Bush tax cuts is the major impediment to our recovery is untenable. Whereas business uncertainty about future prospects for sales or companies’ inability to confidently predict returns on their investments obviously dampens businesses incentives to hire and invest.

Both political parties have clearly stated their intention to extend the tax cuts on incomes less than $250,000. The biggest question is whether the top tax rate will be 35 or 39.6 percent. That is not the degree or kind of uncertainty that is likely to cause businesses and consumers to put hiring and spending decisions on hold.


One sign of heightened macroeconomic uncertainty is that the forecasts of respected analysts are all over the map. According to the Survey of Professional Forecasters conducted by the Federal Reserve Bank of Philadelphia, the difference between the highest and the lowest forecasts of unemployment a year from now is about twice as large as it was before the crisis. And forecasters’ reported uncertainty about their longer-run forecasts has shown no sign of improving over the last year. If professional forecasters are unsure of the future, businesses and consumers certainly are as well.

Such uncertainty about future economic conditions can make people hold off on any spending that is difficult to undo. Companies may hesitate to build factories or hire permanent employees until they have a better sense of whether the markets for their products will be strong or weak. Consumers may not buy new cars or build additions to their homes until they are more certain about future employment.

That’s seems entirely plausible to me and, helpfully, she actually provided some evidence of that type of uncertainty (large conflicts in long-run forecasts). Earlier in her piece, she implies that long-term budget deficits are a “genuine” cause of job-killing uncertainty. I don’t doubt that this is a major long-term problem. But she doesn’t provide much of an argument as to why this would be holding back lots of hiring and investment now. I do remain open to it.

However, it seems if the budget deficits were really the cause of our short term economic malaise we’d see slumps more evenly across all business sectors – they effect everyone fairly equally, do they not? But we don’t, we see the sectors that have good business now and a good sense that their sector will continue to see growth are doing well (relatively) and hiring. While the sectors that have poor sales or aren’t being put to work building things and don’t have a good sense of future business are doing poorly. Also, many of the jobs lost are do state and local governments letting go of workers because they don’t have enough money now, not because the Feds are running deficits.

Granted, I’m not an economist, so I’m going out a bit on a limb trying to analyze this stuff in this way. I usually try to judge the evidence that the expert provides for its logical coherence and against the opinion of other experts. The problem with Romer’s argument about the long-term deficit being a problem for our short-term recovery is that she doesn’t provide any evidence. The bond markets certainly don’t seem to be too worried – the cost to borrow continues to be extremely low. Looking at the above job picture if I squint I suppose I can see some potential deficit induced lackluster job growth in the construction industry – long term construction projects might suffer. But I’m going to guess that the major problem is the slumping housing market, and I’m unaware of many experts arguing that the housing sector is slumping because of our budget deficit.

I think Romer’s piece is a good one and she makes a lot of strong points. She’s probably stressing the deficit because the deficit commission recently released their plan and the administration wants to set the stage for winning that policy battle. Tackling our long-term deficit is an important goal for a variety of reasons – doing it to fix our short-term economy just doesn’t seem to be one of them.

(graph from here)

Categories: Christina Romer
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