[Viewpoint] The bad news for the U.S. economy

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[Viewpoint] The bad news for the U.S. economy

Two years after the world economy suffered a nervous breakdown in the wake of the collapse of Lehman Brothers, global financial markets remain unsettled, and the recovery that started so vigorously in 2009 seems to be stalling.

The slowdown has predictably led to calls for further fiscal and monetary stimulus. The argument seems simple: only a massive dose of government spending and massive central bank support for the financial system prevented a slide into a second Great Depression, so more of the same medicine is now needed to prevent a slide back into recession.

This argument seems particularly strong in the United States, which during the long boom years grew accustomed to unemployment rates of around 5 percent and steady growth in consumption.

But in assessing the outlook for the U.S. economy, one should not compare low quarterly growth rates (the data for April-June are particularly disappointing) and the current unemployment rate of almost 10 percent to the “goldilocks” bubble period. A longer-term view is required because the U.S. is facing a structural-adjustment challenge that will be accompanied by high unemployment.

Like southern Europe, the U.S. economy must move away from the consumption and housing-led growth model of the last decade. President Barack Obama has encapsulated this challenge by setting the goal of doubling U.S. exports over the next decade. But this is easier said than done.

The structural shift towards exports will be difficult and time-consuming mainly because producing the high-tech goods that the U.S. should be exporting requires a skilled workforce, which has largely been lost and cannot be recreated overnight.

During the ten years preceding the peak of the bubble in 2007, about four million jobs were lost in the U.S. manufacturing sector, whose share in total employment fell from more than 17 percent to 12 percent. Unemployment remained low because the booming domestic economy created enough jobs in services and construction.

Reversing this shift quickly seems impossible. Most construction workers are rather low-skilled and thus cannot be redeployed to modern high-tech manufacturing. The same applies to real estate agents, social workers and credit card account managers.

During the bubble years, the situation was exactly the opposite: most of the workers released by a rapidly shrinking manufacturing sector could be employed easily in construction and social services, which require only low skills (likewise, real estate services demand only general skills).

The key point is not that manufacturing jobs are somehow better, but rather that we must consider the asymmetry in the structural-adjustment process. It is relatively easy to manage a structural shift out of manufacturing during a real estate boom, but it is much more difficult to re-establish a competitive manufacturing sector once it has been lost.

Post-bubble economies thus face a fundamental mismatch between skills available in the existing workforce and the requirements of a modern export-oriented manufacturing sector. Unfortunately, there is very little that economic policy can do to create a strong export sector in the short run, except alleviate social pain.

Labor market flexibility is always touted as a panacea, but even the highest degree of it cannot transform unemployed realtors or construction workers into skilled manufacturing specialists. Experience has also shown that retraining programs have only limited success.

Ironically, Germany might provide the most useful template for the problems facing U.S. policy makers. Germany experienced a consumption and construction boom after unification, with full employment and a current-account deficit.

After the boom peaked in 1995, a million construction workers were laid off and could not find jobs elsewhere. The German economy faced a decade of high unemployment and slow growth.

Exports initially did not constitute a path to recovery because the Deutschmark was overvalued and some manufacturing capacity had been lost during the unification boom. “International competitiveness” became the mantra of German economic policymaking. But it still took more than 10 years for Germany to become the export powerhouse of today.

It is unlikely that the adjustment process will be much faster in the U.S., where the manufacturing base has shrunk much more sharply.

Moreover, with the introduction of the euro, Germany had the advantage of pegging its currency to southern Europe, which was experiencing a housing boom even more extreme than in the U.S., thus providing German exporters with growing markets and little competition. By contrast, the U.S. dollar is tied to the renminbi, whose issuer - China - has the world’s largest and fastest-growing export sector.

How long will the U.S. adjustment take? Since the peak of the bubble, the U.S. economy has not even been moving in the right direction. The contraction in manufacturing output and employment has actually accelerated - and faster than output. Employment has fallen in the sectors on which the economy remains dependent for much of its growth: domestic services, such as health care, finance, insurance, and real estate services (the sector responsible for the crisis).

So long as this trend continues, only high and continuing doses of fiscal and monetary expansion will be able to sustain domestic demand. And, given that many goods are no longer produced in the U.S., stimulus measures would suck in more imports, further undermining the trade balance.

A self-sustaining recovery is, of course, possible, but it presupposes a massive structural adjustment aimed at restoring U.S. competitiveness in global markets.


*The writer is the director of the Center for European Policy Studies.
Copyright: Project Syndicate, 2010.

by Daniel Gros

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