Martin Neil Baily (Brookings) - Economy and Policy Outlook

Baily was chairman of CEA during Clinton administration.

Recovery over next 3 quarters will be 3.5% to 4.5%, well above trend, but well below historical "recovery" rates of growth.

Why weaker? Consumers still being battered (but Zandi showed strong consumer growth?)

Commercial real estate loans will roll over, causing lingering weakness in banks.

Consumers are de-leveraging (revolving credit dropping by 5% annual rate)

23% loss in "net worth relative to disposable income"

Long run growth depends on aggregate supply. Growth rate of capacity depends on labor force supply and productivity growth. Labor force growth is diminishing: baby boomers retiring, women participating less in labor force

Productivity (article in todays WSJ if improvement is permanent). (numbers only include non-farm business, only one component of GDP growth) Surge in productivity is underway (3.9% in 2009, due to layoffs) Reluctance of employers to high means higher productivity growth.

Productivity growth model (productivity is not all IT based, new processes, new products/services) chart

Deficit projection (falls below 1 Tril in 2014 and 2015, but then rises again)... deficits will decline as a percentage of GDP. Can deficits be financed? 10-year is still very low, but could be because US situation looks better than Europe, emerging economies don't want the dollar to fall
Impact:

Accounting exercise for 2019 scenario: US can't have full employment AND low private savings with a budget deficit and still have trade flows balanced.

**Send out Scenarios showing budget deficits, savings rates and trade deficits**

Savings rate was at 7% until 1997, but fall through the 2000s

Only last simulation resolves deficit, high savings rate leads to trade flows balanced.

Folks worried about manufacturing employment ALSO want government spending on infrastructure and education etc. They can't have it both ways unless we save a LOT more.

Closing the budget deficit

Not smart in near term

Problem is Medicare: voters refuse to limit services and refuse to raise taxes. Need to make a more transparent link between the two. Dedicated Medicare tax at a level that covers expected payments. Would help to address spending side

Revenue: carbon tax (???)

Financial regulatory reform

Effective reform should create a mechanism for large institutions to fail without being bailed out or disrupting the whole system

"unholy alliance" between left and right: undermining independence of the Fed, too heavy focus on stopping future bailouts (alternative was another Great Depression)

Bailouts haven't been expensive, those to banks have been profitable (ignores the impact of risk

Independent consumer agency is likely to be created. Now has support of Shelby

Questions

Are we overestimating productivity growth (3.9% in 2009)? Probably