Mohamed A. El-Erian is chief executive and co-chief investment officer of the investment management firm Pimco and author of “When Markets Collide.”
after he was introduced as Mitt Romney’s running mate Saturday, Rep. Paul Ryan proclaimed: “I hear some people say that this is just ‘the new normal.’ High unemployment, declining incomes and crushing debt is not a new normal. It’s the result of misguided policies.”
Ryan is both right and wrong. Understanding the difference is essential if his follow-up prediction — that “next January, our economy will begin a comeback” — stands any chance of materializing regardless of who prevails in November.
First, some background.
In early 2009, I and colleagues at the investment management firm Pimco developed the concept of the “new normal.” It was shorthand for a simple yet consequential hypothesis: That coming out of the financial crisis, the economy would not recover in a normal cyclical fashion. Instead, we wrote in a May 2009 paper, “growth will be subdued for a while and unemployment high; a heavy hand of government will be evident in several sectors; the core of the global system will be less cohesive and, with the magnet of the Anglo-Saxon model in retreat, finance will no longer be accorded a preeminent role in post-industrial economies.”
The new normal was not just a prediction that in the absence of fundamental policy adjustments the West would face an unusually sluggish recovery process, with the accompanying — and mounting — political and social costs. The concept included consideration of an accelerated convergence of income and wealth between the established Western economies that would struggle and the more dynamic and resilient emerging countries such as Brazil and China. With that, we argued, the system of global governance would join its national and regional counterparts in being operationally challenged, as well as having its legitimacy questioned and its credibility undermined.
Solid analytical backing for this framework followed in economics books, including by academics Carmen Reinhart and Ken Rogoff, who explained the peculiar dynamics of recovery from severe debt crises, and by Mike Spence, a Nobel laureate in economics who described the underpinning of the growth process.
Initially, the concept was controversial. Many rushed to dismiss it as overly pessimistic for ignoring historically robust drivers of cyclical rebounds. Others called the concept too fatalistic, saying that it would be overwhelmed by unusual policy activism that included large government stimulus packages as well as “unconventional measures” by central banks combining exceptionally low interest rates with direct purchases of government securities.
Unfortunately, both criticisms proved misleading.
I say unfortunately because the new normal that asserted itself has involved significant human suffering. Unusually high unemployment has persisted, particularly among youths, along with a surge in those classified as long-term unemployed and those who completely dropped out of the labor force.
It is unfortunate also because the main public policy insight of the hypothesis — a call for policymakers’ action to be more agile, strategic, secular and comprehensive — came to too little. Instead, economic disappointments fueled political polarization that has, in turn, aggravated the economic malaise and made the challenges of the new normal even more daunting.
That is the sad history of the new normal. Which brings us to Ryan’s comments — and consideration of the present and the future.
Ryan is correct that the new normal is a result of “misguided policies,” although we have different definitions of misguided. (For me, this is less about the role of government, outsourcing and tax dis-incentives per se, and more about an economy that must find a way to safely “deleverage.” We must overcome the many years during which policymakers lost sight of sustainable drivers of growth and jobs and instead ended up relying on excessive leverage, over-indebtedness and an absurd sense of credit entitlement.)
Yet Ryan may be too hasty in dismissing the extent to which the new normal is becoming embedded in our economy and, with each passing week, transitioning from a short-term exception into an even more painful multiyear reality.
The longer Congress continues to dither, the greater the likelihood of cascading structural impediments to growth and job creation. This can be seen in how much harder it is for those who are struggling to maintain even routine activities, while those who are substantially better off have become way too cautious, preferring to self-insure by holding large balances of cash rather than hiring and reinvesting in plants and equipment.
With Congress having failed to act on the new normal for more than three years, the next administration faces the critical task of restoring U.S. economic vibrancy and unleashing this nation’s traditional dynamism and entrepreneurialism. This can be done only if comprehensive economic policy adjustments are accompanied by progress on the political and social fronts — particularly in catalyzing the bipartisanship and popular harmony needed to overcome deeply embedded structural constraints.
If we delay further, I fear that Ryan may prove correct on another point, to both his and my dismay. As he remarked Saturday, “Sadly, for the first time in our history, we are on a path which will undo [the] legacy . . . that every generation of Americans leaves their children better off.”