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The U.S. Economy
With Steven Pearlstein
Washington Post Financial Staff Writer

Wednesday, March 12, 2003; 11 a.m. ET

The struggling economy and possibility of war is raising the anxiety level in the marketplace. Businesses are scaling back production and cutting payroll jobs in anticipation of a sluggish second-quarter.

Join Post financial staff writer Steven Pearlstein was online Wednesday, March 12 at 11 a.m. ET, to take a closer look at the nation’s economy and what lies ahead.

Below is the transcript.

Editor's Note: Washingtonpost.com moderators retain editorial control over Live Online discussions and choose the most relevant questions for guests and hosts; guests and hosts can decline to answer questions.


The Hague, The Netherlands: Do you think that given the U.S.'s present fiscal situation that we are headed for a reprise of what the nation went through in the early 1980s, namely, high interest rates, continued slow economic growth, high unemployment, and a steroid injected dollar which exacerbates America's already deteriorating balance of payments position?

Steven Pearlstein: I don't think it will get that bad for two reasons. One, the U.S. economy and business sector are now very strong and productive. And second, the public won't tolerate large and persistent deficits. How things will get back into balance, and when, one can't say. But there are already indications that taxes won't be cut much and spending may be cut more than the president proposed.

Newton, Mass.: Steve:
Does economic performance correlate more closely with the price of oil or the highest marginal tax rate? I think you can show a much tighter correlation with energy prices than with upper income tax rates since 1970. After all, as much as Republicans hype the 1981 tax act, the economy did not really take off until after TEFRA passed raising taxes in 1982. The most consistent feature of the 1980's and 90's economy was steadily declining oil prices, rather than a steady trend in tax rates. What this suggests is that keeping Iraq and Venezuela pumping is more important for our recovery than much of our tax debate.

Steven Pearlstein: That's a great point. There are lots of factors that affect the economic growth rate more than tax rates and tax levels. Some of them are outside government control. But some are amenable to government influence, with big payoffs. You mention energy prices. But think about public investments in higher education, particularly engineering and bioscience and computer science. Very big payoffs over the medium term in terms of growth that would literally swamp the impact some of these tax proposals.

Smithtown, N.Y.: How can we possibly determine where the economy is going when so many economic indicators tell us so many different things?

Steven Pearlstein: That's why God invented economics writers and columnists. But the truth is, there's a lot of guesswork and gut instinct involved in analyzing that stuff. The trick is to be attuned to changes in the structure of the economy so you don't get in the trap of believing that the future will be just like the past, that this recovery will be like the one in 1992. It rarely happens that way.

Dix Hills, N.Y.: What should the government/Fed do to boost the economy considering cutting taxes and lowering interest rates has not worked?

Steven Pearlstein: I think its important to remember that the government doesn't control the economy. Sometimes there is nothing more to do but sit and wait and let the economy sort out its own excesses, which is what recessions are really about. The one area that I think government could definitely do something is for the federal government to borrow some money and give it to the states to help them with their very serious budget problems. State layoffs and cutbacks in services are going to hurt the economy when it is at a very fragile point. That can easily, quickly and effectively be minimized now.

Laurel, Md.: Thank you for the sane examination of the economics of baseball in the Washington area. Would you have any good idea of how much are Washington-area TV rights currently worth to the Orioles?

washingtonpost.com: Baseball Is Not A Business Model D.C. Can Afford (Post, Mar. 7, 2003)

Steven Pearlstein: I don't know the exact number but I suspect it is between 5 and 10 million a year. If Washington were to get a new team, it would dramatically affect how much both teams get in local broadcast revenue because you'd be effectively dividing the market in half.

Columbia, Md.: Do you think the stock market will bounce back after war with Iraq, or the economical problems are more serious and will stay with us for a couple of years?

I hear arguments on both sides and I was wondering why this issue is still a matter of an opinion. I mean with all the technology we have I expect we have good economical models to give us a better prediction of the future?

Steven Pearlstein: Don't put too much faith in economic models. They are much better at telling you what happens if one variable changes and everything else is held constant than to predict the course of a dynamic economy whose basic structure is changing all the time. After the war, things should get better, but there are two caveats. One is where energy prices will go, which depends on the outcome of the war. The second is the willingness of the rest of the world to invest in the U.S. If there is an anti-American backlash that seeps into financial markets, that could cause interest rates to rise and the dollar and stock prices to fall. Capitalists tend to be pretty amoral and apolitical, so I don't expect that. But its worth keeping an eye on.

Fairfax, Va.: With states in their worst fiscal crisis in 50 years, to the point that Maryland is considering slot machines for revenue and Alabama school children will have to go without air conditioning, is there any hope of solving the problem without massive assistance from the federal government?

Steven Pearlstein: I agree this is a big problem and as I just said, more federal help is essential. But states have to act a bit more responsibly as well, including raising taxes to meet their basic requirements. Pinning the future of a state's fiscal situation on slot machines is loopy.

Orlando, Fla.: We are in a weak economic recovery where there is no pent up demand for housing or autos, and capital spending is a nonstarter because of overcapacity. Has anybody figured out yet that we are on the verge of serious trouble?

Steven Pearlstein: I've been singing your song in the pages of the Washington Post for two and a half years now. This is why growth will be sluggish going forward, without the big surge of previous recoveries. Too many industries are still in crisis or have too many companies or too much debt to declare that the economy is healthy again.

Evansville, Ind.: Mr. Pearlstein --

How much longer will President Bush be given a "pass" on his mishandling of the economy? Will people continue to ignore rewarding the rich at everyone else's expense? Will the Democrats be able to form an effective attack without being painted as "un-American?"

-- D. Moses

Steven Pearlstein: I'm not big fan of the Bush economic plan but we should be clear on one thing: this is NOT the Bush recession and he is not responsible for the economy. He is responsible for a part of the economy, the federal budget and tax system, and there are better and worse things he could do in that arena that impact the economy. But its not fundamentally his deal, although his political fortunes will ultimately rise or fall depending on how the economy is doing.

Wellington, Fla.: We need to lock a mortgage rate within the next 45 days. Please give us your outlook on mortgage rate trends before, after, and during the first few days of the war with Iraq. Also, if possible, compare it to trends during the 1991 Gulf war.

Steven Pearlstein: This sounds like a question on a final exam on an economics course. I have absolutely no idea about the course of interest rates other than to say they will go down a bit farther, then go up again. Don't look too much to 1991 for inspiration. And don't get too worked up about trying to lock in at the bottom. In the end, its not that important unless you're borrowing millions of dollars.

Dow, Ill.: How low in your view will the stock market go before it hits bottom? When will the present administration call this so called turndown a recession and tell the American voter the truth about our economy? Most of us in the hinterland already realize the bottom has dropped out of this economy and it will take new steps to rebuild it. We need to take care of our country before trying to rebuild any other in the world. Thank you.

Steven Pearlstein: One problem is that the economy is probably worse out there in Dow, Ill., than it is in Washington, D.C. The short answer to your question is that things will get a bit worse before it gets better. How much worse, and for how long, is anyone's guess.

Indianapolis, Ind.: Have you had a chance to learn anything about the budget that will be introduced in the House today by Rep. Nussle? I read it will balance the budget by 2013.

Actually, I read a couple articles but none of them get into specifics about exactly what areas of discretionary spending will be reduced. Have you heard or read about any specific spending cuts?

washingtonpost.com: The Truth: Tax Cuts and Deficits Don't Mix (Post, Mar. 12, 2003)

Steven Pearlstein: I can't wait until Rep. Nussle begins the process of identifying those areas he's prepared to cut. Other than across the board cuts, the Congress has been particularly bad at prioritizing and identifying entire programs that ought to be scrapped in favor of ones with big payoffs, either economic or social. But I'm impressed with Nussle's willingness to take on the challenge.

New York, N.Y.: Hi Mr. Pearlstein, I have a basic economic questions about where we stand as a nation. I know that theory is that deficits are not bad during an economic downturn....i.e. the government increases spending to help spur the economy. However, isn't what we are seeing right now THE WORST KIND of deficit we could have-- its not created by increased spending that might help revive the economy but its created by a cut in revenues flowing in to the government?

Steven Pearlstein: That's not exactly right. Declining revenue is what you'd expect during an economic downturn and is the big source of the budget deficit this year and next. Most economists have no problem with that. Where the problem comes in is cutting revenues permanently and creating longterm, endemic budget deficits. The Committee for Economic Development came out with a report last week showing that by the end of the decade, the Bush tax cuts and spending proposals that would be responsible for two thirds of the annual budget deficits, NOT the weak economy.

Easton, Md.: I contend that this administration is not cutting taxes at all and what is happening is a cruel hoax. The payment of taxes is just being deferred until some time in the future. On top of that, the burden of taxes will now have to include the interest.

Also, the burden of paying taxes has been materially shifted from those who can pay to those of more modest means.

I fear that this will lead to a two class society.

P.G. Rhodes

Steven Pearlstein: You are absolutely right on the first point and probably wrong on the second. There is no free lunch: running budget deficits is passing on a problem to future generations, who will be less rich than they otherwise would have been. On your second point, the burden of taxes is not being shifted to the poor and middle class, despite the Democrat's rhetoric. It IS true that the bulk of the tax cuts Bush has proposed will go to the rich. But the rich already pay the bulk of the taxes. In fact, the poor and middle class will pay a smaller share of the overall tax bill AFTER the Bush income tax cuts than they do now. And the proportion by which their taxes go down will be greater. Now if you add in the repeal of the inheritance tax, then you are right: the burden of the overall tax bill is shifted slightly from the rich to the not so rich. That, the inheritance tax repeal, is the real regressive feature of the Bush plan.

Washington, D.C.: Do you think the equity markets are like jet airplanes that will stall into a dive if the engines powering them slowly fail to push them ahead at some minimum speed?

Steven Pearlstein: I'm not sure about the equity markets but it is true that once the economy slows down to stall speed, it becomes particularly vulnerable to negative shocks that can tip it into recession. And negative shocks come along all the time. As for the market, to the degree it anticipates the economy, this would be true as well.

Washington, D.C.: Steve, you're wrong about Bush's economy. The cyclical problems of state spending and the unemployment troubles can be remedied by leadership from the federal government. Bush is not providing it.

Steven Pearlstein: State spending problems could be helped by more leadership from Washington, as I said in response to an earlier question. But Bush is not responsible for the recession or the weak recovery. That's primarily a hangover from the bubble excesses that are still being worked off.

Washington, D.C.: Enjoyed your piece in this morning's Post, which focussed on the effects of more tax cuts and bigger budget deficits on long-term economic growth (something that is fundamentally driven by increases in capacity and productivity). Of course, the administration's proposed tax cuts are also being sold as a prescription for unemployment associated with sluggish short-term growth (which is more of a problem of under-utilized capacity associated with inadequate demand). One thing that bothers me about the current discussion of tax cuts and deficits is the constant confusion of these two issues (which some people who should know better are all too willing to exploit for the purposes of advancing their agenda). Any thoughts on this?

washingtonpost.com: The Truth: Tax Cuts and Deficits Don't Mix (Post, Mar. 12, 2003)

Steven Pearlstein: You've put it very well. One of the things I meant to say in the piece this morning, but ran out of room for, was that one way in which the Bush team has been intellectually dishonest is to keep mixing up short and long term problems and solutions. Temporary tax cuts and spending increases will help revive an economy performing below its potential, as Dr. Keynes taught us. But long run, paying for those tax cuts or spending increases through deficit spending is a loser for the economy, not a winner. For Secretary Snow to say the other day, as he did, that the reason we need to repeal the double taxation on dividends is to solve the short term problem of rising unemployment is utter nonsense, and really detracts from his credibility.

Chicago, Ill.: I do not understand why the market reacts to certain 'economic indicators'. The two in question to me are consumer confidence from U-Michigan and the productivity barometer. Both are based on subjective inferences and in the case of the former, on 5,000--out of 200+MM--people's opinion about state of the economy. Everyone truly knows productivity in the U.S. is about hours billed, not worked. 10 yrs exp in 3 different industries has taught me that we are no different than the 'German' productivity, it's a myth. Any thoughts as to why these 2 measures have any weight at all?

Steven Pearlstein: Markets react in the short term to these indicators not because traders (that's traders, not investors) believe that they will affect the economy but because they believe other traders will buy or sell on that belief. Mostly, its just noise--traders betting on the short term movement of stocks back on what they think the other traders are doing. As for Michigan, its a pretty reliable survey of sentiment and Dick Curtain is a very good analyst. But studies show that sentiment is an imperfect leading indicator for the economy, as you say. Productivity numbers have always been a problem and, particularly on a quarter to quarter basis, are meaningless. Over long periods they can be useful. I disagree that German productivity is as high as ours, as a general rule. It may be as high or higher in certain types of work places, like manufacturing plants or high tech labs. But in the entire retail and household service sector, government rules build in huge inefficiencies. And don't forget: those six to eight weeks of paid vacation pull down productivity numbers.

Washington, D.C.: Failing to assist the states so that they don't have to worsen the downturn and failing to assist the unemployed so that they don't have to stop spending are policies failures that worsen the recession and delay the recovery. Bush is harming the economy. No doubt about the fact, but doesn't it raise a question about the whys of it?

Steven Pearlstein: Worsen the recession and delay the recovery, absolutely. But Bush policies didn't cause it. And even if those things were done, they would help the situation but not cure it.

Bowie, Md.: What has to happened for the economy to "get over" the excesses of the 90s -- too much telecom hardware, too many expensive mergers, too many people trained in things like web design?

Steven Pearlstein: Primarily what has to happen is two things: capacity has to be reduced, largely through mergers and companies going out of business and closing their least productive facilities; and things have to be priced right so that companies can do business and make money. In the case of the airlines, for example, pilots have to be paid less (or work more for what they are paid) at the same time as the price of tickets has to rise. Investment bankers will have to get paid less and investment banks will have to charge less to take a company public. The problem is that prices are sticky, particularly prices for labor. And the process of repricing is not yet complete, as I see it.

Richmond, Va.: Since the mid 80's, I've watched, in my community, a displacement of the middle class; by a shift of some into an upper class and a shift of many others into a class that is heavily in debt. I read that bankruptcy is at an all time high and that foreclosures are are soaring.

On top of this, companies are increasingly contracting out engineering and high tech work to lower wage countries and using H1B immigration as a way to control wages for Americans.

Sometimes I wonder if we have taken capitalism too far. I've always questioned trickle down economics but for some ironic reason it seems those who are hurt most by it work the hardest to promote it.

Steven Pearlstein: Many people have this nagging feeling that we've taken market capitalism too far. That's a perfectly valid observation, and there are lots of things other advanced countries have done to tame it. The problem is that experience shows there are costs to that in terms of economic growth and efficiency. The trick how and what you do to tame capitalism so as to minimize these costs. And, of course, not everything is economic: people may be willing to pay an economic cost to achieve non-economic goals, such as fairness or justice or a slower pace of life.

Steven Pearlstein: Thanks folks. Enjoyed it. Keep reading.


That wraps up today's show. Thanks to everyone who joined the discussion.

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