U.S. May Be Getting Too Optimistic

There is an air of almost blind optimism about the outlook for the U.S. economy that is puzzling. To be sure, things have not looked better for some time, but looking better and being better are two different things.

Because things are looking so good now, concern about severe internal and external imbalances is low. “If it ain’t broke, don’t fix it” seems to be the feeling.

We talk excitedly about the sheer mass of the federal budget deficit, but odds are that we will do nothing about it this year. Why? Because there does not appear to be any good reason to do anything about it. All the scare stories about the horrendous consequences of a burgeoning budget deficit have come to naught--thus far. So, why worry?

We wring our hands over what is thought to be a grossly overvalued U.S. dollar and write yards of material about its consequences. Yet, nothing happens as the dollar chugs ever upward except that the rate of inflation gets lower and lower and the foreign capital keeps pouring in. Who wouldn’t like to have those kinds of problems?

There is no doubt that, in many respects, the U.S. economy has more positive things going for it than most would have guessed four or five years ago. And yet, I can’t help feeling that, in some respects, we are living in a kind of excessively optimistic situation that simply can’t go on much longer.

For instance, does it make sense that the United States--the richest country in the world--should be financing its internal budget deficit by sucking huge amounts of savings out of other countries--in most cases, from those that need to keep the capital?

Does it make sense that the United States, a country that a few years ago was seen as a political and economic bumbler, is now considered the political and financial equivalent of the Holy Grail despite its net debtor position with the rest of the world?

Does it make sense that the dollar should have increased by 60% to 70% against the currencies of its major trading partners in the past four years, even if we did install Federal Reserve Board Chairman Paul A. Volcker at one end of Washington and Ronald Reagan at the other?

Does it make sense that, despite an extraordinary recovery in U.S. business investment in new productivity-enhancing machines and equipment, very little of the improvement seems to be flowing through to domestic manufacturers of capital equipment, especially not to, of all people, the makers of high-tech products, America’s specialty?

Does it make sense that, in spite of all the money being spent on improving productivity, the actual figures that measure the success of that productivity in this recovery are still substantially below the norm?

Does it make sense that, three years into an economic recovery, the federal budget deficit is rising, not falling, and that, relative to gross national product, it is not far from where we left it at the peak of the last recession?

Does it make sense that, regardless of how much the Reagan Administration or the Congress insist they have done to restrict spending, the growth path of total outlays (including, importantly, defense) varies not a whit from a pattern that has been in train for at least 20 years?

Despite heroic achievements in slowing the non-defense components of the federal budget, what was saved elsewhere was spent on defense; indeed, if we look at total outlays, it is difficult to tell the difference between this Administration’s policies and those of any other in the past 20 years, regardless of party. We have done absolutely nothing to alter a basically rising trend of outlays within the context of the overall economy.

Where this Administration has made a difference is on the revenue side of the federal budget. There, we have definitely lowered the government’s take relative to where it has been headed for years and crimped it permanently by indexing the income tax brackets starting this year. No longer can the government benefit by its own inflationary mistakes--which would be fine if only we had done the same thing on the spending side. Since we didn’t, we are now faced with a chronic budget deficit of at least 5% of GNP to and beyond 1990, and even that assumes no recession in the near-term future. A recession, of course, would push it much higher. Even 5% of a 1990 GNP is nearly $300 billion, on which the interest bill is not peanuts.

The second thing that bothers me about this optimism is productivity. If we are the wunderkind economy of the world today, why is it that our productivity is so poor? To make matters worse, we all know that the greatest growth areas for the future are in the services-related businesses. Well, guess what? That’s what is making our overall productivity results so poor. It must be so because the manufacturing industries, taken alone, have shown excellent productivity performance recently compared to the past. If efficiency in these industries (directly under the gun of a strong dollar) is doing well and the overall economy is not, the problem must lie in the service-related areas. But wait! They’re our hope for the future!

Our other hope for the future is in high-tech capital goods. And yet, in a recent study, it was estimated that more than one-third of the burst of merchandise imports during the past two years was accounted for by imports of capital goods. Within that segment, more than two-thirds of the increases could be accounted for by rising purchases of foreign-produced high-tech capital goods. Imports of computers and office equipment, for example, have increased by 150% since the fourth quarter of 1982.

Which brings me to the third thing: the status of the U.S. dollar. Do not bring me those studies, complete with all the fancy equations and bells and whistles, saying that the dollar is not overvalued. Certainly, do not try to tell such stories to a typical manufacturing executive unless you are accompanied by a bodyguard. Do not tell me that this will go on indefinitely or that, if it does change, there will be no inflationary consequences. Do not tell me that there is nothing wrong with the United States running a $150-billion international payments deficit indefinitely. It all sounds like the reasoning that people dream up after they have been wrong for a long time.

Of course, I have no better explanation than anyone else as to why the dollar has done what it has done, but I can tell you that I am increasingly uncomfortable. I fear that the high-flying dollar has been like a rose-colored mask at Mardi Gras, glossing over some of the realities of our economic situation. There is a sinister calm over the cost and price structure of the U.S. economy as the dollar masks the true underlying rate of inflation.

The lack of concern over the federal budget deficit may be a direct result of the dampening effect on interest rates created by the rising dollar and heavy capital inflows from abroad. It certainly gives plenty of ammunition to those who would have it that the budget deficit is neither the problem nor even a problem for financial markets or inflation. But that’s part of another set of apocryphal stories for which I don’t have patience. It is my best guess that the higher the dollar goes, the greater the likelihood of major, unpleasant surprises across most of the fronts on which we are at the moment complacent.

I realize that it is fashionable to be bullish on America these days, and heaven knows it’s a great feeling compared to the dog days of the late 1970s. But, until someone can satisfy me that all these imbalances are of no consequence, I’m going to keep worrying.

The image of America has changed for sure, but some of the real things haven’t. And image alone won’t carry us in the long run. While the world does seem to think that we have managed somehow to shrink the entire U.S. economy down onto a microchip somewhere in Palo Alto, many of the problems that five years ago caused us to be branded a hopeless case as a country or a currency have not exactly disappeared.