May 3, 2012
U.S. Chose Better Path to RecoveryBy FLOYD NORRIS
Last summer, things looked bad on both sides of the Atlantic. There were fears of double-dip recessions, and stubbornly high unemployment rates. Stock markets swooned.
Now, the pictures appear very different.
The unemployment rate in the United States has been steadily falling, while the unemployment rate in the euro zone has climbed to its highest level since the currency was introduced more than a decade ago. There is still some double-dip talk in the United States, but in many European countries it is a reality.
In the United States, the Institute for Supply Management said this week that its survey of manufacturers showed continued improvement. As a group, companies say that overall business is better and that new orders are doing very well. They say they expect to continue adding workers. In the euro zone, a similar purchasing managers survey indicated that conditions were deteriorating.
In Europe this week, a meeting of finance ministers trying to negotiate details of how banks will be forced to raise capital — and whether some countries can require their banks to have more capital — produced no agreement but provided more reasons to doubt whether the banks are safe. In the United States, the Federal Reserve’s quarterly survey of lending officers indicated that lending conditions were improving.
No one factor made the difference in the divergent paths the two continents have taken. But there are two — both related to financial conditions — that were very important. In each case, it appears that the United States did a much better job.
The first one concerns the banks. The huge bailouts, started in the administration of George W. Bush and continued by President Obama, worked. The banks were bailed out, and the survivors were forced to recapitalize.
The bailouts have become generally unpopular, in no small part because many banks seem to still view themselves as masters of the universe. There is nothing more grating than an ungrateful welfare recipient riding around in a chauffeured Mercedes complaining that he is not being treated fairly. But the reality then — and now — was that a modern economy must have a decently functioning financial system.
It was also necessary to bail out the lenders at the center of the American home mortgage system, Fannie Mae and Freddie Mac. That, too, is unpopular in many circles, especially since there are politicians proclaiming that those two government-sponsored enterprises were the sole cause of the financial crisis. They were not, of course. Most of the really bad loans were made by privately financed lenders who believed they had little reason to care if the loans were good, since they planned to sell them immediately to investors. But Fannie and Freddie also reduced their standards in a foolish effort to maintain market share.
There is a fundamental dispute when it comes to setting bank capital standards. Requirements for high capital are often seen as discouraging lending, thus damaging an already weak economy. Too many regulators in Europe accepted that argument and delayed efforts to force banks to raise more capital. Unfortunately, whatever window of opportunity was there for them to raise capital at anything like acceptable cost has vanished with the spread of the sovereign debt crisis.
It turns out that forcing banks to raise capital can be critically important. If they turn out to need that capital, and don’t have it, then lending will dry up. The American regulators applied stress tests that appear to have been adequate, while the first European round of stress tests assumed that sovereign debt was safe. If you want to destroy public confidence, solemnly asserting something that is obviously untrue is a good way to start.That is a lesson that Europe seems to have not learned very well. In the immediate aftermath of the financial crisis, bank regulators around the world agreed on an outline for new capital rules, known as Basel III. It is up to each country to adopt those rules, and that process is not going smoothly. The proposed rules in Europe call for long delays in imposition and ignore the idea that higher-than-minimum standards may be appropriate for some countries and some large banks.
The meeting of European finance ministers this week failed to get an agreement on those rules. Britain wants to be able to impose tougher rules on its own banks, but countries such as France fear that would make their own banks look bad.
“We’re not implementing the Basel agreement, as anyone who takes a look at this text will be able to tell you,” said George Osborne, the British chancellor of the exchequer. “Every bank analyst, every financial journalist, every other finance ministry in the world would say that.” He added, “I am not prepared to go out there and say something that would make me look like an idiot five minutes later.”
Rather than argue with him on details, one finance minister simply asserted that looking like an idiot was standard procedure for ministers.
The other area where American policy seems to have worked better is monetary policy. The Federal Reserve’s purchase of large amounts of securities — known to some as quantitative easing — was critical in restoring liquidity to American banks and making it possible for them to continue lending. The European Central Bank avoided disaster with its own program to pump cash into banks but, as two Morgan Stanley economists, Joachim Fels and Elga Bartsch, noted this week, that move was “not a circuit breaker that transferred risk from the private sector to the central bank’s balance sheet.” It has bought time, but fundamental problems remain.
Of course a new crisis could reveal American banks are still undercapitalized, but they certainly are in better shape than they were. And a severe European downturn conceivably could stop the American recovery in its tracks. The Conference Board survey of consumers indicates that a plurality of Americans expects there will be fewer jobs six months from now. The disappointing jobs report that came out a month ago has revived some talk of renewed recession, even if corporate profits are booming. And the continued shrinkage of government spending, particularly at the state and local level, is obscuring the growing strength of the private sector.
The consensus forecast for the April jobs number, to be released Friday morning, is for a respectable 160,000 jobs, according to a Bloomberg survey of economists. The distribution of predictions indicates that there is much more fear of a negative surprise than there is hope for a positive one.
Perhaps such fears are inevitable after a financial crisis. But as of now, there can be little doubt that the American government handled the problems of the last year far better than did its European counterparts.
