Economist James K. Galbraith isn’t celebrating Dow 25,000
By GREG ROBB
Pardon James Galbraith if he sits out the celebration of Dow 25,000.
University of Texas economist Galbraith, the son of the famous Harvard economist John Kenneth Galbraith, believes mainstream economists and the Federal Reserve are too wedded to old ideas to see what is really going on in the economy. Specifically, Galbraith is worried that the consumer is the only game in town — and that can’t last.
Galbraith used his latest book “The End of Normal” to lay out his case that the 2007-08 financial crisis wasn’t just a brief interruption in the life of an otherwise healthy economy but instead the latest crisis for an economy that lost its footing back in the 1980s.
At the American Economic Association meeting in Philadelphia, MarketWatch asked Galbraith to share his views on the economic landscape.
MarketWatch: You are not so impressed by the economy. Are people just overlooking our problems because the Dow Jones Industrial Average keeps going higher and higher?
James Galbraith: The Dow DJIA, +0.81% is not a serious indicator of the condition of the economy. What we’ve had is a long but fairly slow expansion and a lot of reduction in the effective size of the labor force. Employment ratios have risen a little, but they are still way below where they were 10 or, for that matter, 20 years ago.
I think there are really major changes in the structure of the economy going forward. The share of business investment has been quite low, share of construction has been very low, and that means the economy is being driven increasingly by the consumer. The consumer is dependent upon the access to debt, auto loans, consumer loans and student loans. Those things will build up over time until such time as there is a crack and households decide that they no longer wish to access the credit — at which point this phase of the expansion will end.
It is a party that has to end?
I wouldn’t call it a party, because it is really not something that is going on at any enormously rapid rate. But anything that is dependent on household debt is going to end up running into problems sooner or later, and that is the situation we’re in.
The Fed seems to be stumped by the lack of inflation.
There hasn’t been inflation in the economy since the early 1980s. It collapsed with the end of the Soviet Union and with the rise of China as a supplier for consumer goods. So the Fed has been patting itself on its back for decades [of] holding back a phenomenon that doesn’t exist. [The Fed is like] the little Dutch boy with the finger in the dike who never troubles himself to look over the levy to see that the lake is dry. Economists have fed into that with this completely made-up view that it is the central bank that drives the inflation process — it is not.
The Fed is trying to inch up interest rates. It this wise in your view?
What they’re doing now, I think, is driven by their sense that it is historically normal to have a higher short-term interest rate. The problem is that having had the short rates low for such a long time, the long rates have come down. So what was historically normal before is no longer relevant. As they raise the short rates, they are going to cause trouble. The main trouble they’ve been causing is the rise of the dollar with respect to everything else. And that is going to make imports cheaper, exports harder. It is going to diminish the internal competitiveness of the economy, diminish internal employment. I suspect the Fed will be reluctant to cause too much chaos because they recognize that, once you have a very flat yield curve, you destabilize the financial markets. But to the extent that they pursue this particular line, they are going to run into that difficulty.
The central bank thinks the long-term unemployment rate is 4.6%.
There is no Phillips Curve, and there hasn’t been for decades. The supply of labor is not a constraint. If you wish to pay people higher wages, you could lure people back out of retirement. Net immigration has basically stopped. If you needed more workers, it would start up again. So we don’t have a real labor-force constraint. We are not going to get inflationary pressure from the labor markets. It has been 40 years. Economists are slow learners, and central bankers are a slow-learning subset. They should recognize that things did change in the 1980s.
Workers cannot bargain for higher wages?
There is none of the bargaining power that existed in the 1950s and ’60s when you had a union-driven manufacturing sector that could negotiate steady increases in wages. That hasn’t existed since the 1980s.
What’s your take on the Republican tax bill?
It has been subject of some high, fanciful reasoning — Robert Barro arguing it is going to increase the capital/labor ratio. This is based upon another bit of completely illogical theory, long discredited. The fact is, just by giving firms a higher corporate cash flow, they are not going to invest it just because they get a tax benefit. They are going to need to see profitability in new shopping malls or whatever it is they are going to build so long as there is a glut. Businesses are sensible. What are they going to do? It is very clear. First of all, they are going to buy back their own shares. That’s been driving the stock market up. That’s why the Dow is where it is. And the consequence of that is — it is certainly very good for the executives, but it actually has very small discernible effect on business investment.
So it is just a windfall for businesses?
It is windfall for shareholders and for businesses. And that was the point. It was a tax cut written by the Republican donor class to reduce its tax burden. And it puts pressure on states and localities to cut their taxes and their services. So we’ll feel the effect down the road. The effect will be largely in the pretax distribution. Incomes at the top will go up. And unobserved in the income distribution there will be cuts in the quality of services — schools and roads and sewers and so forth — that the general citizen relies on.
What should be done about income inequality?
I think what one needs socially is to address the needs and demands of the larger citizenry. And that is for a better sense of security — stronger social insurance — obviously universal health care is part of that. Debt-free access to college education would be part of that. That is an appealing agenda for the public.
Some of that would affect the quality of life but not show up in the income statistics. Because we’re not talking about people’s private incomes. So I think one has to be careful about treating the private income distribution as the dominant thing that one should care about. Sometimes you have a problem in that area you can solve it better by taking sort of a broader social approach.
You talk about how China and other countries are passing the U.S. by.
I think that is clearly the case in the wider world. The Chinese have engaged in an extraordinary exercise in engineering in recent years domestically, building 12,000 miles of high-speed rail. They now have vast engineering capacity, and they are applying it to their periphery — a One Belt One Road network that will orient commerce across Eurasia and into Africa as well that is in the interest of furthering Chinese development. This is on a scale which dwarfs anything that is being conceived of in the United States.
Trump came in with the idea that we should be investing heavily in infrastructure. He got no traction from the Republican Congress. Why is that? Because the immediate beneficiaries of an infrastructure program are people who live in cities, people who live in the expensive coastal areas of the country — and these people don’t vote Republican. So a political obstacle that prevented the one sensible or necessary element of Trump’s political framework from getting any traction at all.
In your view, the banking sector still needs serious reforming?
There is a huge need to cut the size of the financial sector, to have smaller banks that have more autonomy from each other, that serve smaller businesses, and that are not concentrations of political power and obstacles to effective regulation [as] the present banking system is. You cannot have a functioning economy, let alone a democratic government, if the banks are running the government. You have to have a situation where banks, which are publicly chartered institutions, serve a public purpose with some common objectives. Some banks blew out the mortgage market, [and] they blew out technology investment two decades ago. What are they doing now? They are financing energy investments, and they are financing consumer debt. This is an almost brainless approach.