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The Paradox of the 21st Century
January 01, 2005
By: Faruqui, Ahmad
[First published in 2004]

In a presidential election year, everything generates controversy, and the state of the economic recovery is no exception.� The economy grew at 4 percent in the fourth quarter of last year.� Is 4 percent growth good or bad?� Depends on whom you ask.� Not surprisingly, when the growth data were released, President George Bush said, "The economy is strong and getting stronger."

However, what Bush saw as strong growth, others saw as signs of slowing growth.� Encouraged by the heady growth of 8.2 percent in the third quarter, economists had been expecting a number like 5.0 percent.� Shares in New York and London fell on the following Friday as the weaker-than-expected U.S. GDP data cast doubt on the pace of the U.S. economic recovery. �

The news also spurred a sharp rise in U.S. Treasury prices while the dollar weakened immediately.� Analysts questioned whether consumers, whose spending has led the recovery from the 2001 recession, might be flagging.� The U.S. Commerce Department said consumer spending, which accounts for two-thirds of the GDP, rose at a 2.6 percent pace in the fourth quarter, a sharp slowdown from the heady, tax-cut induced 6.9 percent gain of the prior three months. Growth in business spending and residential investment also slowed.

Orders for big-ticket manufacturing goods were flat in December after taking a nosedive in November.� Economists had been forecasting a growth of 2.0 percent.� Additionally, sales of new homes ended 2003 on a lackluster note, declining by 5.1 percent in December from November. �

According to a recent survey by McDonald Financial Group (MFG), even wealthy Americans are concerned about the outlook for the U.S. economy.� While the "Affluent Consumer Confidence Index" rose to 56 in early January from 49 in October, its rise masked latent fears about the sustainability of the economic recovery.� "In stark contrast to the economic boom of the 1990s, affluent Americans seem to be taking a more cautious approach to spending and investing," MFG said.� Forty-five percent of those surveyed said they had cut down on holiday purchases in 2003 compared with 2002.� And a meager 29 percent said they would put more money into stocks over the next three months. �

While the president put a positive spin on the economic news, for out-of-work Americans it did not feel like better economic times.� Job growth has been slow during the tenure of the Bush administration. Payrolls grew by a scant 16,000 jobs in December, disappointing economists and frustrating jobseekers.� The economy has lost 2.3 million jobs since Bush took office in January 2001.� Pete Stark, a Congressman from Fremont, California and the senior Democrat on the Joint Economic Committee, notes, "There is little to celebrate when growth doesn't benefit workers.� President Bush has been quick to take credit for the economic growth, but he has yet to take responsibility for the nation's 8.4 million unemployed."

Bill Cheney, chief economist at John Hancock, noted, "Even though I'm generally confident that the recovery remains on track, it's hard not to be somewhat concerned, especially given the continued weakness in the labor market."� The dollar fell to two-week lows against European currencies on Friday, after a disappointing monthly U.S. unemployment report dashed hopes that the onset of rising interest rates would be moved forward.

The biggest uncertainty in the economic outlook, of course, is the size of the U.S. budget deficit.� The U.S. Congressional Budget Office has estimated that the budget deficit will hit a record $477 billion this year.� The Concord Coalition predicts that the cumulative budget deficit over the next ten years will become $5 trillion, if the tax cuts enacted by the Bush administration become permanent.� Economists estimate that the government's indebtedness would reduce annual household income by about $1,800 a year because of slowed growth. �

There is increasing pressure on the Federal Reserve Bank to raise interest rates from the current level of 1 percent level, a 45-year low.� Interest rates will need to rise at some point to attract foreign investment to finance the federal debt.� As interest rates rise, they will affect the consumer's pocket book.� Bankers estimated that if mortgage interest rates were to rise by one percentage point, an American family taking out a 30-year mortgage for $250,000 will owe another $2,000 a year to the lender.

During his State of the Union speech, President Bush stated his determination to cut the budget deficit by half over the next five years.� Vice President Dick Cheney repeated this statement at the Davos summit, which drew more than 2,000 delegates from 90 countries.� However, a new study by the Brookings Institution in Washington, D.C. shows that a reduction of this magnitude can only be achieved by implementing painful measures.� The study finds that tax cuts for the top income brackets will have to be rolled back, not made permanent.� The middle class will have to share the pain as well, as higher age requirements are instituted for Social Security and Medicare premiums are raised.� Finally, even the poor will be hurt, when the federal government reduces is Medicaid payments to state governments.� �

The Bush tax cuts have stopped the growth in federal revenue.� Individual and corporate income taxes are expected to equal 8 percent of the economy this year -- the lowest level since 1942. If the tax cuts were made permanent, the 1 percent of families with the highest incomes would receive $159 billion in breaks in 2014 alone.

Stephan Roach, chief economist at Morgan Stanley, says that the U.S. economy is going through an "artificial recovery" compared to the real growth registered in countries like China.� Economic growth is being achieved "at the cost of lots of structural imbalances and a lack of job recreation."� He is concerned that the economy is running on cash cuts and debt.

Robert Higgs of the Independent Institute in Oakland, California reports that the $401 billion defense budget for 2004 greatly underestimates total U.S. defense spending.� When he adds together all defense-related spending in the U.S., the tab for the U.S. taxpayer comes to $754 billion, 88 percent more than the official budget. �

William Rhodes, the chairman of Citibank, summed up America's predicament at the Davos summit by saying that the uncertain shape of the recovery of the U.S. economy poses a risk to the global economy, which has developed an over-reliance on the U.S.� The world needs Americans to spend fast enough to keep factories humming in Europe and Japan, but not so fast that American debt becomes unmanageable.� This is the paradox of the 21st century.