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Friday, August 25, 2017

Is Brexit another Dunkirk?

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By Roy C. Smith

The stunning events depicted in the movie Dunkirk, one of the summer’s top sellers, was short on context so possibly not everyone understood that it was Britain’s worst military defeat in its long history, however heroic the effort to recover the soldiers from the French beaches on which they had been suddenly pushed by the German army in 1940. The British were unprepared for the war, despite plenty of evidence that one was coming.

Brexit is another effort by Britain to pull its troops out of Europe, despite plenty of evidence that it could trigger an economic disaster for the UK and probably the rest of Europe. The UK and the EU are mutually bound together in important (if troublesome) ways; breaking this link is a political failure by the Conservative government of David Cameron that threatens to strand Britain on the beaches again.

Brexit was the outcome of a public referendum last year on whether to remain in or to exit the European Union. Turnout was 33 million (72% of the electorate), with 51.9% voting to leave. Conservative politicians (including Donald Trump) acclaimed the result as creating new opportunities for Britain to separate itself from an expensive, low-performing economic club they would be better off without. Most observers believe that the voters (and Mr. Trump) had little understanding of what was really at stake.

Some of the troubling effects of Brexit are just starting to come into focus: About 50% of the UK’s $700 billion two-way trade in goods and services will be subject to new tariffs, Northern Ireland’s politically and economically essential open border with Ireland will be closed, and the City of London (Britain’s – and Europe’s - financial center which exports more than $20 billion to the EU) will be weakened and some of its functions and personnel will be forced to relocate within the EU. Britain, which has received nearly half of all EU foreign direct investment to date, will attract much less of it in the future.

The EU has insisted that before negotiations on “transitional” and “final” relations between the UK and EU can be started, the UK must agree to a “divorce” settlement in which the UK pays it share of all outstanding EU liabilities, which some have estimated to be as much as $100 billion. Further, the already weakened Pound, which has dropped 17% relative to the Euro since the vote, will likely slump further.

Britons will no longer have free access to, or employment opportunities in the 27 remaining member countries of the EU where 1 million Britons now work, and EU residents of the UK will leave, as many have already begun to do. Indeed, Brexit will deprive Britain of a modest but necessary immigration of willing workers from other EU countries, many of them skilled, which the UK needs to maintain its labor force and growth rate. The birth rate in the UK is 1.8, higher than many EU counties but still well less than the natural population replenishment rate of 2.1. It is true that open immigration was one of the more controversial things that UK voters disliked about EU membership, but most voters did not understand that the annual net immigration, though having risen slowly since 1993 to 248,000 persons in 2016, is only 0.4% of the UK’s population of 65 million. 

Britain’s departure will weaken the rest of the EU. The UK is the EU’s second largest trade partner (just behind the US), generating a net trade surplus for the EU of $135 billion. The UK, fortified by its long traditions of liberal economic policies, was always the free market champion of the EU, without which Europe may slide back to becoming the over-regulated, under-performing “Eurosclerotic” economy it was before 1986 when, with help from Margaret Thatcher, it adopted the Single Market Act that made the EU into the world’s largest free trade zone of 500 million people and a GDP today of $16.5 trillion. The Single Market Act (1987) was followed a few years later by the Maastricht Treaty (1992) that created the ultimate in unification, a common currency and monetary policy, even though each member was free to conduct its own fiscal policy. The UK, with Sweden and Denmark, opted out of the Euro to preserve its independent monetary policy.

The Single Market and the Euro were significant achievements that Europeans hoped would return the world’s economic center of gravity to Europe. However, despite twenty-years of initial success, the financial crisis of 2008 caused serious economic trouble within both the broader EU and the narrower Eurozone. Countries such as Greece, Ireland, and Portugal received significant (though reluctant) bailout assistance; having to assist larger countries like Italy and Spain would be hugely expensive and cut deeply into the resources of other member countries experiencing their own difficulties. Intra EU infighting and dissent blossomed. Economic growth dropped and unemployment rose.

Popular support for the EU and its principles were fading fast, but then really collapsed with the appearance of 1.3 million Syrian and other refugees finding their way into the EU through weak external borders in Greece and Italy. Once inside the EU, passports were not required to travel within it. Until, that is, individual countries began objecting to the unwanted flow of refugees and closed borders anyway. (The UK agreed to accept 20,000 Syrians, far lest than most of the larger EU members, but so far has only admitted 4,400).

About this time everyone of voting age in the UK was invited to vote for the UK to remain or exit the EU.

The Cameron government that called for the referendum to appease backbenchers always assumed that the voters would elect to remain in the EU; they lost largely because the voters did not really understand what they were voting for, seeing it, some observers said, as an opportunity to show their dissatisfaction with the government in place, which opened up opportunities to express dislike of immigrants, their distrust of globalization, and their longstanding grumpiness about giving up British sovereignty by letting a bunch of “foreigners tell us what to do.”

Since the vote in June 2016, the Cameron government has been replaced by one led by Teresa May, who officially began the two-year negotiation process with the EU in March 2017. She then called a snap election in June 2017 to fortify her majority, only to lose it. May’s government is now part of a coalition with the Democratic Unionist Party of Northern Ireland whose 10 seats in Parliament provide a very slender majority.

During the past year, the British economy has performed about the same as it had been before the vote. Growth in 2017 is expected to be about 1.5%, versus 2.0% for the EU as a whole. This is down from 1.6% in 2016. Some forecasts through 2020 show growth remaining at about this level. UK unemployment, however, is 4.4%, much lower than the EU average of 9.1%. The FTSE stock market index is up 8%. 

But the UK is still in the EU and will be for another two years. The real impact of Brexit won’t happen until then. Richard Portes, a prominent economist from London Business school, says both the EU and the UK will be worse off than before Brexit, but the impact on the UK will be greater than that on the EU. Fears are beginning to develop that in anticipation of Brexit, consumers will hold back and corporations will invest less and relocate facilities and personnel to the EU, which will slow growth in the UK further.

The May government, having committed itself originally to a hard-line “Brexit means Brexit” position, has argued for the past year that no deal was better than a bad one. Negotiations have now begun and many obstacles have emerged, but if no agreement is reached by March 2019, the UK “falls off the cliff” as all the benefits of EU membership are suddenly lost, tariffs are imposed, and hundreds of rules affecting Britons’ ongoing relationships with the 27 individual EU countries will have to be sorted out one at a time. 

Businesses with global supply chains and customers in the EU, and the Mayor of the City of London are among those lobbying hard for a less rigid approach. So, Mrs. May is now allowing talk about a “softer Brexit,” which would hang on to a “customs union” (access to the EU markets without tariffs) but avoid some of the other regulations imposed by Brussels. Norway is not a EU member but it was granted custom union status in exchange for adopting the EU’s principle of free movement of people across borders.  For the UK to do the same would require it to give up its resistance to the EUs free immigration rules.

The best thing might be to admit that the Brexit vote was taken without voters having a good understanding of it, as former prime minister Tony Blair has claimed, and have another one after an educational period in which credible and knowledgeable people debate the pros and cons. But that would be a very heavy lift for the May government, so it seems unlikely. The opposition parties, of course, probably will try to defeat a weakened Mrs. May in a vote of no confidence in Parliament, to bring on another election before 2019.  If that happened and the Conservatives were defeated, a second referendum or some other way out might be achieved.

In the meantime, the British people are hostages to the results of their ill-considered and poorly managed referendum.  Being cut off from Europe and stranded on their little island will bring unnecessary hardship to the UK, but there is still time to minimize it, or better yet, to have another vote that at least would enable people to know what they are in for.  Otherwise, the old British “bash on regardless” approach begun by Mrs. May is likely to end up having fallen off the cliff, which would be the worse of the possible outcomes.

Well, they survived Dunkirk, and they will survive Brexit too, but at what cost?
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Thursday, August 17, 2017

Democrats Need to Learn to Love Business More

by Roy C. Smith  

November 2016 was disastrous for Democratic Party office holders nationwide. Not only was the presidency lost to a person most democrats thought was horribly unqualified, so was control of both house of Congress.  And, according to the National Council of State Legislatures, over the past decade Republicans have gained control of 68% of state legislatures, the highest proportion ever. Some polls suggest that only 25% of voters identify themselves as “liberals” and two-thirds think “big government” is the main threat to the future.

This has occurred despite evidence that wage rates had been stagnant for years, US levels of income inequality have reached peak levels for modern times, and several years of blaming Wall Street and big business for the sufferings of the American “middle class.”  

Rescuing the middle class from all this was a strategy Barack Obama devised. But what the middle class was, was unclear. According the Urban Institute, the middle class represented 78% of the US population in 2016, of which the “upper middle class” was 29% (up from 13% in 1979), and the “lower middle class” was 17% of the population (down from 24% in 1979). “Working Class” Americans that account for approximately a third of the population, according to some sociologists, are sometimes defined as those without college degrees who are part of the lower and middle sectors of the middle class.

Democratic Party supporters over the years have come from the working class, minorities, women and an assortment of intellectuals and entertainers. It has relied heavily on support from labor unions, though union membership dropped to 11.3% of the workforce in 2013, down from 20.1% in 1983. The percentage of union members in the private sector was only 6.7% of the workforce, while those in the public sector represented 35.3%.

In 2016 the Democratic Party, represented by its centrist standard bearer Hillary Clinton, was splintered by assaults from two different directions: socialist Bernie Sanders, who promised a more radical platform, and by Donald Trump, who appealed to some deep-seated concerns of working class people angry with the way things had turned out for them.

The thumping Democrats took at the polls has called for a rethink of what the party considers to be its basic principles. Democratic Party strategists Mark Penn and Andrew Stein recently published an OpEd in The New York Times (“Back to the Center, Democrats”) calling for a shift to the center, but others have insisted that it move further to the left instead. Senator Elizabeth Warren, a likely candidate for the Democratic nomination for president in 2020, said in a recent speech, “Liberals (i.e., the far left) are not a ‘wing’ of today’s Democratic Party, we are its heart and soul.” She went on to indict a “rigged system,” that imposed basic inequities on women, African-Americans, undocumented immigrants, and LBGTs.   

The election revealed that many middle class Americans feel that both Republicans and Democrats have done a poor job running the country over the past two eight-year administrations. During that time, economic growth has averaged just 2% per year (as compared to 3.5% for the prior 50-years), despite government stimulus plans and steady increases in public entitlements (health care and social security now account for 60% of the federal budget) that have raised the federal debt level to 106% of GDP, the highest since WWII.

The dilemma for Democrats is that Keynesian policies don’t work well when unemployment is low (4.3%) and the debt level is at its limit, and to decrease income inequality it would have to increase entitlements, and/or raise taxes on the upper middle class and the affluent, something Barack Obama was unable to do.

Further, many in the middle class may not be suffering as much as advertised. For example, most of the country’s $89 trillion of “household net worth” reported by the Federal Reserve in 2016 is owned by middle class Americans.  This is the sum of families’ savings, pensions, real estate and other investments at market values, less mortgages and other debts, after taxes, tuitions and other essential payouts. Household net worth has grown by a third since 2006, despite the financial crisis and recession, indicating that average American families have not been missing out on prosperity improvements over the past decade, and may indeed be more concerned by higher taxes, more entitlements and increased federal debt.

So, perhaps not all of the 250 million Americans classified as middle class want to be rescued by policies that might hurt them elsewhere. Most of America’s 5.5 million small businesses are owned and operated by middle class people wanting to preserve and expand what they have worked hard to create.

American has long had a love affair with its small business community that produces 46% of US GDP and much of its growth. But the love affair has not extended to larger enterprises, even though about 50% of all private sector employees work for the 12,000 or so “large enterprises” that are publicly owned (of which only about 5,000 are traded on the NYSE or NASDAQ). This is partly because of innate distrust of Big Business in America, but also because of criticism, litigation and general disparagement of it by Democrats during the Obama years. Large enterprises, however, are essential to US economic growth, make most of the investment in research that provides the technology innovations that sustain the economy, and pay most of the taxes of the private sector.  Large and small corporations together employ 85% of working Americans. It makes little sense to turn them into enemies.

When it is explained to them, most Americans seem ready to believe that the governing principal of the American enterprise system, the world’s most successful for 200 years, has been free-market capitalism. But this particular form of capitalism operates within an active and robust democracy, which through its legislatures and courts imposes rules and regulations that limit the role and influence of corporations. And, the system has evolved significantly over the years to institutionalize rights of workers, women, and minorities and to check abuses of size and power.  Most Americans know how important the free enterprise system is to the country’s future prosperity and don’t want to risk damaging it.

Democrats today seem convinced that Donald Trump’s personal behavior and inexperience will cause him to stumble, and they will slide back into power. But there is no evidence as yet that anyone else, Democrat or Republican, has a level of support equal to Mr. Trump’s 40% approval rating, however low that may seem to some.  If the only thing going for Democrats is that they are not Trump, then they may be much weaker than they think. Voters have kept them from office for a reason – they don’t have confidence in their ability to govern, especially if the party moves further left.

Democrats need to pay attention to Messrs. Penn and Stein and move the other way, back to the center. At a recent conference for Democrat bigwigs in Aspen, Jon Cowan, president of Third Way, a research group, echoed their sentiments and added “income inequality is severe,” and some parts of the system are unfair, but these are not central concerns to most Americans and many of the approaches to addressing them interfere with their own aspirations. There was plenty of pushback to the idea, of course, but no consensus emerged as to how the party’s message or policies ought to change.

When asked what the main concern of voters was in 1990, Bill Clinton said “it’s the economy, stupid,” emphasizing how obvious this was. The economy is in worse shape today, and it is still the main concern, but there are fewer government resources available to try to fix it.

Rather than attempt big programs to address unfairness in the system, which Congress is unlikely to approve, Democrats should realize that being more business-friendly, less litigious and regulatory-minded might enable the free enterprise system to catch its breath and get back to its job of improving the growth rate.  That is something voters did like in the Clinton years.

Wednesday, August 9, 2017

Republicans Need to Embrace “Liberal” Economics

By Roy C. Smith

63 million people voted for Donald Trump in 2016, a flamboyant political outsider and neophyte, who somehow captured the primary elections by defeating a dozen more traditional Republican candidates, and then went on to beat a very well- known and well-entrenched Democratic superstar. It is true that fewer votes were cast for Trump than for Hillary Clinton, but his voters were in the right places so he won the electoral contest.

Just prior to the election, 39% of American voters (according to Pew Research) identified themselves as “independents,” 32% as Democrats but only 23% as Republicans.  Having such low popular appeal may be the reason why the Republican Party selected such an odd candidate, one with no Republican ties or credentials and little history of supporting Republican issues. This suggests that the ever more narrowly focused, post-Reagan GOP was already imploding even before the election.  

“Progressive” Democrats (as opposed to Progressive Republicans of Theo. Roosevelt’s time) led by Barack Obama were aiming to right the wrongs done to the American “middle class” by the George W. Bush administration, and make the economy fairer for all. But once Obama lost control of Congress after passing the controversial Affordable Care, and Dodd Frank Wall Street Reform Acts, there was little else he could do except by Executive Orders that could be reversed.  Hillary Clinton was seen to be Obama’s third-term, who would continue to swing the pendulum towards socialism. She won 66 million votes, but lost.

This happened after an unprecedented 16-year economic slowdown, involving two recession-producing financial crises, the 9/11 attack and two wars. Economic growth in the US that had averaged 3.5% for the previous fifty years was, since 2000, reduced to 2%. This period captured two eight-year presidential administrations, one Republican and one Democrat. Neither satisfied.

Both parties were seen also as having failed on the international front. Bush, for having launched a useless but intractable war in Iraq (and upsetting allies in doing so), and Obama for having “weakened” American power by turning soft in the Middle East, seeking a nuclear agreement with Iran, and generally loosing influence among allies and adversaries alike.  Both administrations, however, defended “globalization” as an unavoidable but beneficial fact of life for an economically connected world, and tried to bring about a sensible solution to America’s perceived immigration problems. Neither satisfied.

American wasn’t listening. Discontent with economic and foreign policies that Mr. Trump perceptively claimed was hurting the average person became rampant, and spread around the world. The UK approved of Brexit, apparently without understanding what it would mean; Western democracies in Europe and Japan began to reject elected governments and policies that had stood for openness and freedom; and other governments (Russia, China, Turkey, Poland, Hungary) that had previously been drawn towards these principles, began to turn away towards more authoritarian alternatives.

These developments prompted Bill Emmott, a former editor of The Economist, to write The Fate of the West, a thoughtful book published this year on what went wrong to tarnish the “world’s most successful idea,” that of Western liberal democracy. (“Liberal” used in the British sense, meaning being based on personal liberties). Emmott argues that the democratic system of governance that began in America two hundred and fifty years ago produced the best results history has ever seen in terms of economic development, prosperity, equality and the ability to preserve itself by being open to new ideas, free-market competition and political flexibility.  Emmott fears, however, that this best of all Western ideas has failed to deliver its expected promise over the past two decades, and is in danger of being replaced by “alternative” approaches to modern political-economic governance.

Certainly, Emmott is right in noting that the ability of the Republican Party, which has stood for trade, commerce, small government and free-markets for years, has lost its ability to sell them to the voters. Indeed, both political parties seem to have lost interest in promoting the notion of the broad common good in favor of sharply partisan programs that often are wrongheaded, ineffective or mistimed, and only appeal to narrow bases of the parties.

Republicans need a large tent so as to attract supporters from all walks of life and classes who must always be able to believe that there will be room for newcomers like themselves, or their children, to rise to the top. The tent could be filed with “independents” looking for common sense approaches to policies that will work for everyone, not just a hyperactive base of extreme true-believers.

Western liberal democratic ideas are perfectly suited to a big tent - the more under it the better. However, it is on the Republicans to make the case that free-market capitalism in a democracy only works well when it has the support of the people. The rights and privileges of capitalists have to be balanced by a system of laws and regulations that afford reliable protection for the rights of workers, minorities and, yes, property owners too. There must also be checks and balances throughout the system so the already rich and powerful don’t get to dominate outcomes, and everyone can have a fair shot at success. And, personal liberties to choose how one wants to live, pray, reproduce and protect oneself must be preserved, and limited only by the need not to endanger others. The less interference with these personal liberties, the better.

The Republican Party has to go back to its basics as it tries to rebuild the popular support it needs to be viable in the future; economic growth with fair play, efficient but minimal government, and the defense of personal liberties. There are other organizations people can join to advance their social, religious, or ethnic preferences.

But if the Party is going to go this way, it will need to be able to explain some of the basics of globalization, immigration, and health care to its supporters.  

For example, a 2014 study by The Economic Policy Institute reported that between 2008-2013, a net loss of 1.3 million American jobs occurred because of trade with China (3.2 million since 2001). This loss occurred when the US workforce averaged 156 million, so it only resented 0.8% over a five-year period, not so much. Though the US economy has underperformed prior post-recession growth rates, the workforce now has 160 million and an unemployment rate of 4.3%, and a great many workers affected by Chinese and other foreign competition have found other work. There really is no “carnage” here.

A good position for the Republican Party to take on globalization is that, on balance, free-trade keeps American corporations competitive and helps more Americans than it hurts through lower prices and jobs with foreign companies in the US, but some things need to be done to keep it better balanced. Such things as robust negotiations with foreign trade partners to be sure dumping of goods in the US does not occur and that barriers to US exports are removed. There also needs to be more and better job retraining provided for displaced workers.

Mr. Trump also got a lot of traction from his hardline immigration policies, with no one from the Republican Party arguing for the moderate and practical approach George W. Bush took, but could not carry, in 2006. The simple truth is that America needs immigrants to fill in for the loss of workers that our aging population has created, so we need to admit some immigrants, including a good number who prop up our agricultural, hospitality and construction industries. Recent studies have shown that first generation immigrants (legal and illegal) are an expense to taxpayers, but subsequent generations contribute far more tax revenues than they cost. But, border controls and enforcement of visitation rights are important too, and should be stressed.

And there is health care, an area where Republicans have been operating against their own interests and those expressed by the electorate through polls. An essential opposition to creeping socialism has caused Republicans to oppose national health care programs. And they have defended the liberties of doctors and others who don’t want to be told how to treat patients by government bureaucrats. But, over many years, changing technologies, the new economics of the insurance-based US healthcare industry, and some creeping socialism have reached a point that requires the traditional Republican positions to be reexamined in the interest of providing healthcare services all Americans want, but providing them more efficiently. 

A 2013 study published in The American Journal of Public Health showed that US government tax-funded expenditures accounted for 64.3% of all U.S. health spending, and The Affordable Care Act would increase that figure by only 3% to 67.3% by 2024.  The expenditures include direct government payments for Medicare, Medicaid and the Veterans Administration (47.8% of overall health spending), government outlays for government employees’ private health insurance coverage, and tax subsidies to other health care programs, made up the rest. US healthcare expenditures per capita are the highest in the world, exceeding those even of countries, like Mr. Emmott’s UK, with full universal coverage systems.

So, if the present system is already covering two-thirds of the population, and not cost-effectively, maybe the system would work better if Medicare covered everyone and everyone paid into it in some way (like everyone does for Social Security). This made be too heavy a lift for present Republican leaders, but future ones might offer an open mind on the subject.

The world’s most successful idea should not be forgotten by modern Republicans, especially at a time when Republicans control all the branches of government but the public does not think it is doing a good job. Realclear Politics scoring currently shows 26% more people think the country is heading in the “wrong direction” than in the right one.

There is still time to Republicans to embrace Liberal economic principles before this administration leaves office, though it probably won’t be easy. The party may not survive its conservative base if it doesn’t.