Davos prescriptions for the U.S. economy

By Chrystia Freeland

DAVOS, Switzerland – Get ready for a new elite consensus on the U.S. budget deficit. One of the functions of the World Economic Forum – decide for yourself whether this is a virtue or a vice – is to give the plutocrats a venue for figuring out their party line. Think of it as crowdsourcing for the 0.1 percent.

For a long time, the conventional wisdom among this crew has been that the deficit and the debt were the United States’ chief economic problems. That’s why I wasn’t surprised when Martin Sorrell, the head of the global communications giant WPP, referred to the deficit as the country’s most important economic issue at a breakfast discussion he moderated at the forum this week. The conversation was off the record, but when I asked Sorrell if I could quote his comment, he happily doubled down: Not only was the deficit the United States’ most important economic woe, it was the most important economic issue in the entire world.

“This is the world’s gray swan,” Sorrell told me, in a play on the idea of unpredictable, powerful “black swan” events, popularized by the financial scholar Nassim Nicholas Taleb.

Most of the panelists (disclosure: I was one of them) at the WPP conversation agreed with Sorrell – but that Davos consensus may be on the verge of shifting. One of the most convincing signs of that switch came from an interview I did here with Lawrence H. Summers, a Harvard University economist and a monthly columnist for Reuters.

Summers, as he put it himself, is hardly a radical – his resume includes stints as secretary of the Treasury, president of Harvard, and President Barack Obama’s chief economic adviser. He is also an academic economist in excellent standing: Summers was one of the youngest tenured professors at Harvard and a recipient in 1993 of the John Clark Bates Medal, which is awarded every two years to the best economist under 40.

Most importantly of all, when it comes to the deficit debate, Summers is a political protege of Robert E. Rubin, the Treasury secretary under President Bill Clinton whose hawkishness on the deficit was so iconic that it inspired the always quotable political maestro James Carville to muse that he wanted to be reincarnated as the bond market, because it was, in the Rubin world view, omnipotent, a characteristic to which Carville aspired.

All of which is to say that Summers is the closest the Davos set comes to the Delphic Oracle – 150 people were turned back from his event this week – and a historic deficit hawk in very good standing. That’s why Summers’ relatively dovish comments about U.S. deficit reduction should carry such clout.

Summers’ most important point was that economic policy is more like medical treatment than religion. It isn’t a dogma that should be cleaved to under every circumstance. Instead, it is a doctor’s black bag, whose particular instrument depends on the specific patient.

Viewed in that way, there is no contradiction between supporting a hawkish approach to U.S. government spending in the 1990s and a more expansionary bias today. The world has changed, so the right policy needs to be different, too.

Here is how Summers explained it: “In 1993, here’s what the situation was: Capital costs were really high, the trade deficit was really big, and if you looked at a graph of average wages and the productivity of American workers, those two graphs lay on top of each other. So, bringing down the deficit, reducing capital costs, raising investment, spurring productivity growth, was the right and natural central strategy for spurring growth. That was what Bob Rubin advised Bill Clinton, that was the advice Bill Clinton followed, and they were right.”

But the fact that deficit cutting was the right prescription in the 1990s doesn’t necessarily make it the priority today.

“Today, the long-term interest rate is negligible, the constraint on investment is lack of demand, productivity has vastly outstripped wage growth, and the syllogism that reduced deficits spur investments and you’ll get more middle-class wages doesn’t work in the same way,” Summers said.

True believers in deficit reduction need not give way to complete despair – Summers insisted that deficit reduction was not “inconsequential.” It remained, he said, a “prudent defense” and a vital form of “economic hygiene.” Fail to deal with the deficit in the long run and the inevitable outcome is “economic catastrophe.”

The crucial difference, he argued, is that, in contrast to the 1990s, deficit reduction “does not constitute the basis for satisfactory growth strategy.” Instead, to get growth, particularly for the beleaguered middle class, you need what he gently calls “investment,” a category a budget hawk might simply term “spending.”

This conditional view of economic policy is a lovely example of the aphorism that “when the facts change, I change my mind; what do you do?” It is usually attributed to Keynes, but some pedants say the first recorded version was uttered by Paul Samuelson, the Nobel laureate economist who happens to be Summers’ uncle.

It is comfortable to take a religious view of economics – once you’ve chosen your creed, you never have to think again. But when it comes to deficits – and maybe a lot else besides – that may not be how the world works. Even in Davos, reality trumps ideology. /Reuters