Early in Bill Clinton’s presidency, his populist advisers saw their spending plans crash into resistance from Wall Street, which demanded deficit-cutting austerity.
“I used to think if there was reincarnation, I wanted to come back as the president or the pope or a .400 baseball hitter,” Mr. Clinton’s political strategist, James Carville, lamented at the time. “But now I want to come back as the bond market. You can intimidate everyone.”
So it is relevant to ask: What does the bond market want at this moment of economic peril?
As it happens, two leading bond traders have strong opinions — though not what the Clinton-era populists would have expected.
Austerity? Yes, say Bill Gross, a Republican, and Mohamed El-Erian, a Democrat, the chief investment officers of the giant bond fund Pimco. They support curbs on entitlement spending.
But that is for the long term. Right now, they argue, the government needs to arrest America’s dangerous economic slide.
In fact, their prescriptions are more aggressive than any the White House has proposed or appears to be contemplating for President Obama’s planned speech in September. Among them: direct federal hiring to reduce unemployment and increase lagging demand.
Mr. Gross, a billionaire acclaimed for his early warnings that the dot-com and subprime mortgage bubbles would burst, said, “Capitalism in its raw form can’t pull us out of this hole.”
Five Weak Spots
Mr. El-Erian, who ran the nation’s largest university endowment as head of the Harvard Management Company, says the United States needs to move simultaneously to fix five overlapping structural problems.
The first is housing, staggered by fallen prices, foreclosures and “underwater” mortgages that exceed the value of the homes they financed.
One critical step, Mr. El-Erian said, is for government to ease refinancing rules for homeowners who remain current on their payments but do not meet borrowing criteria. (Mr. Gross observed that these lower-interest-rate refinancings would cost Pimco money on its mortgage investments.)
The second is the labor market, which has steered too many workers toward the housing, retail and leisure sectors, which will not fully recover anytime soon. To create new and better jobs, the government needs a renewed focus on improving math, science and engineering education, as well as job retraining programs to make workers more competitive.
While waiting for education investments to pay off, however, Mr. Gross says the government should finance immediate job creation to shore up the third structural weakness: America’s fraying infrastructure. Updating roads, bridges and airports would provide an engine for reducing unemployment faster.
“You’ve got to create a demand for labor,” Mr. Gross said. “The private sector is not going to do it.” Even if the government must do it directly, he said, “Putting a shovel in the hands of somebody can be productive.”
The fourth weakness lies in lending. Banks, still smarting from the loan losses that resulted from the financial crisis, want to lend to big companies that don’t need money, but not to small businesses that do.
“Credit pipes are clogged,” Mr. El-Erian said. One way to unclog them is a program of public-private partnerships, like the Infrastructure Bank that the Obama administration has proposed.
On the fifth problem, the government’s questionable long-term solvency, the Pimco executives say Republicans and Democrats are both right. Spending on Medicare, Medicaid and Social Security entitlements must be curbed, and taxes must go up — on the affluent and perhaps the middle class, too.
Given the scale of the problem, Mr. Gross says the tax increases proposed in the “grand bargain” that Mr. Obama and Speaker John A. Boehner sought earlier this summer were too small. Instead of $1 in tax hikes for every $3 in spending cuts, he wondered, “How about one-to-one?”
Actually, Mr. Gross knows why not: tax increases are unpopular. Nor does he hold illusions about the political feasibility of other steps that he and Mr. El-Erian insist make economic sense.
Easier refinancing for underwater borrowers would require new loan guarantees by Fannie Mae and Freddie Mac, both symbols of the country’s failed housing policy.
New spending for education, infrastructure, lending or job creation would collide squarely with Washington’s bipartisan turn toward budget austerity. Both sides of the “grand bargain” are loaded with electoral risk.
A comprehensive economic solution requires the country to “step back and say, ‘Where do we want to end up in five years?’ ” Mr. El-Erian said. Neither voters nor elected officials typically show such patience.
So in reality, neither bond king feels that he has much political clout.
Mr. El-Erian said he rarely talks with the Obama economic team, especially after his recent public complaints about weak leadership in Washington.
Mr. Gross remains a registered Republican, but an independent one who notes that if bond-buying “vigilantes” on Wall Street ever could have imposed their wishes on government, they can’t anymore.
“The true vigilantes,” he explained, are the Chinese and the Federal Reserve. Which reflects the depth of America’s economic problem.
John Harwood is Chief Washington Correspondent of CNBC and a political writer for the New York Times.