Risks to Recovery
The economy is growing too slowly for it to be considered robust—adverse development in four areas could derail the recovery.
1. China faces real challenges—falling property values, questionable accounting standards and state banks burdened with bad loans. Foreign investors cannot ignore the size of its market, and firms like GM , Ford and Apple will continue to invest to produce for and distribute products in China. However, rising labor costs and increasing revelations of corruption and intrigue, up to the highest levels of China’s leadership, are causing investors to cast a more jaundiced eye on the Middle Kingdom as a place to invest for serving markets in North America and Europe.
A crisis of confidence in China could disrupt both the Chinese and U.S. economies, and such an event has a much higher probability than zero.
2. Dodd-Frank regulations are severely handicapping small and moderate sized banks. Writing conventional mortgages has become an increasingly challenging activity, and securitizing commercial loans quite difficult. Despite the fact that these bank woes pose significant barriers to recovery in the housing sector and jobs creation among small and mediums sized businesses, Washington appears disinterested, and smaller banks are selling out to their larger brethren.
Wall Street banks now control more than 60 percent of deposits nationally. The absence of competition in many markets has driven down CD rates, and seniors are losing a lot of purchasing power as interest on their retirement savings shrink. Wall Street banks are less interested in making loans to Main Street businesses than were the regional banks they absorbed.
3. TheEU is in recessionand remains in deep trouble—fixes for Greece, Portugal and Ireland are inadequate and eventually will need to be reworked. Spain is teetering on crisis—a failure of its government to meet budget targets or a further spike in unemployment, already about 23 percent, could set off a contagion beginning with Italy.
European banks are highly stressed. Those have not used the grace afforded by easy credit from the European Central Banks to properly add to capital and rework loan portfolios. Rather, they have often adopted gimmicks to paint up bad loans or move those into offshore vehicles—all reminiscent of tactics employed by U.S. major backs when mortgage backed securities became problematic before the financial crisis.
4. U.S. higher education loans—now more than $1 trillion—are a ticking bomb. Undergraduates are borrowing too much against future incomes, and many graduate students are borrowing to obtain degrees that will not markedly improve their circumstances.
Most education loans are not dischargeable through bankruptcy, and big debt coupled with disappointing pay will become an increasing drag on consumer spending.
In the face of all this, the U.S. private sector is proving remarkably resilient. Neither policy missteps in Washington nor purposeful incompetence in Europe can keep American capitalism down. However, the economy would be doing a darn sight better with better leadership on both sides of the pond.
Peter Morici is a professor at the Smith School of Business, University of Maryland, and former Chief Economist at the U.S. International Trade Commission.