Fed Meets With Few Options as Recession Looms: Morici

Recession-themed newsprint cuttings
Recession-themed newsprint cuttings

The U.S. economy flirts with recession , but Federal Reserve policymakers meeting today and Wednesday have few options.

Too few jobs were created in April and May, and with unemployment claims rising, June and July will not register much better progress.

Wages, which were rising modestly through the recovery, have been virtually flat the past three months. An already tough labor market is getting worse.

Worker productivity is down, indicating businesses have more employees than needed to meet demand, and layoffs will follow if sales don’t pick up. Conditions in Europe, and a weaker euro and Chinese yuan, indicate exporters and import-competing businesses face a tougher environment this summer.

Retail sales slipped in April and May, as consumers exhibit new caution about taking on debt. Auto sales are off their first quarter peak.

In manufacturing, the bright star of the recovery, new orders fell the last two months, and factory output was down in May, notably for autos, appliances and computers.

Throughout the economy businesses report falling prices—slashing prices to sustain sales is an ominous indicator of more layoffs.

The Federal Reservehas pulled all the levers that could make a significant difference. Short-term interest rates—such as the overnight bank borrowing—are already close to zero.

When the Federal Reserve Open Market Committeemet in April more bond purchases to push down long-term Treasury and mortgage rates were on the table. Since, risk-averse investors have moved cash from Europe to U.S. securities.The 30-year Treasury and mortgage rates are near record lows, preempting the effectiveness of further Fed action.

Should conditions worsen in Europe, the Fed can shore up U.S. banks with exposure to European financial institutions. However, those actions would not offset lost U.S. exports across the Atlantic, or in Asia that compete with European products benefiting from a cheaper euro.

Lost exports could easily slice $120 billion from U.S. GDP, destroy over a million jobs and raise unemployment to 9 percent—and a meltdown in Europe could trigger even worse conditions.

A statement that the Fed intends to keep short rates near zero beyond 2014 would have little effect on investor psychology—few expect higher rates in the foreseeable future.

Central bank policy can dampen inflation when the economy overheats and lift borrowing and home sales a bit when it falters, but it can’t instigate faster growth when the President and Congress fail to address chronic problems.

Demand for U.S. products is burdened by huge trade deficits on oil and consumer goods with China—both result from government inaction.

Two years ago, President Obama warned China he could act if it did not abandon its cheap yuan policy, which he says slows U.S. growth, but he hasn’t taken substantive steps.

Imposed by the President and Congress, stiff restrictions and bans on drilling in the Gulf, off the Atlantic and Pacific Coasts, and in Alaska are reducing U.S. production 4 million barrels a day and doubling imports.

Monetary policy can’t compensate for those policy missteps.

Americans pay twice what Germans do for health care, adding about $4 to 5 an hour to worker health insurance—something neither Obama Care nor Republican alternatives will solve—and makes adding jobs in America too expensive.

Most Dodd-Frank reforms are in place, and those have permitted the biggest banks to control 60 percent of U.S. bank deposits. Wall Street banks continue to run casinos, but won’t make enough loans to regional banks or small and medium sized businesses—simply, trading securities creates million dollar bonuses, old fashioned lending does not.

President Obama’s stimulus spending and low interest rates offered a period of grace to fix those problems but the opportunity was squandered.

Chinese currency mercantilism, oil imports, expensive health care, and big bonuses on Wall Street are smothering U.S. growth.

America is simply becoming too much like Greece and not enough like Germany, and not much the Federal Reserve does can compensate.

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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.