Obama's Economic Recovery Plan and Senior Economic Team

The November 14, 2008 issue of Signature Update discussed the likelihood that the cost of federal intervention in the US economy would escalate into the trillions of dollars as the Obama administration tackles bailout, rescue and recovery efforts. Though the price tag hasn’t been identified as yet, Obama’s economic plans have begun to circulate even as he announced the leadership of his economic team and the structure for a wide-ranging stimulus package. The announcement of Tim Geithner as Treasury Secretary, and Larry Summers as the Director of the National Economic Counsel came as no surprise, but the news brought a 500 + point gain to the DOW on Friday afternoon, none-the-less. Geithner and Summers’ credentials are impressive, but do they represent the much heralded ‘change’ the Obama candidacy promised? It’s hard to tell. More importantly, the economy may be an area in which some ‘consistency amidst change’ may be more valuable than change itself.

As the President of the Federal Reserve Board of New York, Geithner has acted as a trusted ally of Fed Chairman Ben Bernanke. He is one of the key architects of the federal government’s handling of the Bear Sterns, Fannie Mae, Freddie Mac, AIG, Lehman Brothers, Wachovia and Citigroup difficulties, and he has certainly weighed in on the automobile manufacturers quest for another $25 billion. Geithner is relatively young, and has been virtually unknown outside of hardcore economic circles.

The appointment of Larry Summers as Obama’s chief economic advisor reflects the president-elect’s confidence of the job Summers, the former president of Harvard University, performed as Bill Clinton’s Treasury Secretary. Some expect that it may also signal Obama’s intent to replace Bernanke when his term is over; which term purposely does not correspond with a presidential term, so as to give the fed chairman a sense of autonomy from the current administration. Like Geithner, Summers has been a key observer and sometimes participant of the current administration’s handling of the economic crisis. Both are respected by their peers, corporate leadership, and domestic and foreign public policy makers.

Whether or not the appointment of Geithner and Summers represents change seems to be irrelevant in today’s market. Critical to the economy is whether or not the appointments offer a level of confidence to the markets, and if Friday and Monday’s stock market rallies can be taken as evidence, they can also be seen as a vote of confidence. We’re going to need it. Obama’s economic recovery plan seeks to add some 2.5 million jobs, offer lower income and middle class tax cuts, provide substantial investments in public infrastructure, and pump billions into alternative energy development. Though the cost of Obama’s plan hasn’t been announced, and most likely hasn’t even been calculated, it is clear that his administration will proceed regardless. Obama and his closest economic advisors appear to have thrown out any consideration of fiscal constraint as it relates to supporting the economy. While there is some evidence that monetary policy is more important than fiscal conservatism in striving to ‘right’ our economy, we can’t ignore the long term effects of budget deficits and easy money policies. If Obama has the political strength to champion the economy and keep the Democrat controlled house and senate from over-spending on other projects and causes, then we might be able to see a return towards balanced budgets sometime during his administration. Otherwise, we’ll simply be forwarding today’s problems on to future administrations and generations.

Aid to Citigroup

The Federal Reserve and US Treasury’s decision to offer $20 billion in aide to Citigroup over the weekend came as no surprise, but it does raise some interesting questions. Was the federal government’s involvement in Citigroup’s acquisition of Wachovia party to Citigroup’s problems today? And, how is it that we can step in and bailout Citigroup, with seemingly little scrutiny, when we can’t offer funds to the ailing US auto manufacturers without endless hearings and congressional approval? The answers may be more connected than one might suppose.

Treasury Secretary Paulson may recognize the federal government’s role in Citigroup’s current melt down and believe that TARP funds were specifically authorized for a Citigroup-like problem. Not only did the federal government encourage Citigroup to acquire the failing Wachovia, the government also has meaningful culpability in the credit market problems that have brought so many financial behemoths to their knees. At the same time, Paulson hasn’t felt that TARP authority extends to automakers, and is almost certainly supported by the recognition that while the current economic situation has great impact on these manufacturers, the roots of their problems lie in poorly negotiated labor contracts, resulting in extraordinary labor and legacy costs. Not to mention bloated dealer networks and excessive production capacity.

Many have sited high executive compensation, lack of innovation, and a neglect of fuel efficient product offerings for the automaker’s problems, but these issues have little bearing on the situation. The ‘Big Three’ offer a full slate of fuel efficient models ranging from tiny commute-mobiles to SUV hybrids. They employ innovative design and manufacturing elements well beyond their ability to afford; as can be seen by their multi-billion dollar losses. And while their executive compensation programs are beyond belief for most consumers, they aren’t out of line relative to other large corporate compensation and incentive plans.

Many in the media and House of Representative reveled in the CEO’s of Ford, GM, and Chrysler’s responses to questions about private jets, compensation, and executive treatment, but their time would have been better spent in dealing with the effects of labor contracts and integrating dealer networks. Congressional representatives repeatedly asked questions regarding the movement of thousands of jobs to global markets, but completely absent was the understanding that these manufacturers needed to relocate various manufacturing and assembly processes in an effort to work around excessive domestic labor contracts in an effort to decrease costs. The likes of Honda, Toyota, and Nissan have done the same thing as they’ve developed assembly plants in the US, which plants principally employ younger, lower cost workers not subject to the labor contracts of the 1970’s and 1980’s, nor the government regulations of the countries from which these manufacturers arose.

House Speaker Nancy Pelosi, on Sunday morning’s Face the Nation, stated that a bailout would certainly be provided the automakers, but appropriately required them to come back to the table with a recovery plan. Such a plan will have to address the issue of labor costs and seek federal support in renegotiating contracts in order to have any chance for success. The CEO’s tasked with offering these plans may also have to agree on a plan to consolidate product offerings and distribution systems in an attempt to ‘right size’ the domestic automobile industry. Regardless of the dollar amount offered through any form of federal intervention, the US auto industry must restructure itself in order to survive and be competitive on the domestic and global stage.


A Deflationary Trend

The prospects of deflation have hung over the market since late summer, as fuel and other commodities prices began to fall. With the steep decline in the price of basic metals (copper, nickel, aluminum, etc.) and agricultural commodities there is a very real concern that the benefit of falling prices for the consumer could give way to lower corporate earnings and fewer jobs. Most recognize the inherent problems of excessive inflation, but few consider what happens when the cost of goods and services declines beyond reasonable levels; the economic impact can be just as problematic. The massive job losses of the Great Depression were brought about largely as a result of tightening monetary policies and price deflation. Fortunately, today’s economic policy makers are striving to address these issues head on.

Corporations, and their stock values, live and die based on earnings. When earnings decline and profits disappear, eventually jobs are lost, which decreases demand and can create an entirely different downward spiral from that which our economy has faced in recent months. While decreasing energy costs can be likened to a tax cut, or rebate, for consumers, and perhaps save the all-important Christmas buying season, weakening demand can spell trouble for the much needed recovery. It is a difficult balance and one that must be attended to as the Obama administration offers a recovery plan. The 2.5 million jobs offered under Obama’s plan, in addition to those created through the proposed tax cuts and alternative energy development, may promote sufficient demand to stabilize core commodities prices and help the US economy avoid a deflationary cycle.

Signature Update is offered by Richard Haskell, Sr. - Signature Wealth Management