The U.S. is currently projected to run a budget deficit of $3.8 trillion, about 19% of GDP, in the year to September 2020, according to the Congressional Budget Office. Meanwhile interest rates are held flat at zero, and the Fed is beginning to purchase junk bonds to provide “stimulus.” We are in uncharted waters – or are we? There is a country that has intermittently pursued policies like this ever since 1944 – Argentina. That country’s past may well be our future.
Once upon a time, between 1860 and 1943, Argentina was well run. Its oligarchy was until 1912 elected on a limited franchise and pursued free-market policies aimed at maximizing the economy’s development. Its Presidents varied somewhat politically. The staunchest and most successful conservative was Julio Roca (1843-1914, President 1880-86 and 1898-1904); if you prefer liberals Domingo Sarmiento (1811-88, President 1868-74) and Marcelo de Alvear (1868-1942, President 1922-28) the “Argentine Coolidge” are your guys. Depending on how you calculate it, Argentina may have been the richest country in the world in 1895-96; it was still in the top five in 1929.
Argentina began to go wrong with the passage of the Saenz Pena Law of 1912 granting compulsory universal suffrage at 18; combined with high low-skill immigration this resulted in excessive populist political strength. In 1930, a populist government was overthrown by the oligarchy, which governed successfully in difficult economic circumstances until 1943, in what leftists have subsequently termed the “Infamous Decade” – it was the last sustained period during which Argentina was properly run. Then a 1943 populist/fascist military coup was succeeded by the government of Juan Peron, who formed his own populist party, instituted socialism and bankrupted the country within a decade. The Peronists have dominated Argentine politics ever since, although until 1982 military coups sometimes intervened.
Argentine governments have since Peron consistently overspent, defaulting on international debt roughly once a decade. Each time, a massive struggle between borrowers and lenders leads to a partial debt write-off, after which Argentina is re-admitted to the international markets. The most recent re-admission was as recent as 2016, after the election of the Mauricio Macri government. That government celebrated its new-found respectability by borrowing a further $70 billion, $46 billion from the suddenly generous IMF. I had the pleasure of meeting a charming and intelligent junior minister of the Macri government in December 2018, and giving him my views on their policies, and on the need to rehabilitate the Infamous Decade and restore the oligarchy’s economics. Of course, by then it was too late; I wish I had met him two years earlier.
Then last November, the government changed again, and the new Peronist government has defaulted once more, demanding terms from its lenders under which it would pay no interest or principal for three years – a time that takes the government safely past the next elections.
If debt defaults did you any good, Argentina would be rich today. Since 1929, it has sunk from among the world’s five richest economies to 69th today, on IMF figures, and has suffered an average annual inflation since 1944 of 195.7 percent (its monetary policy being about as good as its fiscal policy). That inflation has resulted in prices increasing by 6×1035 times over the period, which beats the 1029 inflation of Hungary in 1946, albeit over a much longer period. Not a good environment for savers!
Before 2000, the United States on the whole had an admirably 19th Century devotion to balanced budgets and sound money, with both the inflation of the 1970s and the budget deficits of the 1980s being eliminated by sound monetary and fiscal policies, so that by 2000 inflation was low and the budget was in surplus.
In the 21st Century, U.S. policies have become increasingly Argentine. The George W. Bush administration financed its Middle East adventures without increasing taxes to pay for them, thereby plunging the Federal budget into large deficits even at the top of the business cycle. Then Bush and Barack Obama bailed out the banking system and wasted $1 trillion on Keynesian stimulus that as usual stimulated nothing. Obama’s administration then indulged in an orgy of over-regulation that, together with the Fed’s determined suppression of market signals on interest rates, caused the U.S. economy to enter a period of sclerotic growth and the Federal budget deficit to remain close to $1 trillion annually.
Finally, Donald Trump’s administration passed a tax cut that made the budget situation marginally worse, although its cut to business tax rates helped the economy. Then it forced the Fed to reverse its interest rate increases, which had been improving productivity growth and, together with de-regulation, allowing the economy to resume growth on a healthy basis after the blight of the Obama years. That halted the rise in productivity, which fell 2.5% in the first quarter of 2020, only part of which resulted from the coronavirus shut-down.
Now the U.S. economy has been hit by the coronavirus, and by the shut-down that has been ordered to deal with it. While President Eisenhower avoided an economic shut-down in dealing with the 1957 Asian flu epidemic, which appears to have been about as serious in terms of deaths, the lack of knowledge on the new virus and its extreme infectiousness (much higher than the Asian flu apparently was) certainly suggested a short shut-down was necessary.
However, President Trump is undoubtedly correct in trying to reopen the economy as quickly as possible. We should realize that the sadly high death tolls in New York City were mainly due to the conditions (subways, large apartment blocks with common ventilation) as well as to a few policy mistakes by state or city government such as forcing care homes full of vulnerable people to take in coronavirus patients.
The more questionable response was from the Fed and Congress. The $1,200 payments to middle- and lower-income taxpayers were sensible palliatives, although not enough to repay them for the cost of their enforced idleness. However, the $600 per week boost to unemployment payments was excessive, creating perverse incentives, while the “forgivable” loans to small business appear to have been so badly administered that their drain on the Treasury far exceeds any economic benefit. Thus, a great part of the $3 trillion in “stimulus” has been wasted or diverted to improper uses.
That is not in itself a major long-term problem. The U.S. fisc can certainly absorb $3 trillion in new borrowing, about 15% of GDP, incurred during a genuine unforeseen emergency. We can regret that much of the money has been wasted, but in such circumstances, when fast action was needed and planning was impossible, substantial waste was inevitable. Much more of a problem is the likelihood of further “stimulus” bills, which coming as they will after the economy has mostly re-opened will almost entirely consist of waste.
This column has shown repeatedly that infrastructure is today several times as expensive as it needs to be, because of the exorbitant costs and delays added by lawyers and environmental regulations. Without removing those costs, a $1 trillion infrastructure bill will result in $800 billion of waste, which the economy and the federal budget cannot afford.
On current spending patterns, the United States will now hit default about 2030 unless major budget economies are made and taxes are raised (with most of the need being for the economies, not the taxes). It is vanishingly unlikely that, under President Trump or a possible President Joe Biden, any useful step will be taken in this direction. Consequently, by 2030 the U.S. will be in the same position as Argentina today, and will enter into a cycle of defaults that will produce the same destructive effect as it has in Argentina.
It is however in monetary policy where the bigger mistake has been made in confronting the coronavirus. U.S. interest rates were already far below their equilibrium level. Reducing them to zero and buying bonds merely removed the salutary correction in asset prices that was needed. In stocks, but more especially in lower-rated corporate bonds and in urban real estate, there is now a massive overvaluation that needs to be wrung out as quickly as possible for the economy to begin a healthy recovery. (Big-city real estate looks especially vulnerable; does ANYBODY think that people will continue to flock to the big-city overcrowding and squalor of London or New York in an era of coronavirus?) The Fed has pushed the economy further from equilibrium by its actions; a painful delay in the recovery, similar to that of 2010-16, will be its inevitable result. Argentine levels of inflation may or may not accompany this; it is indeed peculiar that they have not already done so.
Argentina’s woes are due to a succession of governments pursuing short-termist, big-spending socialist policies while paying no regard whatever to property rights. The U.S. since 2000 has moved increasingly rapidly in the same direction and will surely suffer the same results. If we cannot find another President Calvin Coolidge, to halve public spending in six years, let us at least find a President Julio Roca, to restore savers’ private property rights.
(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)