OVERCOMING THE DEFICIT

The US economist C. Fred Bergsten on America’s Economy after the Election, the Effects of a Misguided Policy on Europe and Asia as well as the Danger of a New Recession

[This interview is translated from the German in: Spiegel 46/2004.]

[Bergsten, 63, is director of the Institute of International Economics in Washington, the central research site for global economic themes in the US.]



Spiegel: Mr. Bergsten, hundreds of thousands of jobs were lost during the first term in office of US president George W. Bush and state indebtedness climbed above four trillion dollars. Bush transformed the budget surplus of $236 billion in 2000 into a current deficit of $420 billion. This budget deficit amounts to more than five percent of US economic output. Is that a successful economic policy?

Bergsten: This data makes for a depressing picture. Still one should not be unjust. When Bush came into office, the economy had ended a ten-year boom phase. His first year was marked by a mild recession. A better picture appears if one considers the last two years. The economy grows; the unemployment rate is only 5.4 percent. We owe this to a rapidly rising productivity. Still the two massive deficits will define the future agenda.

Spiegel: Why didn’t the democrats emphasize the economy, the deficits and its consequences more vigorously in their campaign?

Bergsten: They made an attempt but failed firstly because Bush and his election campaign strategist Karl Rove forced through themes like moral values, security and leadership. They refuted Bill Clinton: It’s not the economy stupid. Secondly, the economic situation on first view is not so dramatic and is very inscrutable. People today cannot grasp later burdens that will arise from the deficits.

Spiegel: What are these burdens?

Bergsten: US imports are twice as great as exports and are constantly growing. The exports must double to keep the balance of trade deficit at the present level. This seems impossible. The deficit can only be really lowered by devaluing the dollar at least 20 to 30 percent. If devaluation is delayed, the loss in value will be much more abrupt and will turn out much higher later. We now have a dollar bubble. The question is not whether it will burst but when and how enormous the explosion will be. The whole industrialized world will be affected because the US alongside China is a growth locomotive.

Spiegel: What will be the consequences?

Bergsten: Inflation inevitably climbs with an extreme dollar loss. The US Federal Reserve under its chief Alan Greenspan will be forced to raise interest-rates. A double-digit interest-rate level cannot be excluded any more. This alone will paralyze investment activity. All this in combination with the overflowing budget deficit and rising energy prices could produce a fine recession that will seize other countries in active economic exchange with the US.

Spiegel: Don’t you think China and other Asian states are against a controlled dollar devaluation? A large part of the American trade balance deficit is financed by Asian central banks and their currencies are mostly coupled to the dollar,

Bergsten: That the Chinese and a large part of East Asia still couple their currencies to the dollar is a great problem. Americans will not be the only ones to profit when China abandons this bond. It is actually in the interest of Germany and the Euro-zone that China not adjust its central bank discount rate and interest rates to the dollar. This will quickly increase market justice. This would take away considerable pressure from the Euro that would quickly land at 1.80 or even 2.20 to the dollar without these measures. One doesn’t need to be a prophet to foresee how competitive Germany would then be as an export country.

Spiegel: How would you convince the Chinese to abandon the dollar bond?

Bergsten: I believe the new Bush administration will go to court with China. It will threaten, act in a protectionist way and impose quotas on Chinese products. It will threaten direct intervention in the currency question – as a Kerry administration would also have done. When the threats prove useless, there will be negotiation.

Spiegel: What do you expect in economic policy from the new Bush administration?

Bergsten: It will carry on as in the past. The tax cuts will be made permanent. The tax system will be simplified. A uniform tax could be introduced. However all this will only enlarge the budget deficit.

Spiegel: How will Bush then master the greater challenges: war, internal security and pensions of the 77 million baby-boomers whose working life will end in the coming years?

Bergsten: The pensions are not the hardest challenge. The health care system is much more expensive. Its share in the gross national product is much greater than that of pensions. When these two are added up, a gigantic budget problem results for the next 20 or 30 years.

Spiegel: Thus the deficit cannot be reduced any more?

Bergsten: You know we had a similar problem in 1963. At that time the deficit amounted to five percent of the economic output. This changed within eight years into a surplus of one percent. Economic growth is one prerequisite. The others are tax increases that Bush cannot avoid. In addition, he must enforce strict spending discipline. I hope realities will move him to a serious budget policy.

Spiegel: The high energy prices also strain the economy beside the two great US deficits. Do you think the maximum has been reached?

Bergsten: In no way. Even without great supply shortages, we will see crude oil prices of 60 to 70 dollars per barrel in the course of the coming years. Perhaps this will happen at Christmas 2005 but it will come.

Spiegel: One cannot really blame George Bush for that.

Bergsten: Perhaps he cannot be blamed for the high prices. But where is the energy policy headed? I am not very optimistic about what we can expect. Bush comes from an oil family that loves high prices. For security reasons, the government even purchased permanent reserves when the price was at $50 per barrel. Selling the strategic reserves would have been right in the short-term. In my eyes, Bush’s policy is a totally grotesque policy. I was surprised that Kerry did not emphasize this more strongly in the election campaign.

Spiegel: But selling oil reserves cannot be everything.

Bergsten: No. In the long-term, one must go to the Saudis and other OPEC-states and say: People, the game is over. We can no longer allow price to be dictated only by the producers. This must now be negotiated in a kind of buffer zone between buyers and sellers. This would help avoid a price collapse. However I cannot see that the Bush administration will do anything in this direction.