Government to the Economic Rescue

Historians will look back at this time and say ... TARP, fiscal stimulus and bank stress testing kept us out of abyss.

For Immediate Release:

June 16, 2010

Contact:ALAN S. BLINDER

Wall Street Journal

Those of us who don't live in caves are constantly bombarded with poll results—on just about every subject. But a recent Pew/National Journal poll cut through the cacophony and caught my eye nonetheless.

It seems that more Americans believe that "Barack Obama's economic policies" (the pollsters' exact words) have made economic conditions worse (29%) than better (23%), and another 35% of Americans think his policies have "not had an effect so far." So only 23% of the public thinks the president's policies have helped while 64% thinks they have failed. Low marks indeed.

The 64% are wrong. You can certainly argue that the administration has not done enough, or that other policy choices would have been better. And I'm certainly not arguing that Washington got everything right. But to say that the president's policies either had no effect or were harmful flies in the face of both logic and fact.

Let's start with two indisputable facts. First, both the financial system and the economy are in far better shape today than they were in the dark days of January or February 2009. For example, even though unemployment is higher now, it is receding rather than soaring, dropping to 9.7% in May from 9.9% in April. Second, the growth of the U.S. economy over, say, the last 12-18 months beat virtually every forecast made back then. I know, because I stuck my neck out on this page with a forecast viewed as too optimistic in July 2009, and the U.S. economy did better than I predicted.

Of course, that does not prove that the president's policies caused the unexpected improvement. Maybe our luck just turned, and the economy would have done even better under a laissez-faire approach. (A few diehards still argue that FDR's policies worsened the Great Depression!) Or maybe poll respondents give the credit to Congress or the Federal Reserve instead. (Do you believe that?)

While it's certainly too early for historical perspective on the stunning events of 2007-2009, I venture to guess that, when the history of the period is written, it will read something like this: For a host of reasons the U.S. economy was struck by a calamitous financial crisis followed by a vicious recession. The government—including two administrations, Congress, and the Fed—marshaled enormous resources to save the financial system and to fight the recession. It worked.

Specifically, I would point to three policy landmarks, two of which were and remain terribly unpopular—and which probably account for the negative polling results.
The first was the much-maligned Troubled Asset Relief Program (TARP), which Fed Chairman Ben Bernanke and then-Treasury Secretary Henry Paulson persuaded Congress to pass on Oct. 3, 2008. TARP must be among the most reviled and misunderstood programs in the history of the republic. Voters are clearly appalled by the idea that their government spent $700 billion bailing out banks.

The only problem is: It didn't. Even if we count insurance giant AIG as a bank, no more than $300 billion ever went to banks. TARP's total disbursements, including the auto bailout, never reached the $400 billion mark. The money went for loans and to purchase preferred stock; it was not "spent." In fact, most of it has already been paid back—with interest and capital gains. When TARP's books are eventually closed, the net cost to the taxpayer will probably be under $100 billion—far under if General Motors ever repays.

Spending perhaps $50 billion of taxpayer money to forestall a financial cataclysm seems like a bargain. Yes, I know it's maddening to hand over even a nickel to bankers who don't deserve it. But doing so was a necessary evil to save the economy. Think of it as collateral damage in a successful war against financial armageddon.

The second landmark was the fiscal stimulus package that President Obama signed into law about four weeks into his presidency. Originally priced at $787 billion, it was later re-estimated by the Congressional Budget Office (CBO) to cost $862 billion. A huge waste of money, say the critics—even though most independent appraisals, including that of the CBO, credit the stimulus with saving or creating two million to three million new jobs.

Why the bad reputation? The main reason appears to be that the White House's January 2009 forecast was too optimistic—projecting, for example, an unemployment rate around 8% by the end of 2009 if the stimulus passed. (It was actually 10%.) Notice the reasoning here: Since unemployment turned out worse than expected, the stimulus must have failed. Did someone say non sequitur? Let's see. If the Yankees lose a game 13-11, as they did one day last month, the hitters must have failed. Right?

Try to imagine any government spending a massive sum like $862 billion without creating or saving millions of jobs. More specifically, suppose peak-year spending from the stimulus bill was about $300 billion—which is roughly correct—and that our hapless government just sprinkled its purchases around at random. On average, each job in our economy accounts for about $100,000 worth of GDP. (We are a highly productive bunch!) So $300 billion worth of additional GDP should be the product of about three million more jobs. Do we really believe the stimulus produced only a small fraction of that—or none at all?

I come, finally, to the third major landmark: the "stress tests" of 19 big financial institutions (not all of which were banks) conducted by the Federal Reserve and other banking agencies in the spring of 2009. This unheralded but ingenious policy initiative was a riverboat gamble that paid off big.

When the stress tests were announced in February 2009, hardly anyone in the financial markets trusted anyone else—least of all the banks. The nervous markets might have panicked if the Fed had declared the need for bank capital to be either too large ("My God! It's hopeless!") or too small ("My God! It's a government whitewash!"). Instead, the Fed's careful and credible estimates found capital needs that were both realistic and manageable.

And it made the information public, which was crucial. During a panic, people tend to assume the worst—especially when they can't see what's hidden behind the screen. If you show them the truth, they may relax a bit (as long as the truth is not too horrific). And they did. From that point on, the financial markets started to heal.

So the next time you see Chairman Bernanke, congratulate him for threading the needle. And the next time you see members of the House and Senate who voted for TARP and the stimulus package, give them a hug and say thank you for taking two monumentally tough votes that helped keep us from falling into the abyss.

Mr. Blinder, a professor of economics and public affairs at Princeton University and vice chairman of the Promontory Interfinancial Network, is a former vice chairman of the Federal Reserve Board.

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