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Confronting Three Recessions

Posted February 12, 2008

Topics: Global Business, Politics

This oped appeared in the Providence Journal on February 2, 2008.

Neither president Bush, Congress nor the Federal Reserve is charting a course to a long-lasting economic recovery.

America's "housing-bubble" recession has hit hardest precisely where the bubble has been most frothy. In Arizona, California, Florida and Nevada, housing prices have dropped precipitously, foreclosures are off the charts, and credit is gridlocked.

The U.S. Federal Reserve is most to blame for the housing bubble. After 9/11, Alan Greenspan's Fed over-reacted with an ultra-easy monetary policy. Greenspan's printing press artificially depressed mortgage rates and ignited a speculative housing boom. As prices spiraled upward, unscrupulous real-estate appraisers qualified lenders at whatever prices necessary, and mortgage lenders happily bought into the charade. Now, this bubble had to burst.

Though seemingly hard-hearted, the best "cure" for the housing bubble recession is to do nothing. A massive bailout will only maintain home prices at levels far above that which the market might otherwise bear — and above that which many people can afford. Any bailout would also fuel future asset bubbles because of the lack of "moral hazard": Speculators will believe that the government will always bail them out and assume undue risk.

The good news about the housing-bubble recession is that it is short run — a necessary cleansing agent for an era of irresponsible speculation. That why no massive bailout or yet another round of the Fed's ultra-easy money is warranted. Regrettably, in an election year, Washington is not getting this message.

America's second kind of recession — a "manufacturing-jobs" recession — poses far more long-term problems and, unlike the housing recession, cries out for a comprehensive policy response. Ground zero for America's manufacturing-job recession is the Midwest — primarily Illinois, Indiana, Minnesota, and worst of all, Michigan, which is in its fourth year of recession.

The primary cause of the manufacturing-jobs recession is not "globalization" per se but an international system characterized by substantial unfair trade practices and large, destabilizing trade imbalances. Here, the key causal agent is China — the world's "factory floor."

The common perception is that China out-competes the U.S. because of low wages. However, China's real "weapons of mass production" may be found in a set of unfair trade practices that make it impossible for American blue-collar workers to compete. These unfair practices range from large illegal export subsidies, flagrant currency manipulation, and blatant counterfeiting and piracy to environmental and health and safety regulations far below international norms.

Unlike the housing-bubble recession, there is an obvious two-part solution to the manufacturing recession. Crack down on China's unfair trading practices while restoring America's manufacturing might.

To achieve this second goal, America needs five things:

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