Tuesday, July 07, 2009

The Fourth Way: Proactive Liberal Reaction to Crisis

Like many people, I have been floating along assuming that the recent utter failure of unregulated-market theory would result in a change to more regulation, more government oversight, and more involvement of the public purse.

The opposite may be happening. Large economies are acquiring such massive deficits that national agendas will be overwhelmed in the years 2010-2015 with the need to restore fiscal health. As happened in many countries throughout the 1990s, even liberal governments will become deficit hawks and make restraint their number one priority. Everything will be slashed, including much-needed social programs, foreign aid that has long-term economic benefits... even budgets for regulatory agencies.

Despite all the talk about reducing business cycles, we are now in fact creating a world in which business cycles are enhanced by tag-along government spending cycles. We have a market crash and/or recession, followed by government bailouts and/or stimulus, followed by the development of a new market bubble and/or economic growth, followed by government cutbacks to pay off the bailout/stimulus.

You could argue that the government cutbacks put a damper on the upswing, and they might in fact have a positive effect on dampening inflation, but the problem is that by always reacting to market-caused problems, we never have a coherent, cost-effective or humane economic policy.

Part of the challenge is to create the bureaucratic and public will to achieve something without letting the entire rest of the agenda get swept along. For example, the biggest regulatory debacle in the recent financial crisis was caused by the Office of Thrift Supervision (OTS), an American regulatory board that was created after the Savings and Loans crisis in an attempt to impose more effective regulations. But the OTS was created in the early 90s - during the era of deficit reduction priorities - and keeping an eye on the bottom line resulted in the creation of a regulatory board that was directly financed by, and so overly beholden to, the institutions it was supposed to regulate. (More about that here.) The fiscal restraint culture resulted in a new regulatory body that provided less protection and more hazard than ever before.

Conservative politicians revel in the idea of being able to reshape the country during fiscal restraint: it's a great excuse for further gutting public health and ushering in two-tier health care; gutting social spending; and so on. But liberal politicians could prepare for the coming half-decade of government cutbacks by creating a strategic vision for how to handle it.

If we accept that business cycles happen and plan for them, then we can have a more coherent economic agenda. This goes beyond having "shovel ready" infrastructure projects always queued up in anticipation of stimulus need. It may mean forging a new relationship with civil service unions that creates more flexibility in the system - even if not as much flexibility as exists with private sector employees, then at least somewhat more. It means long range economic planning that includes crisis management and that creates strategic priorities that can be maintained through good times and bad. (For example, perhaps instead of granting annual budgets to programs, governments should set up endowments.) It means finding a way to cut back spending that is temporary and humane.

Two decades ago, the "third way" transformed liberal politics by melding fiscal restraint with social progressiveness: by taking responsibility for how to pay for what we want to achieve as a society. Now we need a way to expand liberal principles to deal with economic crises in humanitarian, cost-effective, and coherent ways. Government needs to become less reactive to market shocks. It's not fair to create lavish social programs during rosy times and then slash them a few years later. Equally as disturbing, it's inefficient.


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