Avoiding recession once more next year
The year ends with Ronald Reagan mired in the scandals of the Iran/contra affair. The majority of Americans who admire the President think it a shame that his fine record in domestic economic affairs is besmirched by bad luck and bad judgments in the realm of international politics. Informed economists, however, take a less favorable view of Mr. Reagan's financial programs and performance. They are as critical of Donald Regan's leadership when he was in the Treasury Department as they are of his judgments as the President's chief of staff in the White House.
Those who know economic history realize that the United States economy has grown poorly in the Reagan years. Kennedy and Johnson did better. So did Truman. Even Ford, Nixon, and Carter had better luck with the economy than Reagan enjoys.
Of the postwar American presidents, only General Eisenhower presided over an economy as sluggish as that of Reagan. Paradoxically, Dwight Eisenhower was as popular as Reagan is. As memories dim, voters forget that Ike was a part-time and passive chief executive. They forget that the two Eisenhower terms experienced no less than three full-fledged recessions.
The one happy development in the 1980s has been the abatement of inflation. That is a popular achievement, even if Paul Volcker's Federal Reserve and not Reagan-Kemp-Stockman supply-side economics deserves the major credit for the moderation in price changes.
As 1986 comes to an end, we realize that it added 12 months to the life of America's current growth recession, which began some 2 years ago. The unemployment rate stays stuck near 7 percent. Family real incomes do well to hold their own. Corporate profitability remains tepid. Sadly, the productivity growth upon which progress in our living standards must depend continues to be negligible in the service sectors; and it is only a little better in manufacturing and farming, the sectors buffeted by foreign competition.
Despite these gray tones, polls show American consumers moderately optimistic. While Main Street profits are slim, Wall Street percolates actively. The stock indexes are at all-time highs. With a bit of help from the Federal Reserve, even bonds show capital gains.
John Templeton, a canny investor in international markets with a remarkable long-term performance record, would rather hold United States equities at 15-to-1 price/earnings ratios than Japanese shares at 40-to-1. American corporations that are quite immune to takeover raiders are very happy to add to leverage by going into debt to buy back their own stock; that way earnings per share can still rise and eager investors may bid up the price/earnings ratio further.
To sum up: People here and abroad remain sanguine about the American economy, and by implication about the world economy, because they judge it unlikely that 1987 will be a year of recession.
Few believe that the colossal Reagan fiscal deficit will be greatly reduced in 1987. Even the resurgent Democrats, enjoying a Republican president in trouble, do not show the effective will to raise new taxes sufficient to combat the fiscal unbalance.
Few believe that 1987 will see a strong turnaround in America's balance-of-trade deficits. The considerable depreciation of the dollar relative to the yen and the mark, experts judge, may reverse the worsening of our import-export imbalance. But this is at best a first hope of a long correction process still to come.
And at the same time that Japanese and European exporters have been experiencing appreciation of their currencies, South Korea, Taiwan, Singapore, Hong Kong, and other strong exporters have been moving their currencies down parri passu with the dollar's exchange rate. I play tennis with a Taiwanese racket. Tomorrow I shall drive a Korean car, and soon my personal computer will be an efficient Singapore copy of a Japanese model.
There is one further uncertainty for 1987. Our new tax bill is unsettling investors. What may in the end represent tax simplification and neutrality appears for 1987 to complicate capital formation programs.
We all look to Mr. Volcker's Federal Reserve to act if necessary to keep our good times from going away.
There is no need for an American recession in 1987. Slack in manpower and plant capacity is still there. Realistic expectations concerning inflation are still for moderation in the price level.
The reasoned odds favor the view that the Federal Reserve does still have the power, and the political will, to lean effectively against the wind of any tendency toward recession that might appear in 1987.
But it is not a sure-thing cinch. Volcker might be fired by Ronald Reagan. Even if reappointed, he might hand in his badge, knowing he has served his country well and long and at considerable personal sacrifice.
Also, one cannot rule out a Wall Street avalanche. Capitalism is recurrently subject to such moves. A massive flight from the dollar is a further long-shot danger.
Any American weakness would spread abroad. But what the US does no longer causes shock waves throughout the rest of the world. The Common Market, Scandinavia, the Pacific Basin, and the less developed countries have autonomous powers to resist the import of any unlucky American recession. They may use those powers when needed.
Political economy involves weighing the imponderables. On the evidence, the odds favor 1987 as one more year of growth - sub-par growth, but not an outright recession.
Paul A. Samuelson is institute professor emeritus of economics at Massachusetts Institute of Technology.