Saturday, September 5, 2009

How To Fix The Economy

I am always grateful for an economist who, instead of preaching doom and gloom prognostications about our country's future, actually attempts to offer some constructive ideas about how to solve these problems. Such was the case with James Cohan, a Boston professor who intelligently, articulately, and concisely enunciates an excellent plan for getting us out of this recession - combined with a comprehensive yet brief explanation of the economic principles underlying that plan - in language that even a layman can understand.

What will it take to put 14.9 million jobless back to work?
Peter Cohan

When you consider that 70 percent of U.S. economic growth stems from consumers, it becomes obvious that there is no hope of a true economic recovery until companies create more jobs than they destroy. That's because people without jobs can't borrow money to make up for their lack of income and they can't spend more of what they don't have. And until those worker are able to increase their spending, economic growth stagnates.

That's why news that 14.9 million jobless are seeking work is the most important piece of economic data. The biggest unanswered question is who to put those people back to work. Is government the answer? Or will free markets do the trick? With the right boost from government, natural economic forces will bring back the jobs.

That's because I think there are two economic forces that need to be unleashed. The first is Say's Law, the idea that supply creates its own demand. And in this case, what I am talking about is the supply of capital on a corporate balance sheet that demands to be spent -- preferably on strategies that enable the company to take market share from hobbled competitors.
And the second law, is what I call the Two Fears. The first, is the fear of losing your money and the second is fear of falling behind your peers. I think most individuals and businesses are currently possessed of the first fear so they are hoarding their resources. According to the Two Fears, economic growh ensues when the first fear flips into the second one.

To get the economy rolling, we need to connect Say's Law with the Two Fears. To do that, the economy needs cash-rich market leaders who find themselves gripped by Say's Law -- which spurs them to spend that cash so they can leave their competitors in the dust. This could catalyze the shift from the first fear to the second one. And that would make all the difference.

How so? If other businesses in the leaders' industries start losing market share to those more aggressive competitors, then -- if they have or can get the resources -- they'll feel an irrepressible urge to keep up. This will cause them to spend their cash on market expansion. And as more and more competitors jump on that expansion bandwagon, they'll hire people to provide the products and services needed to grab the market share they fear will slip from their grasp.

This just leaves one enormous problem: How to get enough cash on the balance sheets of market leaders to make Say's Law kick in. As I posted, the very high 6.6 percent growth in productivity in the second quarter of 2009 is likely to boost corporate profits. What would also help is for companies to take advantage of a rising stock market to sell more shares to the public to pay down their debt.

And government could also help stimulate growth -- as it did back in the 1970s when the Defense Department's Defense Advanced Research Projects Agency (DARPA) built a ground-shifting technology, what we now know as the Internet. To encourage economic growth, such a technology must be one that is irresistible for business because it leads to quantum leaps in productivity.

All this may sound simple, but it will be difficult to pull off. And until then the economy will remain stuck in neutral which is bad for all those 14.9 million people looking for jobs.

There are copious examples from recent history to support Cohan's thesis. One need only look at the unparalleled expansion that began after the creation of the Intercontinental Railroad in the late-19th Century; the prosperity that occurred in the 1950s and 1960s due to the television/automobile boom in the 1950s and 1960s; and, most recently, the economic golden age of the 1990s, brought about by the passage of the High Performance Computing and Communications Act of 1991 that led to the creation of the Mosaic Web Browser (the springboard for the commercial internet) and was created and introduced by (as well as ultimately passed due to the efforts of) a United States Senator from Tennessee named Al Gore.

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