BRIDGING THE DIVIDE THE ECONOMIC AND FISCAL CHALLENGES FACING THE NEXT U.S. PRESIDENT BRIDGING THE DIVIDE BRIDGING THE DIVIDE: THE ECONOMIC AND FISCAL CHALLENGES FACING THE NEXT U.S. PRESIDENT CONTENTS Preface .......................................................................................................................................... 2 It’s Still the Economy, Stupid ......................................................................................................... 3 The Long Campaign ..................................................................................................................... 12 The Winner’s Other Curses .......................................................................................................... 32 About Breakingviews and Reuters Pictures ................................................................................. 41 Front cover photograph: Republican presidential nominee and former Massachusetts Governor Mitt Romney and U.S. President Barack Obama smile at the end of their first U.S. presidential debate in Denver on Oct. 3, 2012. REUTERS/Brian Snyder 1 BRIDGING THE DIVIDE PREFACE America is divided. That at least is the message from the two parties in the run up to presidential and congressional elections on Nov. 6. Polls are neck-and-neck with the election just three weeks away. History suggests economic measures are among the best predictors of elections, and that social issues, gaffes and debate performances matter a lot less. And for whichever candidate wins, task number one will be the economy. Bridging the divide – the title of this e-book – will require bipartisan compromise that hasn’t been much in evidence in Washington of late. Starting with the idea of doing no harm, the occupant of the White House come January 2013 will, above all, need to focus on employment. But he will be constrained by a federal budget that’s under pressure. That means either Barack Obama or Mitt Romney will have to act fast to appoint an economic top team with an understanding of the labor market, budgeting, and getting things done in Congress, among other skills. The first section of this e-book contains Breakingviews articles on the U.S. economy, jobs and the people who might end up in charge under each candidate’s leadership. Our interactive Economic Dream Team Machine allows readers to see how their own selections shape up. Next is a collection of views produced by our columnists during the long campaign for the presidency, shedding light on the characters involved and the issues raised, from Occupy Wall Street’s protests about inequality to federal budgeting via taxes and Romney’s private equity background. Though surges from other Republican candidates seemingly changed the game at times, we tipped the eventual winner of the party’s nomination early on. Finally, we touch on a few of the other finance and economy-related challenges that will be in the next U.S. president’s Oval Office in-box – among them tax, continuing bank reform, housing finance, and the cost of military activity overseas. The Democratic and Republican policy platforms, while different in theory and emphasis, probably won’t end up being so far apart in reality. That’s especially the case if Obama is re-elected and has to work with a Republican House of Representatives, or the GOP challenger, Romney, wins and faces a Democratic Senate. But with the candidates in the final, high-tension stretch of their race, grounded insight may be hard to come by – except in this e-book! Happy reading. Richard Beales October 16, 2012 2 BRIDGING THE DIVIDE IT’S STILL THE ECONOMY, STUPID O’s odds By Richard Beales Bill Clinton’s campaign advisers are still right: For Barack Obama, it really is the economy, stupid. One respectable forecasting model puts the U.S. president with a hair over half the two-party vote on Nov. 6, 2012. A Breakingviews calculator shows how even slight changes in the economic growth rate before then could tip the result dramatically. Among the best economic indicators for American elections are measures of personal income. The unemployment rate, which fell sharply in November but at 8.6 percent is still worryingly high for a sitting president, is a favorite of pundits – but it’s not well correlated to election votes. The rate of change of unemployment may be better, but that’s probably already reflected in income growth. Ray Fair of Yale University has developed a model that predicts the vote share reasonably well when tested on the 24 presidential elections since 1916. Its main inputs are the real growth rate of per capita GDP in an election year and inflation throughout the ending presidential term. Fair has a third input to incorporate the “feelgood factor” of short periods during the term when growth is particularly robust. The Breakingviews calculator is based on Fair’s model, but simplifies it and turns the result into a probability of winning. Assuming 2.5 percent annual GDP growth from the last quarter of 2011 until the election and inflation running just under 2 percent, Obama’s share of the two-party vote comes out at 50.3 percent. (This ignores the potential distortions of an independent candidate, and of the electoral college that actually chooses the president.) That slim-looking margin converts into a probability of winning of about 54 percent. For more evidence that things are on a knife-edge 10 months out, consider figures from Intrade. On Wednesday, the prediction market gave Obama a 52 percent chance of re-election. His approval rating – around 45 percent as of Jan. 2, according to Gallup – seems to bode less well. It is early to read too much into that, and Obama’s approval has lately edged upward, but he will be in trouble if it stays too far below 50 percent. Breakingviews has built a “swing factor” into the calculator to incorporate users’ own adjustments. But the economy is the key. For instance, if growth hits 3 percent, the Democrat Obama’s probability of winning veers to 70 percent or so. Conversely, weaker growth than hoped could easily put a Republican opponent – let’s call him Mitt Romney given his Iowa win – in the White House. January 4, 2012 3 BRIDGING THE DIVIDE Try the interactive Breakingviews election calculator: http://link.reuters.com/tyf85s 4 BRIDGING THE DIVIDE Jobs math By Daniel Indiviglio and Richard Beales There’s still a long slog ahead for the unemployed in America. Jobs growth has started picking up. But even at a rate of 250,000 a month, a hair above January’s figure, full employment may not be reached until 2020. A new Breakingviews calculator shows how a faster or slower rate of job creation changes that picture. The important headline variable is the jobs growth reported in the U.S. monthly employment report – the stronger, the better. But a few other factors also matter when looking ahead. One is population growth, and another is how quickly the labor participation rate increases toward a more typical level. That’s the percentage of the population defined as either working or looking for work. Since the recent recession began, millions of workers have become discouraged and temporarily given up on finding a job. The labor participation rate has declined from 66.4 percent in 2007 to 63.7 percent in January. Suppose participation recovers to that 2007 level by January 2020. This trend coupled with population growth at the average rate seen between 2003 and January this year would call for almost 200,000 new jobs a month just to hold the unemployment rate – 8.3 percent as of January – steady. Then there’s the question of what level of joblessness reflects, essentially, full employment, since there will always be people between jobs. The calculator allows this input, as well as the other key ones, to be changed, but starts out assuming that 5 percent unemployment is the target. With these assumptions, full employment would only be reached again in America in early 2020. If the monthly job creation rate jumped to 300,000, that date would be brought forward nearly four years. With November’s presidential election never far from the news, the calculator also shows how the unemployment rate might look just beforehand. The actual data for October will be released just a few days before the election, making that employment report the last major economic indicator that may affect President Barack Obama’s re-election chances. With the base assumptions already outlined, unemployment could dip just below the 8 percent mark in October. For that to happen, Obama needs an economic shock-free spring and summer. But whether he or someone else occupies the White House in 2013, job creation looks set to remain near the top of the agenda. February 8, 2012 5 BRIDGING THE DIVIDE Try the interactive Breakingviews U.S. jobs calculator: http://link.reuters.com/cag56s Dream Team Machine By Rob Cox and Daniel Indiviglio Mitt Romney says the first day of his presidency would be exceptionally busy. The former Massachusetts governor has promised to overturn two of his predecessor’s landmark legislative achievements, the Affordable Healthcare Act and the Dodd-Frank financial reform bill; he would approve the Keystone energy pipeline from Canada, introduce sweeping tax cuts and brand China a currency manipulator. President Barack Obama cannot promise instant action, but he is equally ambitious. In his second term, he says he will impose the “Buffett rule” to ensure the rich pay more tax, cut tax rates for middle class families, stop the “war on women,” prevent a rollback of environmental protection, reform immigration laws and, not to be outdone by his Republican challenger, crack down on China. But here’s one thing neither camp will actually say out loud: they won’t have the luxury of choosing their first big legislative priority. In all likelihood, it will be dictated to them. Election pledges will take a backseat to the so-called “fiscal cliff.” Some $450 billion of tax increases and about $1 trillion of 6 BRIDGING THE DIVIDE spending cuts kick in come January 2013.