The stakes of our leaders' surreal obsession with deficits just got a lot higher. The economy could tip from stagnation into a real depression.
As it dawned on Wall Street that austerity would not in fact help the real economy, panic selling ensued. The swooning stock market, in turn, creates one more source of belt-tightening that pushes us closer to an abyss.
As the value of savings and the earnings on investments plummet, consumers are even less likely to go out and by products.
Businesses are even less likely to expand or to take on new employees. And so the whole downward slide feeds on itself.
The imagined savings from deficit reduction will be more than wiped out by slower than projected growth, as this recent analysis from John McDermott from the blog Alphaville shows.
If GDP growth is even half a percent lower less than the budget-cutters assumed, nearly all of the projected budget savings vanish. And the belt-tightening in the budget deal is very likely to push the economy deeper into a downward spiral.
So austerity is a game of the economy chasing its own tail, as it spins downward.
Time is running out. If we were to shift to a program of massive public investment now, we might avert another depression. The spending could be financed part by surtaxes on the wealthy, and partly by deeper deficits for a year or two until a recovery kicks in.
But if we continue to focus on budget-cutting instead, the economy will stay stuck in first gear, the deficit will remain high no matter how much we cut (because of dwindling tax receipts), and after another five years, we really could start looking like a fiscal Italy.
Until this latest bump downward, the stakes were "merely" a lost decade of economic stagnation. Now it is looking as if growth could turn negative. And unlike the crisis of 2008, which was a crisis of the banking sector, this one pervades the entire economy.
The political system is "broken" all right, as commentators keep saying, but it is not broken in the way they contend. The problem is not that Republicans and Democrats can't agree on enough deficit reduction. It is that one party has been taken over by extremists who seem to enjoy watching things burn, while the other party is in the hands of a president who seems clinically depressed and can't bring himself to lead the country in a direction that defies the conventional wisdom.
Obama's speech yesterday, hoping to restore confidence after the S&P downgrade, hit a new low for passivity and dullness.
History primed politics to have George W. Bush cast as the new Herbert Hoover, who brought us to the brink of a second Great Depression. Instead, it is Obama who looks more and more like Hoover -- the man who dithered while the crisis deepened.
Unless Obama shifts 180 degrees and makes public investment and recovery the centerpiece of his rhetoric and program, this will be a very long siege, both economically and politically.
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