Washington Matters


Obama Not First President To Inherit Bad Economy


To hear all the talk about the Great Depression and the New Deal, you'd think that Barack Obama is the first president since Franklin D. Roosevelt to take office in a really challenging economy. He's not.

Most presidents of the past 60 years -- including Truman, Ford, Carter, Reagan and both Bushes -- have been inaugurated amid varying degrees of economic stress...a tricky transition from war to peace, high inflation and interest rates or post-bubble recessions, usually accompanied by low confidence among consumers and businesses.

While the present situation is dire, the crises faced by other new presidents seemed -- and really were -- very real to them and the American people at the time. It's a natural tendency of all peoples, in all times, to believe that their own travails are the worst ever. Without personal recollection or close study of earlier crises, modern folks tend to minimize the severity of past slumps.

Those earlier rookie presidents met their challenges with varying degrees of success, and they were held responsible in the next election, receiving blame or credit even though economic conditions are more often the result of broader factors beyond Washington's control.

A minority of new presidents were fortunate to win election at the tail end of a recession or sluggish economy. They later got credit for recoveries that were already under way but not yet recognized by the electorate. John F. Kennedy found himself in this situation in 1961, and Bill Clinton in 1993.

But most elected in the last century faced tougher times. Harry Truman had to grapple with the Herculean job of guiding the nation from a highly controlled wartime economy back to a peacetime free market. This transition did not go smoothly. It triggered high unemployment, union strikes and surging inflation, which was later aggravated by the costly and unpopular Korean War. History now says that Truman handled these tasks with courage and good sense, but his party was defeated in 1952. He left office, accorded very little respect by the American people.

The brief presidencies of Gerald Ford and Jimmy Carter were dogged by high inflation, two recessions and stagnating stock prices. The 1973-75 recession was particularly painful, with the jobless rate hitting 9%. The underlying cause of all these woes was largely beyond a president's control: a 600% hike in the global price of petroleum by the then-omnipotent OPEC cartel from 1973 through 1980. But disgruntled voters replaced Ford with Carter in 1976, then tossed Carter out in 1980.

The presidents Bush, father and son, took office in 1989 and 2001, respectively -- each on the back end of a lengthy economic expansions that, like most, carried the seeds of their demise and collapsed in late-stage speculative excesses -- the commercial real estate bubble and savings & loan crisis of the late 1980s (after Reagan), and the technology stock bubble and securities experimentation of the late 1990s, when Clinton was president. The Bushes inherited the hangovers after those great parties.

Their hangover remedies varied -- Bush the father raised taxes, the son cut them. Both presided over recessions in their first terms (the father's only term), when already-weak economies were hit hard by international crises -- in 1991, Iraq's invasion of Kuwait and the ensuing Gulf War, and in 2001, the trauma of the Sept. 11 attacks.

Of all recent new presidents, it was Carter's successor, Ronald Reagan, who faced an economic crisis most similar in magnitude (though dissimilar in kind) to what Obama faces right now. And it was Reagan who met his challenges with the greatest boldness. When Reagan took office in 1981, the unemployment rate was 7% and climbing fast -- much like today. Consumer prices had soared a stunning 12.5% the year before, and interest rates in the high teens were crippling residential real estate and business investment.

Reagan's stimulus package consisted primarily of deep cuts in marginal tax rates (slashing the top rate from 70% to 50% in 1981 and 33% in 1986), plus a big expansion of the military. Meanwhile, the Fed, under Chairman Paul Volcker (today an adviser to Obama), began to administer the bitter medicine of monetary tightening to cool down the inflationary fever. It worked, pushing inflation down to less than 4% over the course of two years.

But the cost of taming inflation was high: a sharp drop in national production, the worse recession since the 1930s. Output tumbled a steep 5% and 6% in two consecutive quarters of 1981-82 -- about the same decline now being forecast for the first half of 2009 in this recession. By the fall of 1982, nearly 11% of American workers were jobless. It was the highest unemployment rate since the Great Depression.

When tax receipts plunged in recession (but federal spending grew), the annual federal budget deficit soared in 1982-83 to more than 6% of GDP, the highest level in recent history. Today, this record is about to be eclipsed by a federal deficit topping 7% of GDP.

The deep slump of 1981-82 eventually ended, as recessions always do. Stimulated by tax cuts, falling inflation and interest rates, and massive government spending on both defense and social programs -- with attendant massive deficits -- the economy took off on a tear. Unemployment dropped, job creation resumed, the stock market climbed.

Reagan inherited a sick economy that got a lot sicker before it recovered. But the recovery came in the middle of his first term, and he was credited by voters with playing a key role in bringing it about. They gratefully reelected him in 1984.

Our new President Obama will likely experience something similar in his struggles with this very difficult economy, which will probably worsen a lot before it bottoms out and growth resumes. Today's jobless rate of about 7% will likely go to 9% and might approach that double-digit peak of 1982. At Kiplinger, we expect the contraction will bottom out in the middle of this year, but the ensuing growth will probably be pretty weak for another year or so.

Reagan's stimuli of choice were tax cuts and military spending. The primary goal of Reagan's military buildup -- ahead of stimulating the economy -- was to force the Soviet Union to either keep pace or throw in the towel. It did the latter, collapsing by the end of the 1980s.

Obama has some tax cuts in his quiver of arrows, too, but he's putting most of his faith in the stimulative effect of heavy spending on infrastructure projects for transportation, alternative energy and public school renovations. He views these initatives -- like the roadbuilding and hydroelectric dams of Hoover administration and FDR's New Deal -- as valuable investments in America's future: saving energy, reducing global warming, improving the flow of American commerce, and improving the skills of our young workforce. 

Obama won't be blamed for a crisis so clearly under way before he took office -- a mess caused by the Fed's keeping credit too cheap too long -- which fueled asset speculation, especially in real estate -- and by risky Wall Street innovations in unregulated financial instruments. But Obama will be judged by history on how well he and his allies -- Congress, and the Fed, and American business leadership -- manage the healing of a sick economy. This will take time. Americans should cut him some slack on how long it takes for his stimulus plan to take effect. Improvement won't come overnight. 

All recessions eventually end, after painful adjustments of supply, demand and prices. Since we never let recessions run their course without trying lots of well-intentioned remedies, we never know for sure which remedies were really necessary and which ones might have hurt the patient, prolonging the slump.

On Inauguration Day, Obama and his constituents -- all of us -- can take heart in the knowledge that our economic challenges today are not unique, not unprecedented in recent American history. As a nation, we have met and matched equally daunting crises before, finding a way to get back on track. There is no reason to believe we can't do the same this time, too.




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