2017: Reaping What We’ve Sown

After a tumultuously good, bad, and ugly 2016, the arrival of 2017 brings with it new opportunities, new challenges, and – perhaps most importantly – a fundamental shift in domestic and international policy landscape, the likes of which we have not seen in decades. After the infamously shocking upset by Donald Trump in his bid for the presidency, the United States will on January 20th have a unified Republican government for the first time in eleven years. Rather than serving as a refreshing concreteness about the direction of policy and its implications (in contrast to the past several years of gridlock), however, in some ways things are more unstable and uncertain than ever. Although a unified GOP agenda is gradually materializing, many of Donald Trump’s proposals departs from established Reagan-era Republican ideology, and much of his behavior departs from norms that transcend partisan boundaries. Even for Mr. Trump alone, inconsistencies and repeated u-turns in his policy stances make for a very uncertain 2017.

My worries for this year and the years that follow are many. Top concerns include:

  1. Trade wars. Mr. Trump has taken a uniquely protectionist stance that threatens the post-World War 2 American-lead global consensus on generally free trade, vowing to renegotiate treaties (some of which are Reagan-inspired, like NAFTA) while slapping tariffs ranging from 35-45% on imports from China. Not only will such measures, if enacted, reduce the benefits America receives from the laws of comparative advantage (e.g. lower consumer prices, employment opportunities, etc.), but they threaten counter-measures and reprisals that could spiral into full-blown trade wars. Such a scenario could prove catastrophic – our last set of big trade wars, during the early 1930s, greatly exacerbated the Great Depression. Were another round to occur, the economic and political  ramifications could easily upend the current international order.
  2. The disintegration of domestic and international norms. Mr. Trump does not demonstrate a knowledge or respect for established norms and practices, such as honoring NAFTA commitments, not engaging in a nuclear arms build-up (which, unlike conventional warfare tactics, will do nothing other than provoke an arms race; such weapons derive power from strategic positioning, not quantity), the cultural repulsion of Japanese towards maintaining their own nuclear weapons, the implications on U.S.-China relations of indirectly recognizing Taiwan as an independent state, and a dangerous habit of immaturely lashing out at critics, to name a few examples. This lack of knowledge and respect and the resulting breakdown will make the world more unstable and less secure as institutions weaken and the historic anarchy of states reigns with greater freedom. Such institution-weakening globally will reflect our institutional deterioration at home, where the electoral process has been repeatedly undermined with false accusations and uncertainty regarding the peaceful transfer of power.
  3. An enormous exacerbation of our fiscal sustainability issues. Mr. Trump’s plans to cut taxes aggressively whilst preserving entitlement (Medicare, Medicaid, Social Security) and defense spending will wreak havoc on a debt situation that is, in the long run, already quite unsustainable. Deficits will not only jump sharply in the short run if such plans are followed through with, but will stay higher permanently (in other words, the structural deficit will grow). It is highly likely a follow-through with his plans will entail a near continuous expansion of debt at growth rates that exceed that of GDP growth, an unsustainable situation in the long run (and a dangerous one in the short-run with an economy that is already operating close to full employment – think inflation). How plans to cut taxes will be reconciled with also strong desires to reduce deficits is a key question as the administration prepares to take power.
  4. Regression on healthcare. Don’t get me wrong, the Affordable Care Act is an incredibly flawed piece of legislation. Its weak individual mandate, combined with minimum benefit standards has placed great upward pressure on premiums (and, especially, deductibles) without much relief from subsidies (yes, the subsidies are too low and stingy) whilst still leaving millions uninsured. The deterioration of the insurance risk pools has become so acute that many insurers have been fleeing the ACA’s state exchanges for the past year. Not only that, but the regulatory burden imposed by the ACA on employers (such as stringent definitions of full-time employees, the employer mandate, filing requirements, new taxes, etc.) have generated a large amount of waste, inefficiency, and consternation. Yet, it is my belief that a repeal of the act (and the resultant loss of insurance of 20 + million Americans) would, in the long run, be to the detriment of the United States if an adequate replacement is not implemented. The availability of health insurance is correlated (in a causal way) to better health outcomes, something of which is crucial for worker productivity (and thus, living standards).  Not only is good health and the associated productivity benefits good for the recipient themselves, but the positive spillover effects and externalities of workers having health insurance can benefit businesses as well (e.g., the associated productivity gains and their impact on the corporate bottom line). Like education, health insurance is a good/service that markets have a tendency to inadequately supply at levels below those that would be optimal for society (especially for those who need it), but which governments can help bring to optimal levels via intervention. As such, repeal of the law without an adequate replacement will contribute to deteriorated health outcomes (especially if preventative care cannot be accessed), lower productivity, and lead to continuing high levels of medical bankruptcy that have placed large dents in consumer spending and has financially devastated families, to the detriment of everyone. Not only that, but the experiments the law has initiated (for example, to pay providers in bundled payments) to save costs could prove instrumental in efforts to cost-save down the road. Finally, the repeal of the law will not automatically root out many of the structural causes of healthcare cost growth that the public has complained about, such as an aging population, the inability of insurance to compete across state lines, the monopolization of hospitals, the adoption of costly high-tech medical technology, insufficient price negotiation with drug providers, continued disequilibrium in the tax treatment of healthcare, overuse of uncompensated care in emergency rooms, medical malpractice litigation, and poor diet/exercise habits, to name a few factors. As such, if the law is repealed without a good replacement, expect the number of uninsured to grow greatly while, after an initial slowdown or decline, costs resume their march upward.

The Faint Silver Lining

2017’s uncertain outlook isn’t entirely bad. In the short run, at least, the likely passage of some form of tax cuts and infrastructure spending (and resultant fiscal stimulus) will likely boost economic activity by mid-year 2017, further lowering unemployment and closing what remains of the output gap. Granted, the irony of more deficit-financed fiscal stimulus after years of Congressional resistance shouldn’t be lost upon us, and it is rather late in the business cycle for such measures, but there is an argument to be had for a bit more stimulus still. Besides, if it is well-invested (especially on maintenance, not the creation of new projects), infrastructure spending could be a boon to long-run productivity growth, the engine of long-run economic expansion. Additionally, corporate and/or general tax reform and simplification could be beneficial by lowering the amount of time and resources needed to comply with the tax code (and instead directing such resources towards more productive uses), further boosting growth and incomes.

The question is, will the beneficial impacts of our new policy regime outweigh the dangerous risks listed above (especially in the years beyond 2017)? We’ll have short-run fiscal stimulus, yes, but with (likely) permanent marginal tax rate cuts, higher structural deficits will also be permanent, not short-term. The boost to growth will likely occur in 2017, yes, but will trade wars or the Fed’s concerns about the inflation outlook lead them to raise interest rates, sinking (or, worse, cratering) growth in the years that follow? And what about the effects of new policy stances on healthcare, foreign policy, and – perhaps most concerning – the health of our defining norms and values as Americans?

I’m not particularly optimistic about the overall prospects of our uniquely uncertain direction as a country. Hopefully, my bleak outlook can be proven wrong.