18 Million Jobs by 2012
Making the Banks Respectable
The most powerful factor for creating 18 million jobs in three years will be the country's private financial institutions. Yes, I am referring to the same institutions--the banks, savings and loans, brokerage houses, insurance companies and hedge funds--whose reckless practices created the economic crisis in the first place.
That is the point. Financial institutions are a formidable force for both good and bad. They were effectively regulated for roughly thirty years after World War II, in the shadow of the 1930s financial collapse and Depression. This played a major role in generating the "Golden Age" of American capitalism through the mid-1970s, with rapid growth, low unemployment rates, diminishing inequality and historically unprecedented levels of financial stability. Without delving here into the details of today's debate on how to re-regulate finance--a debate, incredibly, still dominated by Wall Street--let's be clear on first principles. This is simple: we need regulations that will help channel credit toward productive, job-generating activities and away from hyper-speculation. For starters, that means pushing the lion's share of the banks' $850 billion in cash reserves into productive investments.
Of course, the banks need to maintain a reasonable supply of cash reserves as a cushion against future economic downturns. One of the main causes of the 2008-09 crisis and other recent financial crises was precisely that the banks' cash reserves were far too low.
In 2007 banks were holding only $21 billion in cash reserves. But increasing reserves from $21 billion to $850 billion in little more than a year is a new form of Wall Street excess. Let's say that banks should keep $200 billion in reserves as a cushion, a level roughly in line with the amounts they held during the era of regulation. The banks could still lend $650 billion to businesses just from the funds they are sitting on. At the very least, we could assume that overall new lending for productive, job-creating activities could be in the range of $700 billion or above, once we allow for funds coming from savings and loans, insurance companies and other financial institutions in addition to the commercial banks. We would then anticipate that the financial institutions would increase business lending by comparable amounts in 2011 and 2012. Doing so would help set a level of overall lending at roughly its average level during previous economic recoveries. At the same time, expanding credit and productive business investments by around $700 billion per year could by itself deliver nearly 18 million new jobs by the end of 2012.
A big problem is not only that banks are reluctant to lend but also that businesses are unwilling to borrow. Businesses have been heavily scarred by the recession and are not eager to take on new risks. Financial market policies therefore need to focus on helping to boost business confidence and reduce the risks of job-creating investments. The first step here would be for the Federal Reserve to substantially lower the interest rates at which private businesses may borrow. The Fed has been maintaining the interest rate at which private banks borrow among themselves--the "federal funds rate"--at little more than zero for more than a year. But the rates at which nonfinancial businesses may borrow are at historic highs relative to the nearly zero federal funds rate.
An average solid business now has to pay about 6.5 percent interest for a long-term loan, roughly 6 percent more than the rate at which banks may borrow. The Fed needs to push the business borrowing rates down to 3 to 4 percent. The Fed has the power to make such a move, though to do so would certainly deviate from standard practice. But let's recall that nothing the Fed did during the 2008-09 crisis to bail out the banks followed the rule book. It is time for the Fed to pursue innovative policies that will directly benefit ordinary businesses and working people.
The government also needs to intervene to lower the risks facing banks making loans for productive investments and the businesses doing the investing. The policy tool to ramp up here is the government's loan guarantee programs, which support small businesses, green investments, students, rural development and affordable housing. In 2007, the last year before the recession, the government guaranteed about $250 billion in private-sector loans.
The government should roughly double the level of support--i.e., guaranteeing another $250 billion in loans per year--to dramatically expand low-risk opportunities for a wide range of job-generating investments. The proposals being advanced to create a specialized Green Bank as well as an Infrastructure Bank fit comfortably within this broader agenda of channeling the country's financial resources to high-priority projects. At the same time, if banks decide they still can't resist pouring huge sums into the Wall Street casino, they will have to forfeit their eligibility for loan guarantees. The banks should also be required to continue holding high levels of cash reserves as a cushion against their high-stakes gambling. Keep in mind that the government holds controlling stakes in AIG--what had been the world's largest and most sophisticated financial insurance company--as well as Fannie Mae and Freddie Mac, still the most influential mortgage-lending institutions. AIG, Fannie and Freddie could easily convert part of their operations previously devoted to hyper-speculation to supporting guaranteed loans focused on job creation.
What happens when businesses default on these guaranteed loans? Won't this blow a hole in the government's fiscal deficit? Here is what recent experience tells us. In 2007 about 4 percent of the government's guaranteed loans went into default. If we assume that the default rate remained at roughly the 2007 level for this expanded program, that would add about $9 billion, or 0.3 percent, to the federal budget. Even if, implausibly, the default rate on the new loans doubled relative to the 2007 level, that would still increase the federal budget by only 0.6 percent. In short, roughly doubling the government's traditional loan-guarantee programs is eminently affordable as well as an effective means of reducing risks for private businesses, which in turn would encourage them to make the $700 billion in new job-creating investments we need.
How does the set of proposals outlined here realistically get us to 18 million new jobs by the end of 2012? Starting with the $850 billion cash hoard that commercial banks are holding in their Federal Reserve accounts, we move about $700 billion in new credit into domestic employment-focused investments. Assuming we have established a firm floor for the economy through the measures discussed above, injecting $700 billion in new spending into the economy will generate about 5.5 million jobs in 2010. That's because this $700 billion will generate a 5 percent rate of GDP growth, which in turn translates into about 4 percent employment growth. My calculation here assumes that the mix of total employment will shift toward green activities and education, where the jobs per dollar of spending are significantly higher than alternatives such as fossil fuel energy and military spending. We then build from the momentum of a strong 2010 recovery to maintain the roughly 4 percent rate of employment growth in 2011 and 2012, which will create about 6 million jobs in 2011 and 6.5 million in 2012. By the end of 2012, about 156 million people would be employed, 18 million more than the 138 million working today (see www.peri.umass.edu for details on these and related calculations).
The necessity of advancing a jobs program on this scale follows from the fact that the crisis before us is not just 9.7 percent unemployment, narrowly defined, or 16.5 percent unemployment, more reasonably defined, though these figures obviously speak volumes about the interlocking failures of our political and economic systems. Even under a fairly favorable economic scenario, we will be saddled with deep unemployment problems well beyond the 2012 presidential election and perhaps up to the 2016 election, unless we take dramatic action now. Given the severity of the 2008-09 financial crash and recession, it would also be foolish to assume that a healthy recovery is a sure bet. Making things worse is that the Obama administration and Democratic Congress--yes, the Democrats do still hold strong majorities in both Houses--appear unwilling to take actions consistent with the depth of the problems at hand.
Perhaps one can forgive them for underestimating what was needed with the February 2009 recovery program. The full extent of the financial crash and recession were not evident then. I too underestimated what was needed at the time, writing in these pages fifteen months ago ("How to End the Recession," November 24, 2008). The facts and choices before us are now much clearer. We can indeed create 18 million jobs and drive the unemployment rate to 4 percent by the end of 2012. But we have to begin now, we have to stop thinking small and we have to be willing to fight.