In a sluggish economic summer, no easy fix ahead

[August 14, 2010]  WASHINGTON (AP) -- The Federal Reserve has little power left to lift the economy out of its rut. Congress, with an election looming, has no appetite for more stimulus. Shoppers are reluctant to spend, and businesses are slow to hire.

Let's face it: There is no easy or imminent fix for the flagging recovery.

The sluggish economic summer wore on Friday with news that Americans spent less at most retail stores in July. Earlier this month came word that the trade deficit is ballooning and companies are not adding jobs fast enough to bring down unemployment.

Typically, the Fed can lower interest rates to encourage Americans to borrow money and spend it, invigorating the economy. But the benchmark interest rate controlled by the Fed has been almost zero for more than a year now.

The Fed this week took a new step by announcing it would use the proceeds from its huge portfolio of mortgage securities to buy government debt. The idea is to make cheap credit a little cheaper, particularly for things like mortgages.

The problem there: Americans who are worried about their jobs, not to mention volatility in the stock market, don't want to borrow. They saved 6.2 percent of their disposable income this spring. Before the recession, it was more like 1.2 percent.

"You can't force people to take out a loan or spend money that they don't want to spend," says Alice Rivlin, who served as the Fed's No. 2 official in the late 1990s.

Sure, the Fed still has options. It could launch another trillion-plus-dollar program to buy government debt or mortgage securities like it did when it was battling the recession and financial crisis.

But the Fed is unlikely to commit that much money unless things get a lot worse. Plus there are risks. Regulators don't want to push interest rates on mortgages so low that they encourage speculative buying, like the kind that inflated the housing bubble.

Or the Fed could cut to zero the rate it pays banks to keep money parked there, a move aimed at getting banks to lend more. But banks are not exactly feeling free with their cash, either.

"It's a pervasive level of uncertainty that people and businesses feel about their economic futures," says Ken Mayland, president of ClearView Economics. "It's frozen them into inactivity."

Congress has the power to regulate the economy by adjusting tax rates and passing stimulus programs -- the side of the equation known as fiscal policy, as opposed to the Fed's monetary policy.

But there is little interest on Capitol Hill to undertake a major new stimulus effort. The midterm elections are less than three months away, and Republicans and Democrats alike fear voters are worried about the federal budget's $1.4 trillion -- and rising -- deficit.

A scholar of the Great Depression, Fed chief Ben Bernanke has warned Washington policymakers not to repeat mistakes made during the Great Depression by pulling in government stimulus too quickly.

Bernanke also suggested recently that extending the Bush tax cuts, at least for a while, would be "one way" to "maintain a reasonable degree of fiscal support -- stimulus -- for the economy."

But Democrats and Republicans are divided on what to do. Most Republicans want to make permanent the tax cuts enacted under President George W. Bush in 2001 and 2003. That would amount to nearly $3 trillion over the next decade. Democratic leaders want the cuts for the wealthiest Americans to expire.

That leaves the work of jump-starting the economy for the time being to everyday Americans and businesses, who can spend money and accelerate the cycle of growth. But both are in a frugal mood.

Mortgage rates have sunk to record lows: Rates on 15-year mortgages dropped to 3.92 percent this week, 30-year mortgages to 4.44 percent. Still, people aren't scrambling to buy homes or refinance the ones they already have.

Businesses, meanwhile, are sitting on a record $1.84 trillion pile of cash, according to the Fed. They aren't using the money to expand operations or hire new workers because they, too, have doubts about the strength of the economic recovery.

Across the Atlantic, economic growth for the 16 countries that use the euro clocked in at 1 percent during the second quarter, with Germany leading the way. The U.S. grew 0.6 percent during the same period. Those figures aren't annualized.

On an annualized basis, however, the U.S. economy grew at a 2.4 percent pace in the second quarter, about half as fast as it was growing late last year. And it may turn out, as the manufacturing sector is hurt by declining exports, that growth right now is even slower than we think.

The U.S. stock market, which had managed a significant rally in July, is now absorbing the blow of the economic pessimism. The Dow Jones industrial average fell this week from about 10,700 to about 10,300.

The key, says former Fed governor Randall Kroszner, is making people feel more comfortable and confident that their jobs are secure, and that the values of their homes and 401(k) accounts will stabilize.

It's just that no one is sure where that confidence will come from.

"There is certainly no magic bullet to immediately turn things around," he says.

[Associated Press; By JEANNINE AVERSA]

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