America’s Strategy Vacuum

The brute force of massive monetary and fiscal stimulus as a cyclical remedy to this problem. Another approach is needed.

The focus, instead, should be on accelerating the process of balance-sheet repair, while at the same time returning monetary and fiscal policy levers to more normal settings. Forgiveness of underwater mortgages (where the outstanding loan exceeds the home’s current market value), as well as reducing the foreclosure overhang of some 1.5 million homes, must be part of that solution. How else can the crisis-battered housing market finally clear for the remainder of US homeowners?

The same can be said for enhanced saving incentives, which would contribute to longer-term financial security for American households, most of which suffered massive wealth losses in the Great Recession. Expanded individual retirement accounts and 401K pension schemes, special incentives for low-income households (most of which have no retirement plans), and an end to the financial repression that the Fed’s zero-interest-rate policy imposes on savers must also be part of the solution.

Yes, these are controversial policies. Debt forgiveness raises thorny ethical concerns about condoning reckless and irresponsible behavior. But converting underwater non-recourse mortgage loans, where only the house is at risk, into so-called recourse liabilities, for which nonpayment would have consequences for all of a borrower’s assets, could address this concern, while simultaneously tempering America’s culture of leverage with a much greater sense of responsibility.

Timing is also an issue, especially with respect to saving incentives. To avoid the shortfall in aggregate demand that might arise from an abrupt surge in saving, these measures should be phased in over a period of 3-5 years.

The main benefit of these proposals is that they are more strategic than tactical – better aligned with the balance-sheet problems that are actually afflicting the economy. As the quintessential laissez-faire system, the US has outsourced strategy to the invisible hand of the market for far too long. That has left the government locked into a reactive and often misguided approach to unexpected problems.

Thus, the Fed is focused on cleaning up after a crisis rather than on how to avoid another one. The same is true of US fiscal policy, with an event-driven debate that now has ever-shorter time horizons: the fiscal cliff on January 1, sequestration of expenditures on March 1, expiration of the continuing budget resolution on March 27, and the new May 18 debt-ceiling limit. A compliant bond market, which may well be the next bubble, is mistakenly viewed as the ultimate validation of this myopic approach.

The dangers of America’s strategy vacuum and the related penchant for short-termism have been mounting for some time. Harvard Business School professor Michael Porter famously in a 1996 article in the Harvard Business Review. His focus was on corporate decision-making and misaligned incentives leading to a worrisome dichotomy between the short-term tactics of operational effectiveness (cost cutting, outsourcing, and reengineering) and the long-term visionary bets that frame successful strategies.

While Porter’s critique was directed at business managers, it bears critically on the current US policy debate. A successful long-term strategy cannot be seen as a succession of short-term fixes.

The internal debate in the FOMC represents a healthy and long-overdue recognition that the central bank may be digging itself into an ever-deeper hole by committing to misguided policies aimed at the wrong problem. A comparable debate is raging over fiscal policy. Can America finally face up to the perils of its strategy vacuum?

Stephen S. Roach, a faculty member at Yale University and former Chairman of Morgan Stanley Asia, is the author of The Next Asia.

Copyright: Project Syndicate, 2013.

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