CITY AND SUBURBAN
Exit Mr Baker, pursued by a bear market
CHRISTOPHER FILDES
he betting on Wall Street has turned to James Baker, Secretary of the United States Treasury. It is said that he will soon tiptoe out of the Treasury door, to join the campaign of his old friend, George Bush. He would be following Howard Baker, the President's chief of staff, who resigned for reasons which were personal but are thought to be political too. Edwin Meese, the Attorney-General, who had been under investigation, has resigned and de- clared himself vindicated — following the advice once given to the US command in Vietnam: `Say we've won and go home.' The President, who has been on view through soft-focus lenses, riding a Califor- nian mountain trail, should consider post- ing a notice asking the last person to leave his administration to turn out the light.
James Baker may well think that he has earned his release. He has launched his friend on a classic pre-election boom. By now there is even a shortage of truck- drivers. Unemployment has been falling for a year and a half, production is growing (though the doubters say that too much of it is going into the warehouses rather than across the counters). The dollar is still low enough to revive some of the ruined futures of the industrial rust-belt — and, this time, the Germans are busy holding it down.
In October last year, Mr Baker's public spat with his German opposite member — his threat to let the dollar sink, rather than raise interest rates and risk recession — was the trigger, if there was one trigger, of Wall Street's collapse. The months have ticked on, the soaring memories of that panic have lost their force outside Wall Street itself, we have yet to see the recession which the crash seemed to presage and even to demand. Mr Bak- er's policy is no change before November. Mr Bush's policy is more of the same. If that puts Michael Dukakis on notice to show how his policy differs, he has not hurried to explain. Economics merited one sentence in his convention speech — con- demning the doubling of the national debt in the Reagan years, but not saying what he would do about it. There is craft in this. Democrat candidates — George McGovern, Walter Mondale — have been wrecked before now on rash or candid economic promises. The Democrats since Roosevelt's day have been labelled as the party of taxing and spending, and municip- al bonds, which pay interest tax-free, have been coming back into favour in anticipa- tion of a Democrat victory, or as an insurance against it.
Mr Dukakis can fairly claim to have governed a state which was once a parody of the economics of taxing and spending — `Taxachusetts' — and has now seen its worn-out old industries replaced by new ones, science-based.
So far as the new industries sprang from the concentrated resources of higher education within the state, it is an effect which he can scarcely guarantee to repeat across America. These resources have also provided Mr Dukakis with his principal economic adviser, Professor Lawrence Summers of Harvard. Before the election campaign reached its present pitch and before Mr Dukakis was secure of the nomination, Professor Summers was call- ing publicly for tax increases to abate the consumer boom. He is the protégé of Martin Feldstein, who as chief economic adviser argued on the same lines to Presi- dent Reagan and was told to give his advice somewhere else. Professor Summers's advice will accord with Mr Dukakis's frugal instincts, but he is evidently not being encouraged to give it too loudly. It was an interesting exercise in political manage- ment to enable Jesse Jackson to propose a policy of taxing the rich, so that the Democrat convention could be seen to reject it.
We have three months more of this economic shadow-boxing. Mr Baker or his successor can expect to churn out more of the same, though at a rather lower pace of growth. Even the drought-stricken farmers have at last been rained on.
The question, as always with election booms, is how far the economy has been living on borrowed money and borrowed time. Last autumn the rest of the world went on strike against financing the United States's twin deficits, on the budget and on the balance of payments. Today the mar- kets are being told that the budget deficit is not what it seems (add social insurance funding, and the figure looks quite respect- able) and that the trade deficit is narrow- ing, or at least that it has narrowed. The balance of payments must still tell a diffe- rent story, as the United States, the world's greatest international debtor, continues to pay the interest on its debt by borrowing more. Mr Dukakis's frugality can be no match for that. It must be cured, in the end, by capital transactions, by the sale of US assets, abroad or at home, to reduce the debt. Fort Knox would be a good place to start.
After the burden of debt owed abroad comes the burden of debt owed at home. Corporate America has geared up, replac- ing share capital with borrowed money. In the last four years, companies have taken on some $600 billion of debt, and cancelled or withdrawn some $300 billion of share capital. Some of these borrowings have financed management buy-outs. Some have gone into the new structures devised by financial engineers as defences against take-overs, or in effect as the means of paying the raider to go away.
These structures have yet to be tested in a sustained economic downturn. What happens to the high-interest `junk bonds' if the companies' income streams are no longer high enough to flow out through them? The junk bonds' most enthusiastic buyers were the 'thrifts' (savings banks for house finance) and they are in trouble enough already. `Trouble?' growls the sage Eliot Janeway. 'Trouble is remediable. They're dead.' Falling property prices have been fatal to them, in Texas and the Mid-West, and the federal corporation which insures their depositors may already be stretched beyond its means.
Even the big banks have been shown to be modestly capitalised, by what are now to be the common standards of the central bankers. Thomas Hanley of Salomon Brothers has calculated that to meet these standards they will need to find another $33 billion of capital in the next five years. The weakest cannot get there on their own, and will not survive in their present form.
There remains the appalling possibility that the October crash was not, after all, an aberration, and that (as a banker puts it) Someone Up There is going to drop the other shoe. It may be that James Baker has got his timing right.
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