Housing -- Good or Bad Investment for the Little Guy?

With housing prices falling sharply in some areas of the country and stagnant on most others, many people are beginning to wonder if that traditional symbol of achieving the American dream -- home ownership -- is a wise investment. The Washington Post business section on this gray and gloomy Sunday in the nation's capital weighs in with a front page story from which casual readers will draw that incorrect conclusion. It is based on an incorrect assumption: that stocks have provided higher returns than housing over the long-term.

The story is accompanied by a chart from the National Association of Realtors comparing investments of $48,700 in either the median home or a Standard & Poor's 500 index fund in 1978. According to the chart, over the next 30 years that home would have appreciated 347 percent to $218,000. The basket of stocks, on the other hand, would grown a stunning 1,438 percent to $749,000.

That's an average annual return of 5.3 percent for the house, barely ahead of inflation, compared to nearly 10 percent for stocks, according to the chart. Slam dunk for stocks, right?

Alas, the author and the Post editors left out the critical factor in evaluating any investment: how much capital is actually invested to earn those returns. A typical homeowner in 1978 (and we're rapidly returning to those days of typicality as the financial finagling in home mortgage markets gets swept away) put 20 percent down on a home and took out a mortgage for the rest. So for that $48,700 house, the actual amount invested was $9,740; with closing costs, it can be rounded to a neat $10,000.

Let's forget for a moment that this homeowner over the years also got a substantial subsidy from the federal government for the interest paid on his mortgage. Let's also forget about the taxes paid on the dividends and capital gains earned from the stocks. (These factors are mentioned near the end of the story, just like the debt-to-equity issue, but neither are factored into the front-page chart calculation).

If we only look at the return of the house compared to the initial investment, we get a percentage increase of 1,690 percent. That's 200 percent more than the return from stocks.

It's testimony to the power of leverage, and homeownership remains one of the few areas in life where average people get to exert its almost magical powers. (You can buy stocks on margin, too, but few individual investors do since most invest through mutual funds.)

Of course, leverage has an equally powerful effect on the downside. When home prices plunge, equity in a home can quickly be wiped out. That's what happened to families that bought overpriced homes at the peak of the bubble with highly leveraged or no-equity loans.

But that's a relatively small sliver of the market. For most people, homeownership remains their number one source of household savings, and will remain so for the foreseeable future. It's almost shocking that a major American newspaper could so fundamentally misrepresent these basic realities of household finance.

Barackonomics

Sen. Barack Obama gave a major speech on Thursday that placed blame for the current economic slowdown squarely on deregulation of the financial sector. The speech drew a negative reaction from New York Times columnist Paul Krugman, who called his policy prescriptions "cautious and relatively orthodox." No matter that the differences between Obama and Sen. Hillary Clinton are almost undetectable to the unaided eye. They've both endorsed the Dodd-Frank bill in Congress that would begin re-regulating the banking sector and lend a helping hand to troubled homeowners facing foreclosure.

More significantly, they would both go farther than Sen. John McCain, the Republican's presumptive nominee, or the Bush administration, which on Monday will unveil its own plan for increased oversight of the investment banking firms that brought us the mortgage crisis. As the Times story that will appear Saturday reports:

While the (Bush) plan could expose Wall Street investment banks and hedge funds to greater scrutiny, it carefully avoids a call for tighter regulation. The plan would not rein in practices that have been implicated in the housing and mortgage meltdown, like packaging risky subprime loans into securities carrying the highest ratings.

For some interesting take's on the Obama's Cooper Union speech, check out American Prospect and Boston Globe columnist Robert Kuttner, who likened him to FDR in his ability to turn a crisis into a "teachable moment":

He connected all the dots -- between the complete dismantling of financial regulation, the declining economic opportunity and security for ordinary people, the current financial meltdown, and the political influence of Wall Street as the driver of these changes. Astounding! I wish I had written the speech. It is this kind of leadership and truth-telling that is the predicate for the shift in public opinion required to produce legislative change. A radical, appropriately nuanced, and deeply public-minded description of what has occurred, the speech was Roosevelt quality: the president as teacher-in-chief. Those who felt that Obama was capable of real growth that will transcend the campaign's early and somewhat feeble domestic policy proposals should feel vindicated.

Economic Policy Institute economist Jared Bernstein has an excellent overview of the details of Obama's proposal and the other candidates' plans here.

Ben Bernanke and Moral Hazard

In case you hadn't noticed, Congress stlil hasn't passed legislation that would stem the tide of home foreclosures sweeping through some low- and moderate-income neighborhoods. What's holding them up? It's the moral hazard question. If taxpayers bail out homeowners who were tricked into taking out teaser-rate loans and now face foreclosure, it may also inadvertently bail out speculators who bought homes hoping to flip them in ever-rising markets, not to mention the people who can't afford the homes they bought under any circumstances.

But what if you're Bear Stearns and the Federal Reserve Board rushes in to avert panic? Here's an entertaining column by Los Angeles Times columnist Joel Stein that puts that bailout in its proper perspective:

nobody besides the Fed is panicking. People are bummed because their houses are worth less, but people were bummed because their tech stocks were worth less, their alpacas were worth less and their Ugg boots were worth less. But your average American isn't freaking out. A CNN poll this week showed that people's main economic fear is inflation -- which is what you get when you print a lot of money, like the Fed is essentially doing by giving so much away. It makes money fun to borrow and not worth saving, which is how the trouble started in the first place. Plus, it makes the dollar fall, allowing Canadians to make fun of us.

Now there's a fate worse than death: inflation and Canadians laughing at us. Sounds like Bernanke's prescription for the overall economy is to make it more like the health care economy. Heaven help us.

The Horrors! Dems Propose Spending to End Dependence on Foreign Oil

The fiscal conservatism frequently trumpeted by the mainstream media mixes incurious stupidity with gross hypocrisy.

The anger that led to this diatribe began Thursday while listening to NPR and hearing its correspondent describe Sen. Barack Obama's "green jobs" program as costing "$150 billion -- that billion with a B."

Then came Washington Post columnist David Ignatius this morning with a column fretting that Obama had "called for a $150 billion program to develop 'green collar' jobs and new energy sources. Meanwhile, to fix all the highways and bridges of our automotive society, he proposed a National Infrastructure Reinvestment Bank that would spend $60 billion over 10 years. Obama," sniffed Ignatius, "should be pressed on whether these big programs are affordable for an economy that appears to be in a tailspin."

Forget for a moment that there are only two time-tested ways to manage an economy in recession: either lower interest rates to encourage investment (monetary policy) or stimulate demand directly through government spending (fiscal policy). Ben Bernanke's Fed is belatedly doing the former. Is Ignatius suggesting a return to fiscal probity as the antidote to hard times? That was Herbert Hoover's position, and even FDR's in the run-up to the 1932 election, but it has been generally conceded in the intervening years that those views were outmoded. President Bush and Congress just agreed on giving cash grants to consumers to help pull the economy out of its tailspin. As Richard Nixon put it in the early 1970s, "we're all Keynesians now."

But let's put these particular proposals -- green jobs and infrastructure (which are really two sides of the same coin if the infrastructure program is properly designed) -- in perspective. These are ten-year programs, so their annual cost would be $21 billion combined. Let's compare that to what President Bush is spending in Iraq. For readers edification over the next nine months (until election day), I have added the National Priorities Project's "Cost of the War in Iraq" clock to my website. Within a few weeks, the total will surpass $500 billion or about $100 billion per year.

May I suggest to media pundits and reporters that the next time they are motivated to complain about the high cost of Democratic programs to end our reliance on foreign oil or repair our deteriorated infrastructure (remember that Minnesota bridge across the Mississippi that fell down?), the proper comparison is the war, and that a mere 20 percent reduction in the cost of the war will "pay" for it without any increase in taxes.

But, hey, I'm a fiscal conservative, too. I think we should raise money to pay for war or infrastructure investments (and I think a green jobs program properly structured should be considered one: investment in solar cell, windmill, hydroelectric and geothermal electricity production through tax credits and grants will reduce electricity costs over the long run).

As with any investment whose payback comes over a long period of time (like owning a home), the proper way to pay for these programs is debt. A $210 billion program over 10 years will cost about $2 billion a year in bond payments in the first year rising gradually to $20 billion a year by year 10 and then continuing for the next 20 years before gradually declining.

How might we pay for this? Here's a suggestion. The federal gasoline tax, now at 18.4 cents a gallon (state taxes vary but the combined tax rate on average is 45.9 cents a gallon) raised $39.4 billion last year for the highway trust fund. Without canceling a single bridge to nowhere, a two-cent increase in the federal gas tax would raise over $4 billion a year -- more than enough to pay for both programs plus give a $20 annual rebate to low- and moderate-income households that might be unduly burdened by this new tax (20 gallons per week times two cents times 50 weeks a year equals $20). In a market where the $3-per-gallon gasoline price fluctuates by a dime or more each week, how fiscally irresponsible is a two-cent federal add-on?

Or, we could peer a little harder at that $3 price. Earlier this month, ExxonMobil reported that it earned over $40 billion in 2007, shattering all previous oil industry records. Profits for the entire industry last year soared over $100 billion. During the late 1970s energy "crisis," the government slapped a windfall profits tax on industry that in today's dollars raised a peak of $23 billion in 1981. A windfall profits tax of comparable size (about 20 percent of profits) would raise enough money to fund both programs.

The windfall profits tax was phased out by President Reagan in 1987, and the course to our current predicament -- foreign oil dependence, endless wars in the Middle East, and collapsing infrastructure -- was set. Yet the presidential candidates who would propose faint half-measures to deal with these realities (like Obama's 10-year, $210 billion program aimed at energy independence and infrastructure repair) are scorned by the pundits for their fiscal irresponsibility.

Who's really the irresponsible one here?

Inequality and the Coming Downturn

Economic events this week merit my switching gears this morning and putting my economics reporter hat back on . . .

Retail sales are falling, but the stock market remains ebullient. A weakening dollar reduces the trade deficit, while the projected federal budget deficit shrinks to less than $100 billion. Unemployment is at a six-year low, but income inequality is approaching levels not seen since the eve of the Great Depression.

Indeed, while income has increased smartly for the top 1 percent of the population, the bottom 50 percent has actually seen its real income decline slightly in this decade, according to the latest figures from the Internal Revenue Service reported in both today's New York Times and Wall Street Journal. The Times analysis suggests that 95 percent of folks saw their incomes decline between 2000 and 2005, but only the Bush administration's paltry tax breaks for those in the middle brackets (most of its benefits went to the very rich) kept far more people from losing ground.

Every one of these signs points to a business cycle peak. Stocks are always highest, unemployment lowest and budget deficits smallest just before the fall. Maldistribution of income and higher import prices fed by the weak dollars helps explain declining retail sales (the concommitant uptick in exports for the shrunken manufacturing sector no longer offsets the decline, if it ever did). The mortgage crisis is also eroding demand.

Income is the lifeblood of an economy. When too much goes to the head, it has a stroke.

Meanwhile, the Republican candidates at their debate this week blindly dismissed the struggles of the lower and lower middle classes. So did the president with his veto of S-CHIP, and the right-wing echo chamber with its assault on a 12-year-old child from a struggling middle class family that dared to take advantage of the government program.

The next economic downturn will reveal all these factions for what they are: cranks on the fringe. I just completed reading "The Big Con" by The New Republic writer Jonathan Chait. He dissects how the media's failure to take ideas and policies seriously allowed supply-side economics, which offered the panacea of tax cuts in every season, to achieve political legitimacy. We're about to learn again how wrong those people are, at great pain and cost to the bottom half of the American population.

Escaping Taxes

From today's papers:

Tax Break Used by Drug Makers Failed to Add Jobs

Blackstone, Sugar Daddies, and a Sweet Deal

Half of Big Firms Fail to Pay Taxes

Reconsidering Corporate Tax Breaks

What do the first three stories have in common? They're all about how big companies and wealthy individuals escape paying taxes by shifting income -- from the U.S. to abroad; from one state to another; or into capital gains, which is taxed at a lower rate.

Yet in listening to the Democratic candidates debate last night, when the subject of taxes came up, most of the candidates emphasized repealing the Bush tax breaks -- not changing the laws passed with bipartisan support at both the national and state level that allow corporations and wealthy individuals to make income disappear entirely.

The last headline is a story about a new study from the Treasury Department suggesting repealing some tax breaks -- like the research and development tax credit -- would allow all companies to have lower rates. A few candidates last night made this point, and to their credit, said it was average individuals, not corporations, that should get the lower rates by repealing the Bush tax breaks, which were aimed at high-income individuals.

But I'm still waiting for a Democratic candidate to talk about taxing corporations fairly by eliminating loopholes that allow them to move income to lower tax countries or states. That has to be one of the largest grand larcenies in the tax code.

Income Inequality

Why wasn't this story on page one?

Today's New York Times reports that income inequality in the U.S. last year reached levels not seen since the eve of the Great Depression. An accompany chart shows that the more equal distribution of income that was created during and immedately after World War II began eroding in 1980 and now has been completely reversed.

You should read the whole story, but here's some deflating tidbits:

The new data also shows that the top 300,000 Americans collectively enjoyed almost as much income as the bottom 150 million Americans. Per person, the top group received 440 times as much as the average person in the bottom half earned, nearly doubling the gap from 1980. . .

The analysis . . . showed that the top 10 percent of Americans collected 48.5 percent of all reported income in 2005. That is an increase of more than 2 percentage points over the previous year and up from roughly 33 percent in the late 1970s. The peak for this group was 49.3 percent in 1928. . .

The top 1 percent received 21.8 percent of all reported income in 2005, up significantly from 19.8 percent the year before and more than double their share of income in 1980. The peak was in 1928, when the top 1 percent reported 23.9 percent of all income. . .

The top tenth of a percent and top one-hundredth of a percent recorded even bigger gains in 2005 over the previous year. Their incomes soared by about a fifth in one year, largely because of the rising stock market and increased business profits. The top tenth of a percent reported an average income of $5.6 million, up $908,000, while the top one-hundredth of a percent had an average income of $25.7 million, up nearly $4.4 million in one year. . .

And how about the rest of us?

While total reported income in the United States increased almost 9 percent in 2005, the most recent year for which such data is available, average incomes for those in the bottom 90 percent dipped slightly compared with the year before, dropping $172, or 0.6 percent.

Era of Greed Explained in One Chart

My thanks to Larry Mishel and the Economic Policy Institute for sending this chart my way (the headline should read "Ratio of CEO Pay to Minimum Wage, 1965-2005").

GM's Woes Bode Ill for All Americans

It’s pretty easy to blame General Motors for its declining fortunes in the global car market. When gas prices were low, they took the easy path to profits by churning out gas-guzzling SUVs, which escaped the fuel efficiency standards by masquerading as light trucks. They ignored hybrid technology and instead focused their technologists on pie-in-the-sky hydrogen vehicles, which are decades (if ever) away.

But yesterday’s decision to slash pensions and health care benefits for GM’s retirees and salaried workers, following similar cuts for unionized workers, bodes ill for all Americans. The employer-based system that the public has relied on to provide these benefits since World War II is collapsing.

In recent months, bellwether companies like GM, IBM and Verizon have joined the thousands of U.S. corporations, whether headquartered in Silicon Valley or Bentonville, Ark., which no longer provide guaranteed pensions and health care for their employees. Instead, they are turning to a system that provides individual retirement accounts in the form of 401(k)s and capped health care insurance plans supplemented with individual health savings accounts.

In the world that has been slowing arriving over the past two-and-a-half decades, it is every man/woman for him/herself. And if conservatives can get their way on school vouchers, they’ll extend the new social insecurity into childhood.

There is something deeply American about this urge to go it alone. Huck Finn striking out for the frontier, and all that. But it is radically at odds with how the rest of the world is dealing with globalization.

The easiest example to cite is Japan, whose Toyota Motors yesterday declared a huge increase in profits and will soon become the largest car company in the world. In Japan, the government pension program (the equivalent of Social Security) picks up a far larger share of retirement income and Toyota workers enjoy the benefits of a national health insurance program.

Today’s Wall Street Journal front page story on the collapse of pension programs in the U.S. carried some useful comparisons. “Employer pension plans are far less significant in continental Europe, and health-care costs are lower in nearly every other country. . . Health-care systems in some countries, such as the United Kingdom and Canada, are financed through general tax revenue. In Germany and several other European countries, all employers and employees pay for health care through a payroll tax. The per-person health-care tab is smaller, and the systems provide universal coverage,” the business paper of record reported.

But here, employers and the Republican-led government are opting for a system that embraces individual risk sold to the public as individual choice. You get to choose what health care coverage you want or need. You get to manage your own retirement investments. Woe unto you should you bet on a dot.com, or a GM. And if you decided to skip going to the doctor for a pain in your side in order to save your health savings account for a rainy day, too bad. That cancer is too far gone to treat.

This emerging social system will create winners and losers, something that America has been very good at over the years. Some people will do well and others will do without. The number of people without health insurance will continue to rise. The number of people in poverty in their old age also will rise, a reversal of a 50-year trend.

In the early 1980s, somebody applied the tag “me generation” to the Baby Boomers. The leading edge of that generation is turning 60 this year. The two men it has sent to the White House so far – Presidents Clinton and Bush II – have been the architects of this anarchic social system, or at least allowed its imposition by corporate America unchanged and unmitigated.

Unless a new political force emerges soon to counter its ill-effects, our children will inherit a brave new world, one marred by social inequality, social insecurity and a void where concern for the common good should be.

Galbraith on Bernanke

My friend and colleague James Galbraith of the University of Texas last night sent around his six-year-old review of Ben Bernanke's book on targeting inflation. I found it especially persuasive on how conservative mainstream economists have taken to declaring a consensus in the profession where none exists.

Most of the commentary this morning has focused on Bernanke's inflation-fighting skills. Dr. Galbraith issues the necessary corrective in pointing out that the Fed's responsibilities include maintaining full employment (honored mostly in the breach over the years). Here's his review:

The Inflation Obsession: Flying in the Face of the Facts
By James K. Galbraith

From Foreign Affairs, January/February 1999

Inflation Targeting: Lessons from the International Experience. Ben Bernanke, Thomas Laubach, Frederic S. Mishkin and Adam S. Posen. Mishkin, and Adam S. Posen. Princeton: Princeton University Press, 1999, 365 pp. $24.95.

Should a central bank address a broad agenda of economic growth, price stability, and full employment? Or should it focus single-mindedly on controlling inflation? Last autumn this debate mounted in Europe, where calls from social democratic governments for lower interest rates grew louder as the continent prepared for the European Central Bank. In the United States, where federal law stipulates full employment as a policy goal, Republican proposals to require that the Federal Reserve focus only on inflation surface regularly in Congress.

Ben S. Bernanke and his colleagues, each a veteran of the Federal Reserve Bank of New York research staff, make the case for inflation targeting in a book that has the intellectual rigidity of a manifesto. But their tone, worried rather than strident, will seem familiar to followers of the recurrent debates over competitiveness, which cater to national vanity in similar terms. In the authors' eyes, the United States is "lagging behind other industrial countries in considering monetary policy frameworks and institutions that might help ensure good economic performance in the long term."

Since the early 1980s, a handful of countries have formally declared that low and stable inflation should be the overriding objective of monetary policy. These countries, which include New Zealand, Canada, Great Britain, and Sweden, are the main focus of the book. After reviewing these cases, Inflation Targeting uses them as examples to argue that inflation targeting would also enhance American "economic performance in the long term." But the authors have a curious interpretation of this phrase. They do not use it to refer to rising living standards, full employment, declining inequality in pay, or similar recent improvements in American material well-being. Rather, they explicitly deny that monetary policy should be praised for these blessings, since the gains of an expansionary monetary policy are inherently temporary and unsustainable. Economists should therefore not count such gifts among the benefits of a sensible long-term monetary policy.

In other words, America's present affair with full employment is sure to end badly, with an acceleration of inflation leading finally to recession and unemployment. In contrast, the right strategy to fight inflation is to keep unemployment high enough all the time at its "natural" rate, or as low as joblessness can go without sparking inflation. A central bank distracted by the pursuit of economic growth and full employment is to be condemned, while a central bank that achieves price stability at the cost of chronic high unemployment -- as in Germany -- has done its duty. The European Central Bank, charter-bound to price stability whatever the cost, represents the pinnacle achievement for this school of thought. Meanwhile, the Federal Reserve -- unmentioned in the U.S. Constitution, obliged to report on unemployment -- must seem emasculated in comparison.

OFF TARGET?

The case for inflation targeting, as Bernanke and his colleagues present it, rests on a theory -- the natural rate of unemployment mentioned above -- that links monetary policy exclusively to inflation control and denies central banks any important role in determining economic growth or employment. As disciples of the natural-rate doctrine, our authors favor inflation targeting not simply as the better strategy, but as the only strategy consistent with sound economics. But are these principles correct?

The authors do not bother to argue their case, but merely tell us that these truths were presented by Milton Friedman in 1967, refined by Robert Lucas in 1976, and consequently were accepted by most economists. Indeed, the theme of consensus crops up time and again. We read that "most macroeconomists agree" the inflation rate is the only variable that monetary policy can affect in the long run; that there is "by now something of a consensus that even moderate rates of inflation are harmful"; and that there "is a growing belief among economists and central bankers" that low inflation is good for both efficiency and growth. For the authors, the case is closed and consensus has settled the issue.

In fact, no such consensus exists or has ever existed. To take just a few examples, Robert Eisner, a former president of the American Economics Association and a renowned macroeconomist, has never accepted the Friedman/Lucas view. Neither has James Tobin, Paul Samuelson, Robert Solow, or the late William Vickrey -- all Nobel laureates. Neither did Ray Fair at Yale, James Medoff at Harvard, or William Dickens at the Brookings Institution. Bernanke and his colleagues maintain the illusion of consensus by ignoring the actual debate, which has grown more intense, not less, in recent years.

There are two basic reasons why this controversy persists. First, although the Friedman/Lucas doctrine does enjoy some academic dominance, it rests on a peculiar philosophical position that regards the future as a sort of lottery drawing. For example, it would view the Asian financial crisis not as a policy failure but merely an unfortunate, random outcome. Not surprisingly, many thoughtful economists reject this approach. Second, the real world has been openly contradicting the theory for years. Three years ago, every advocate of the natural-rate doctrine firmly held that unemployment below six percent would spark inflation. Unemployment has since fallen, but contrary to theory it not only has remained below the supposed natural rate but has failed to touch off inflation. The Friedman/Lucas arguments have received a clear empirical rebuke.

Instead, deflation, not inflation, reared its head in much of the world last year as the financial crisis spun out of control. But adherents of the natural-rate theory were never able to see this threat. They were still arguing for an anti-inflation policy when the Asian crisis broke in 1997, and they were still clinging to it in the summer of 1998 when U.S. markets began to crack under the strain. As the case for urgent action grew evident to everyone else, including Federal Reserve Chairman Alan Greenspan, the diehard natural raters inside the Federal Reserve obstructed forceful action. The concrete result: interest rate cuts were at first too cautious to impress the financial markets and affect the economy, and so the crisis deepened.

Can a central bank pursue inflation targeting without adhering to the natural-rate doctrine? Although Bernanke and his coauthors make no effort to separate the two, it is possible to base inflation forecasts on something other than the unemployment rate. An inflation targeter could very well have argued at the Federal Reserve last August that the Asian crisis had eliminated inflation risk and that large cuts in interest rates were essential to ward off the threat of deflation.

This supply-side view may be an improvement over an employment-driven inflation obsession, but it is still less sensible than current Federal Reserve practice. Economists opposed to rate cuts could have countered, correctly, that deflation outside the United States will not depress prices inside the country because most wages and prices are unlikely to fall that quickly. However, the great danger of the Asian crisis is not falling price levels but rising unemployment, recession, and income inequality. A doctrine of inflation targeting, even if not tied to the natural-rate dogma, would have weakened the argument for the interest rate cuts needed to stabilize employment and output, not to mention the financial markets and the banking system.

A CASE FOR CUTS

In any case, events have already overtaken our authors. The only potentially effective response to the global slump has been for the Federal Reserve to sharply cut U.S. interest rates and ensure a depreciation of the dollar. These measures help slow the flight of capital to the United States, return confidence to Asian markets, and restore the balance sheets of otherwise insolvent Japanese banks. Inflation targeting would have delegitimized these policy goals. The argument for having our central bank exclusively address inflation not only ignores the reality of the crisis but assaults the urgent present priorities of the Federal Reserve itself.

What of the claim that inflation-targeting countries have enjoyed superior economic performance, even if employment and growth are omitted and inflation alone is considered? A fair evaluation of this claim would require a comparative perspective, which the authors do not provide. We are left then to review the historical record and ask, What kind of evidence do Bernanke and his colleagues actually present that inflation targeting succeeded?

This part of Inflation Targeting merits careful reading, for much of the story in detail is interesting and competently told. But what is striking is that even the authors admit that inflation targeting in practice has actually done little to fight inflation. In the case of New Zealand, they write, "the decision to announce inflation targets occurred after most of the disinflation . . . had already taken place." The same is true for Canada, and Britain also embraced inflation targets when "it was most likely to meet them." Sweden "was in deep recession" with inflation "down to a historically low rate of three percent per year" when its central bank adopted inflation targets.

In other words, the countries in question never introduced inflation targets when inflation posed a serious threat, nor did adopting targets reduce the cost of any ongoing inflation battle. In all cases, the declaration of war came after the fighting was over. So why did the central bankers do it? Bernanke and his colleagues are quite honest about the reasons. Inflation targeting in all cases coincided with high unemployment, and its main effect was to excuse central bankers from addressing this crisis. Second, inflation targeting could substitute for the messy practice of money supply targeting, an earlier misguided enthusiasm that Britain had once embraced and that Germany used until the launch of the euro. Third, and in sharp contradiction with the first motive, inflation targeting provided in a few cases some camouflage for central bankers who were actually planning to ease monetary policy in order to fight unemployment. They said one thing to placate conservatives and did another to accommodate the political and economic realities of the hour.

Central bankers, like generals, are often accused of refighting the last war. But as the motives above suggest, this case is somewhat different. First, inflation targeting commits itself in principle to fight the last war -- the war against inflation -- as a way to avoid addressing the present threat -- unemployment. Second, inflation targeting allows central bankers to change tactics of the last war even though it has already ended. And third, it permits central bankers to assert that the inflation war is still raging, even when they are really planning to fight unemployment. These mechanisms are useful from a narrow public relations standpoint, but it is hard to see how they actually relate to economic performance, including the pursuit of low inflation.

What should the United States do? The Federal Reserve is an independent executive agency under the authority of Congress. It therefore comes under the Humphrey-Hawkins Full Employment and Balanced Growth Act of 1978, which rewrote U.S. economic policy goals to specify that they include, among many things, full employment, balanced growth, and reasonable price stability. In particular, the act set interim targets of four percent unemployment and three percent inflation -- goals that are now, within a few tenths of a percentage point, achieved.

The authors of Inflation Targeting do not discuss the Humphrey-Hawkins Act. If they had the chance, however, they would likely rewrite it and order the Federal Reserve to fight inflation alone. They do not say what would become of the Humphrey-Hawkins goal of "full employment." In principle, perhaps some other agency could address the task of sustaining full employment through a jobs program funded by tax increases or deficit spending. But it is unlikely that Bernanke and his colleagues have this in mind. One suspects instead that what they really want is to abandon full employment as a formal objective of American policy.

It is ironic that this book appears just as Alan Greenspan, Alice Rivlin, and the rest of the Federal Reserve leadership have demonstrated how spurious the natural-rate doctrine is by proving that full employment, balanced growth, and reasonable price stability are not mutually exclusive. This is a remarkable accomplishment, and it is due in part to the willingness of Chairman Greenspan to overrule the adherents of the Friedman/Lucas view and experiment cautiously with continuing reductions in unemployment. In this way, Greenspan and company have affirmed the good sense of the Humphrey-Hawkins law. The fact that the unfolding crisis of go-go globalization now threatens this accomplishment does not diminish its validity or its importance. And in their attempt to stabilize the financial markets and the world economy as the deflationary crisis of 1998 unfolded, the Federal Reserve's leadership demonstrated far more sophistication, flexibility, and common sense than Bernanke, Laubach, Mishkin, and Posen show in this evasive, unpersuasive book.

www.foreignaffairs.org is copyright 2002--2005 by the Council on Foreign Relations. All rights reserved.

The Bernanke Fed

The stock market took off today on President Bush's announcement that Ben Bernanke, the former Princeton University economist turned Federal Reserve Board governor, will take over the Fed when Alan Greenspan retires early next year. While the media immediately reported the market's response was due to perceptions Bernanke will be an inflation hawk like Greenspan, some of his recent speeches suggest his mind works in unconventional ways when it comes to prescribing medicine for imbalances in the economy.

Take the current account deficit, currently running somewhere north of $600 billion a year. We're not just importing significantly more goods and services than we export -- the trade deficit. The U.S. is also a major importer of capital with the exporting nations of Asia, especially China, being some our biggest lenders.

The traditional view is that this current account deficit is a mirror image of the nation's budget deficit, which the Bush administration has pushed to near record levels to support his war in Iraq, hurricane relief and undiminished domestic spending. He even faces a minor revolt in the House among fiscal conservatives who want to use the budget deficit to take another whack at what's left of discretionary federal spending. These allies of anti-tax activist Grover Norquist believe the current economic environment presents their best opportunity to, using his words, drown what's left of the government in a bathtub.

Greenspan could usually be relied upon to sound these conservative themes in his periodic trips to Capitol Hill. When it came to fiscal policy, the Ayn Rand devotee never drifted far from his roots.

But Bernanke may not be as reliable an ally for the deficit hawks. In two speeches earlier this year, the Fed governor downplayed the role of the federal budget deficit as a driver of the nation's current account deficit, which most economists see as unsustainable.

"I disagree with the view, sometimes heard, that balancing the federal budget by itself would largely defuse the current account issue," he said. "In particular, to the extent that a reduction in the federal budget resulted in lower interest rates, the principal effects might be increased consumption and investment spending at home rather than a lower current account deficit. Indeed, a recent study suggests that a $1.00 reduction in the federal budget deficit would cause the current account deficit to decline less than $0.20. These results imply that even if we could balance the federal budget tomorrow, the medium-term effect would likely be to reduce the current account deficit by less than one percentage point of GDP."

Supreme Court Justice nominee Harriet Miers will soon face the furies of the right. Bernanke may get the same treatment once the deficit hawks have had time to read of his recent speeches.

The Journal and Refco

Admittedly, picking on the Wall Street Journal's editorial page is a cheap thrill, but I just can't stop myself this morning. Last week, I wrote how the implosion of commodities firm Refco would probably put the kabash on the efforts by business lobbyists to gut the Sarbanes/Oxley Act. This morning, the Journal picks up on that theme:

"One early lesson is already apparent: All those new laws, rules and
regulators that Congress created after the WorldCom and Enron failures
weren't able to detect, much less prevent, what is alleged to have been
fraudulent behavior. Sarbanes-Oxley, which was supposed to protect
investors from nefarious CEOs, didn't deter former Refco chief Phillip
Bennett from allegedly disguising that an entity he controlled owed Refco hundreds of millions of dollars."

Right. And we might as well repeal the homocide laws since they haven't put an end to murder.

Refco and Sarbanes/Oxley

Business has launched its fall offensive to roll back the Sarbanes/Oxley act, the legislation passed in the wake of the Enron scandal that toughened reporting requirements for publicly traded companies. The campaign's managers must be gnashing their collective teeth this week as revelations about financial shenanigans continue to pour out of Refco, one of the world's largest futures and commodities brokerage houses.

For those who don't follow the financial pages closely, Refco's CEO Phillip Bennett, who went on indefinite leave Monday, apparently kept a $450 million loan to himself off the books for the past three years. Though he repaid the money as soon as it was discovered, the off-balance sheet transaction was precisely the kind of inside dealings Sarbanes/Oxley was designed to prevent.

The law requires that CEOs and chief financial officers certify that their financial statements are true, thus opening up the top officers to criminal prosecution of that later turns out to be incorrect. Presumably Bennett signed such documents for Refco, which went public a few years ago and sold stock to, among others, the good professors and teachers who invest through TIAA-CREF. General Motors was also a major investor, according to this morning's New York Times.

I wonder if Bennett was among those lobbying to get the law repealed. I'm also wondering if this is one of those butterflies that periodically flap their wings in the financial system and lead to systemic trouble down the road.

Car Wars

I was surprised that this morning's papers made no mention of the biggest downside to the emerging automobile price war: the Big Three are borrowing from future sales to liquidate yesterday's production. The entire focus was on internet savvy shoppers now accustomed to getting the best deals. But the motivator behind the huge price cuts is the fact that all the car companies have huge unsold inventories. GM, which kicked off the price wars, was successful in eliminating about a quarter of its million-plus stock of cars and light trucks (a euphemism for suddenly unfashionable SUVs). One analyst suggested this good news meant that GM would resume full production, probably in the fourth quarter, and that it would extend into next year.

Maybe. The other way to read these economic tea-leaves is that today's price wars are bringing people into the market who might otherwise have waited until next year for their next new car. With high gasoline prices showing no signs of abating, those good deals today could be a harbinger of harder economic times ahead.

China Flexes Its Muscles

There’s an old saying in the oil industry: “The cheapest place to drill for oil is on Wall Street.”

China’s bid to take over Unocal has the policy world aflutter. Most commentary argues that China is becoming an economic and geopolitical juggernaut, the equivalent of 1980s Japan only this time with an army.

Leave it to Paul Krugman of the New York Times to point out the missing element in the press coverage. If ever there was a western company that could live easily under Chinese tutelage, it is Unocal. Its previous foray into Asian waters involved the alleged use of forced labor to build a pipeline through Myanmar (nee Burma).

But his column otherwise peddles the conventional wisdom, which argues that China poses a threat to America’s long-term security interests. I find such arguments unpersuasive. China is a rising economic power largely because of its access to the U.S. and other advanced industrial markets for low value-added goods like toys, clothes and small appliances. In the 1980s, Japan (and Germany) were devouring U.S. markets for automobiles, machine tools, steel and advanced electronics. Even today, which industries should the U.S. worry more about losing?

My own reading of Chinese history is that it has almost never sought to project military power beyond its borders, with the emphasis here on the word borders. Vietnam, Taiwan, North Korea, Tibet, Xinjiang – these are the areas that have the most to fear from China’s growing military might. The rest of Asia and large parts of the western world have more to gain from China’s greatest export – its people. The large overseas Chinese populations, including those in North America, will serve as a vast conduit for repatriating U.S. dollars into productive investments.

The Unocal bid reflects nothing more than China’s efforts to secure a hedge against the rising price of oil. China does not have large domestic reserves for its rapidly industrializing economy. Right now, not a single Chinese company benefits from the run-up in oil prices. It can hardly be a pleasant prospect to watch its dollar reserves earned from making toys and clothes getting recycled to the west in the form of dividends to ExxonMobil, Shell and Chevron.

In the 1980s, the Japanese challenge angered many Americans because the failure of U.S. corporations to successfully compete threatened their jobs. As oil moves inexorably toward $100 per barrel, I can’t believe that Americans will care one whit about the home country of the oil giants reaping the short-term rewards.

Rising Prices, Rising Rates

This week’s large jump in retail and wholesale prices caught my eye. The smart money on Wall Street today was betting that the Federal Reserve board will raise interest rates at least a half point when it meets at the end of June. My guess is that it’s just the first of many increases to come.

Amid all the bad news out of Iraq, the Bush administration's next gift to the American people will be the unprecedented phenomenon of a wartime economy heading for a slowdown.

Not that it's been much of a boom. Despite his massive tax cut for the rich, massive fiscal stimulus through war spending and massive fiscal stimulus through negative real interest rates, the unemployment rate has barely budged. And while hiring finally picked up in recent months, employers will pull the plug as soon as interest rates begin their inevitable upward ascent.

Why no more hiring? Rising rates will put an end to the home refinancing and home equity loan booms, which allowed consumers to spend like banshees through a period when their real incomes stagnated. Moreover, some economists (like my friend Dean Baker at the Center for Economic and Policy Research) are predicting a massive collapse of housing prices as rates rise. But even if home prices only stagnate for a few years, the economy will lose its major prop.

Another indicator signaling higher rates is the dollar. Right now, generous Europeans and East Asians are financing the U.S.’s massive budget and trade deficits. But in the past year, the dollar has declined about ten percent against the yen and euro. It’s turned overseas investors’ ultra safe Treasuries (3-4 percent rates) into a depreciating asset. The outlook for the coming year is another ten percent decline in the value of the dollar. The only way to finagle those feckless foreigners into continuing to finance Bush’s war and tax breaks will be through higher interest rates.

Can Greenspan postpone the inevitable, say, beyond the election? I doubt it. The outlook for the next twelve months is pretty much set: Rising interest rates, a falling dollar and rising prices. Unfortunately for Democratic candidate John Kerry, unemployment is a lagging indicator. The denouement of all this bad news -- rising unemployment -- won't hit until about nine months after rates start rising, which is well beyond Election Day.

Higher Skills, Fewer Jobs

With advanced technology and skilled workers, America can keep a strong manufacturing sector, but rising productivity equals a smarter -- and smaller -- work force
(This article first appeared in The American Prospect Magazine)

January 2004 -- IN THE PAST THREE YEARS, U.S. MANUFACTURERS HAVE suffered their most dramatic job losses since the Great Depression. Even with the turnaround in job creation reported this fall, manufacturing lost another 19,000 jobs in November.

The sector's low-skilled and lowest-paid workers have been especially hard hit because they engaged in repetitive work at outmoded plants. But even more highly skilled workers who performed statistical process control in automated clean rooms weren't immune. Manufacturing job opportunities for the high-school educated have evaporated across the board.

The 48 percent of Americans over 25 with no education beyond high school have traditionally looked to the manufacturing sector for jobs, and for good reasons: Not only does manufacturing pay better than average but manufacturers often provide the high-school educated with a semblance of a career ladder compared with alternatives in fast food, warehousing and other low-wage but fast-growing service industries.

For nearly a quarter-century, the leading thinkers in workforce development have preached a consistent sermon on how to maintain these good job opportunities for the non -- college-educated crowd. By adopting Japanese-style lean manufacturing techniques and training their workers to perform in a computerized and robotized environment, U.S. manufacturers could compete with anyone in the world. Indeed, the jobs that remained would pay better than the ones that fled offshore. It was the task of employers to take the high road and modernize their factory floors.

And it was the task of the schools to provide young people with the basic skills and attitudes needed to thrive in the new environment. Working in manufacturing no longer meant showing up at the factory door on time and ready to take orders; a displaced peasant in China or Indonesia could do that. The modern American factory worker had to be able to read, compute, solve problems, work in teams and be willing to take on a half-dozen tasks in the course of a typical day. If they were going to get paid 10 times as much as workers in the developing world, they would need to work 10 times as smart.

However, something went terribly awry on the way to the manufacturing high road. Opportunities for the semi-skilled have suffered a severe setback in the recent recession and this thus-far jobless recovery. The United States has lost 2.6 million manufacturing jobs since George W. Bush became president. Since the recent peak in the spring of 1998, the United States has lost more than 3 million manufacturing jobs, or one in every six. As of this writing, the sector has suffered 40 consecutive months of job declines. Many economists, including some leading liberal ones, have resigned themselves to the gradual withering away of manufacturing jobs -- like agriculture after the turn of the 20th century.

What's happening? Are companies vanishing because they failed to modernize? Have the productivity gains fostered by the computer-robot revolution finally outstripped the nation's ability to consume and export? Are firms being overwhelmed by a flood of cheaper imports? Have these jobs disappeared forever, even after the economy recovers? And, most important of all, what does it mean for high-school educated workers, or even those with community-college training, who upgraded their skills in hopes of finding a place in this better-than-average-paying world? Has the high road turned into a narrow pass, accessible only to a lucky few?

The answer to all those questions, I learned from touring factories that span the technological spectrum and reviewing recent research from the Russell Sage and Rockefeller foundations, is "yes."

THE JYTEK INDUSTRIAL PARK IN LEOMINSTER, MASS., about 50 miles west of Boston, was built during the 1960s to meet the needs of the region's growing plastics manufacturers. The park's 20 single-story buildings, with accessible loading docks and attractive front offices, line a meandering drive just a few miles from an interstate entrance.

But the park's modern appearance is deceptive. Several companies in the park have recently gone out of business. Others operate with skeleton crews or shut down for weeks on end.

Basque Plastics Corp., run by 53-year-old Cliff Basque, who took over the business from his father a decade ago, is one of the firms struggling to hold on. Basque's sales in 2003 will total $ 1 million, less than a third of what they were five years ago.

Back then, Basque Plastics was one of the more successful small companies in the park. It sold computer-disk boxes, printer parts and bird feeders to Fortune 500 manufacturers and big-box retailers. Basque did not rely on leading-edge technology to stay competitive. He instead used $ 8- to $ 9-an-hour nonunion workers, many of them Hispanic, to scrape the excess plastic from the finished parts as they fell from his machines' molds before hand packing them in boxes for shipment to their final destinations.

The company maintained its niche, and even grew, by supplying nearby manufacturers and assemblers who had small orders and needed quick delivery. It was the kind of work that could never go offshore, Cliff Basque assumed. At its peak the company employed 45 people, 30 full time and the rest from temporary agencies when orders got backed up. John Ballantine, a finance professor at Brandeis University's International School of Business, visited Basque Plastics when it was in full swing. "These firms have found ways to survive," he says. "Low-wage. Temporary workers. . . . [They] went to temporary workers in the mid-1980s as a way to serve their markets, which have seasonal demand."

But those strategies failed to insulate the company from the recent cooling trend. First, disk-box manufacturing followed the disk manufacturers to China. Then the bird feeders went as well. "I've lost almost half of my business overseas," Basque says. "Before, business would slow, but it was still there. It was an inventory correction. But now the work has simply gone away." He released the last of his temporary workers this past fall.

During a tour of Basque's factory, we walk past his 17 aging plastic-injection molding machines. Only two are operating. He estimates his capacity utilization is 20 percent. That sounds generous.

The one machine operator on the floor is a woman in her 60s. She offered to work three days a week at near minimum wage so she'd have something to do in retirement. The other, more skilled workers who remain -- a tool-and-die mold builder, the mechanics -- are well into middle age. Historically the company had relied on getting in on the ground floor of new products at larger firms -- like the disk boxes -- and growing with their business. Basque is looking for something like that now, so far without success. "The growth industries? I don't know where they are," he says.

IN NEARBY CLINTON, MASS., NYPRO INC., THE SIXTH-largest plastic-injection molder in the United States, held its own through the recent downturn, making everything from cell-phone casings to drug inhalers. The employee-owned company represents a textbook example of how a U.S. manufacturer can stay globally competitive by adopting advanced technology, training its workforce and providing leading-edge designs for top-drawer customers like Nokia, Motorola, Dell and Pfizer.

Nypro experienced explosive job growth in the 1990s compared with most domestic plastic manufacturers. It doubled its workforce to 10,000 in 60 facilities in 16 countries. Most of the growth came overseas, especially in China. But the company also added 1,600 workers to its U.S. workforce, which now totals 4,200.

The recent downturn has stopped Nypro's growth in its tracks. Last year, worldwide sales grew just 2.6 percent, to $ 605 million. Domestic sales declined. Over the past two years, there were two small layoffs at the company's picturesque Clinton plant, which is housed in a converted carpet mill that dates from the 1840s. The company's original U.S. factory now employs about 1,000 workers, down from 1,100 at its peak.

Once inside the mill, it's easy to understand how Nypro managed to weather the storm with minimal damage. Almost all of its manufacturing processes have been automated, a change that has been ongoing for more than a decade. In a room dedicated to making an unobtrusive insulin injector for Eli Lilly (they're shaped like pens), plastic pellets travel from basement drying machines through pneumatic tubes and into plastic molding machines. At each machine, a twirling robot inserts the internal parts of the insulin pens into the mold on the front end of the process, and at the end pulls the finished products from the machine and inserts them in a box. A conveyor belt carries the bar-coded shipping container past an optical-recognition system that reads and records the data. This industrial ballet takes place in a clean-room environment where the workers wear hairnets and booties to avoid contaminating the medical device.

The workers (there are just seven in a room with 20 machines) do not operate the equipment. They watch over it. They keep detailed production logs. They occasionally measure individual parts coming off the line to ensure that the machines haven't begun turning out injectors that don't meet Eli Lilly's exacting standards. It is somewhat complex work, but nothing that a reasonably diligent, high-school educated person couldn't do.

Because of their productivity, the 600 production workers at Nypro earn about $ 14 an hour once they've been on the job a few years. This is significantly more than the few remaining production jobs at firms in nearby Jytek park that haven't modernized their operations. Writing in the study "Low-Wage America: How Employers Are Reshaping Opportunity in the Workplace," Ballantine and Ronald Ferguson note that "these wage and benefit differences are far from arbitrary. Instead, they represent strategic, firm-level decisions calculated to attract and retain workers with skills, attitudes, and work habits that firms deem necessary for their business success."

But in the years ahead there will be fewer and fewer of these good jobs, even at Nypro. In its most up-to-date clean room, the company recently invested $ 6 million in new equipment for manufacturing inhalers for another major pharmaceutical firm. The totally automated line can make and combine 13 parts into a finished, boxed product ready for shipment. Not once are the parts touched by human hands.

"How do you justify a $ 6 million equipment purchase for such an inexpensive part?" Al Cotton, a company spokesman, asks. "You make it self-diagnostic. Any breakdown on the line is immediately identified on the overhead scoreboard," which hangs from the ceiling above the circle of machines. It takes just one operator and one quality-control person to manage the entire system.

Future job opportunities at Nypro will be further up the skill chain. The company is increasingly involved in designing parts for its customers and building ever more efficient and effective molds. A decade ago, the company earned 90 percent of its revenue from stamping parts. Last year it was about half. The plant's future clearly rests on its 20 engineer-designers and 150 elite tool-and-die mold makers, who earn $ 60,000 a year and more.

To recruit and train these highly skilled workers, the company runs its own two-year college in conjunction with the University of Massachusetts Lowell. It teaches everything from basic injection molding and statistical process control for entry-level workers to mold designing and blue-print reading for workers seeking to advance. The company even offers its courses online to potential plastics people around the world.

To move up the ladder into one of these premier jobs, however, you have to get in the front door. And getting in the front door, for most of Nypro's blue-collar workforce, means starting in the temporary-employment office. The company maintains about a tenth of its production workforce on temporary status, which has substantially lower benefits and pay (about $ 9 to $ 10 an hour) than regular employees. The lower pay doesn't mean that the temporary jobs are easy to get, though. Before becoming a temp, applicants must show a high-school diploma, pass a standardized reading and math test, and make it through a rigorous interview that screens people for their dependability and trainability. Once on the shop floor, company officials carefully scrutinize their work to determine who will be offered permanent jobs. For the best of them, the temp-to-hire process usually takes about three months.

"The temp workers we talked to felt the system was wasteful because they thought they had proven themselves as good workers long before they got the opportunity to become permanent," says George Erickcek, a senior analyst at the W. E. Upjohn Institute for Employment Research. "They felt a little bit abused [because] they did not get the benefits nor the wages that the permanent workers got." On the other hand, "The permanent workers thought this was a good process. They had been successful, and saw it as a buffer. Once you were permanent, you had more job security. They knew the temporary workers would be let go first."

Indeed, the number of people squeezing through the funnel has fallen sharply in recent years. Nypro released 40 temporary workers last February. Manufacturing of computer parts and cell-phone casings has increasingly migrated abroad, to those countries where the equipment manufacturers assemble their products. "We're heading to 100 percent medical products in this plant," Cotton says. "You can't make them abroad and ship them back to the United States and still meet [Food and Drug Administration] requirements."

THOUGH OVERSEAS COMPETITION REMAINS A PARAMOUNT concern for most manufacturing firms (a recent Goldman Sachs study suggests imports accounted for slightly more than a third of recent job losses), the main story behind declining job opportunities in manufacturing remains the extraordinary gains in productivity of recent years. U.S. productivity growth during the bubble years would have stayed stuck in an intolerable 1 percent to 2 percent range had it not been for the stunning 4.3 percent gain in manufacturing productivity. Forget e-mail and the Internet, which, if anything, have only served to extend the white-collar workday. It's the increasingly robotized and computerized smart factory that is leading the productivity parade.

In the past five years alone, General Motors lopped five and a half hours, or 18 percent, off the number of person hours it takes to assemble a car. Even before the recent recession, U.S. manufacturing output was twice what it was two decades ago (with about the same number of workers). As this recovery progresses, manufacturing output is rebounding sharply even while jobs are still being cut. In the basic steel industry, about 125,000 U.S. workers produced 74.8 million tons in the first nine months of 2002. Just one year later, 3.2 percent fewer steelworkers upped the industry's output by 6.8 percent, according to data from the American Iron and Steel Institute.

The nature of work inside the mills has changed dramatically since two decades ago, when there were three times as many workers in high-paid industries like steel. Workers no longer speak about operating the equipment but monitoring it, according to Casey Ichniowski, a professor of management at the Columbia University Graduate School of Business who studied the basic steel industry in the 1990s. Backbreaking jobs have virtually disappeared; now workers need data-analysis and problem-solving skills. "The technology made you a technician instead of an attendant," Ichniowski says.

And because the wages are so high (about $ 20 an hour plus benefits in the heavily unionized sector), the hurdles for the few replacement workers hired in recent years have also been raised. At one mill, applicants went through an eight-step selection process, including standardized academic tests, problem-solving exercises and interviews. Ichniowski and his co-authors in "Low Wage America" are convinced that U.S. steelmakers can compete using this highly paid and highly skilled workforce because "labor costs are a fairly small part of steel production." Their real problem is that "integrated U.S. steel firms are suffering under the huge overhead costs of pensions and health care owed to retired workers."

IT'S NEVER TOO LATE FOR MANUFACTURERS TO BEGIN modernizing and save some jobs that might otherwise be lost to overseas competitors. On Chicago's near-southwest side, 32-year-old Dwan Powell recently began a $ 13-an-hour job in the brass-plating operation of a lamp-parts manufacturer, Chilo Manufacturing and Plating Co. The company now employs 28 workers, down from 70 in 1998, as more and more of its customers turn to China for their entire lamps.

But Chilo's brass-plating business is growing. A year ago, faced with an Environmental Protection Agency cease-and-desist order, the company spent $ 1.2 million on an automated plating line that uses fewer chemicals and less water, recycles its wastes (instead of dumping them in the city sewer), and generates a higher quality and more uniform final product. Employment in the division went from five to 10 workers as other companies in the area began sending it work. Their job titles -- quality-control engineer, preventive-maintenance technician, waste-treatment operator -- accurately describe the changing nature of work inside the plant.

Powell, who had been laid off from his job as a cable installer before getting a job at Chilo, performs multiple tasks as lead operator on the line. The former high-school football player's 6-foot, 300-pound frame easily shovels the finished parts from the bin where the automated basket dumps them after they're plated. But then he carefully weighs and measures a few of the parts, and logs the results. Occasionally he adjusts the electricity flowing through the vats to ensure a uniform coating.

"This is pretty interesting, and I don't fully understand it yet," Powell says. "I'm still learning." A picture of his two children is taped to a steel beam near his work station. The company's announcement that it will soon add health insurance to hold on to more highly skilled workers like Powell is a welcome development.

Meanwhile, the parts-stamping end of Chilo's business, which pays about $ 10 an hour, continues to lose jobs. "Any company that is trying to rely on low-cost labor is going out of business," says Keith McKee, a professor of manufacturing at the Illinois Institute of Technology. "Most of the unskilled jobs have moved overseas. The unskilled people who can't read or write -- there are no jobs for these people in manufacturing today."

To be sure, even modernizing won't save all the jobs that once existed. The surge in manufacturing productivity, which shows no signs of abating, guarantees that the sector will probably add back few of the jobs lost in the recent downturn.

Indeed, the upsurge in manufacturing productivity is a global phenomenon. A recent study from Alliance Capital's research unit points out that between 1995 and 2002, there was a global decline of 22 million manufacturing jobs, or 11 percent of the total. Even China lost 15 percent of its manufacturing jobs -- largely because of the collapse of its state-run sector.

Even if a new administration pursued the best policies available, the manufacturing productivity revolution ensures that the sector will never again be an employment driver in the U.S. economy. It is still critically important that the United States continue to invest in upgrading the skills of its non -- college-educated youths. It improves their lifelong earnings capacities no matter where they end up. Governments at both the state and national level should expand programs for helping small- and medium-sized manufacturers modernize so that the United States can hold on to the high-paying end of manufacturing, which generates the new ideas and added value in the sector. It's also important that the United States continue to keep a vigilant eye on predatory trade practices by foreign firms and governments. America needs manufacturing. Our workers and companies shouldn't be robbed of the chance to compete.

What's Needed Now: Economic Security

(This article originally appeared in The America Prospect Online. It has been widely reprinted and delivered as a Marketplace Commentary on National Public Radio.)

Over the next few weeks, America will be consumed by debate about how life in this beacon of freedom may have to change to confront the terrorist threat. Liberals will have to think creatively about how to protect civil liberties in an era when it has become apparent that there are cells of people within the U.S. who are willing to engage in indiscriminate mass murder to further their insane politics.

But we have to do more. We must use this moment of national grief and unified purpose to advance a positive agenda that speaks to all Americans, who are desperate for a way to contribute to the war effort. Issues of economic security and policy have not gone away --they have only been upstaged for now by the terrorist threat. Here are a few questions that should not be overlooked:

First, the nation must immediately embark on a crash program to wean itself from dependence on foreign oil. That means substantially weaning itself from oil itself.

The most fitting memorial to the dead of September 11, 2001 will come if, decades from now, the assault is recalled as the event that triggered the end of the era of oil. Oil, as Daniel Yergin wrote in his Pulitzer Prize winning book "The Prize," fueled both economic growth and the great geopolitical conflicts of the 20th century.

But in the 21st century, it has become an albatross around the advanced industrial world's neck. It is the primary source of not only air pollution and global warming, but of geopolitical instability. The nations that, through the fluke of geography, are the source of much of the world's oil, have largely squandered the patrimony that flowed into their wallets. Their spiritually and economically impoverished peoples have become the seedbeds of the fanaticism that has needlessly taken so many lives.

The technologies already exist to accomplish the goal of eliminating half of our oil usage over the next decade. The automobile industry must be given generous tax incentives and subsidies to ensure that every new car that rolls off assembly lines within five years uses clean technologies like fuel cells that are either oil-free or are hybrids. Car fleet fuel efficiency standards should be doubled with generous financial awards for date-certain completion. And then they should be doubled again.

The government should also jump start massive new investments in non-polluting and non-oil using technologies for producing electricity. Solar, wind, geo-thermal and biomass -- these are the energy sources of the 21st century, not oil and natural gas from politically unstable regions.

The debate over changing our travel habits in the U.S. in response to the horrific hijackings cannot be limited to adapting new security precautions at the nation's overburdened airports. There were undoubtedly many ways the terrorists could have eluded our slapdash airport security precautions. Long lines of harried travelers brushing past the underpaid rent-a-guards at x-ray checkpoints pose almost no deterrence to the determined mass murderer.

Yet the outlook for the nation's airports in the coming decades promises even bigger crowds and longer lines. Moreover, as long as the current economics of the airline industry are in place -- with their thin operating margins in good times and massive losses in bad times -- improving the quality of airport security could prove very difficult to finance.

But there's a way around this dilemma. The nation should resolve now to end gridlock at its airports by eliminating all flights of up to 300 miles. How? By building a high-speed rail system in this country that will get people to their business and pleasure destinations just as fast, if not faster, and at less cost and with more comfort than current air travel.

A crash program now could have a modern, high-speed rail system in place in ten years that would largely eliminate the Washington-New York and New York-Boston shuttles; link the cities within Florida and Texas; hub-and-spoke the checkerboard-patterned cities of the Upper Midwest; run up and down the West Coast. It's a crash program that would create tens of thousands of new jobs in every section of the country.

Then, the airlines could adopt continental schedules that fill up their planes. Do competing airlines really need to send planes from Boston to Los Angeles every hour that are only one-third filled?

Businesses can adapt by altering their business schedules, and airlines can drop their ruinous competition for the limited trans-continental market. High-speed rail and full planes will mean less frequent aircraft departures and less crowded airports. That will give the airlines and airport authorities time to carry out the sophisticated and appropriate security measures that must be adapted in the wake of this week's terrorist assault. Those flights may cost more, but it's a small price to pay.

These are just some of the home front programs that the American people can unite behind now to combat terrorism within our borders. They're practical. They're high-tech. And they will give the economy a boost.

And most important, they will unite the home front in the war against terrorism in a way that doesn't sacrifice our basic freedoms.