The Hindu Business Line : Obama has promises to keep

Not long ago when Barack Obama was a Democratic party presidential candidate, he stood at a podium and exclaimed that “we can change” before an enthusiastic audience. An extraordinary claim, especially when the US is facing a major slowdown, with possible recession at hand.

Now with the US election over and Barrack Obama winning by a huge margin, his first priority will be to put the domestic economy in order.

Worrying estimates

The IMF has estimated that for the financial year 2008, the year-on-year growth of the US economy is expected to be around 0.52 per cent against the earlier US budget office estimate of 1.6 per cent for the same period. The budget office also estimated that the fiscal deficit for the current financial year would be around $482 billion.

With the revised IMF estimate of GDP, one can reasonably conclude that the actual deficit will far exceed $500 billion and probably be closer to $600 billion. This deficit figure will increase further after adding the billions of dollars as additional funding for the Iraq war, which was not included initially. Also, the deficit could get higher if the economy fails to recover.

Krugman’s forecasts

Nobel laureate Paul Krugman expects the economy to slump with unemployment rate hitting 8 per cent; it is 6.5 per cent currently. This will severely dent consumer confidence, which is already at an all-time low. It must be noted that consumer expenditure contributes to about 70 per cent of the US GDP.

Election promises

Let us now turn our attention to some of Obama’s election promises. He has promised to find $50 billion to jumpstart the economy. He wants to give $1,000 per working family and eliminate income-tax for senior citizens (above 65 years of age) making less than $50,000 a year. This is just the beginning. Obama’s longer term objective is to establish government funded basic healthcare to all Americans.

The latest estimate shows that nearly 45 million Americans (that is, one in seven of all American citizens) have no form of medical insurance.

To deliver on these and others promises, Obama has to find hundreds of billions of dollars. One of his suggestions is to increase the tax on long term capital gains made in the stock market from 15 to 20 per cent. Given that the Dow Jones industrial average has fallen from 30 per cent from 14,500 points to around 8,200 points, to talk about increased capital gains tax does not seem logical.

In addition, Obama wants to reintroduce the highest income-tax bracket of 39 per cent, which was put on the backburner by President Bush. Even if this is introduced, it will be applicable only to a small number of taxpayers and the revenue generated may not be significant.

Obama will definitely seek the help of some of the best brains in the country. His panel of experts includes Larry Summers (Clinton’s Finance Secretary), Warren Buffet (legendary investor) and Paul Volcker (former Federal Reserve chairman).

During the Bush Administration (from 2000-2008), the accumulated debt of the US economy had gone up from $5 trillion to $10 trillion, not counting the recently sanctioned $700 billion bailout package. The interest payment on accumulated debt is around 20 cents a dollar and is increasing by the year.

During the four years of Obama’s presidency, steps will have to be taken to control the runaway deficit. This deficit is basically funded by issuing treasury bonds which were bought in large amounts by foreign governments using their sovereign funds. Because of the massive drop in the value of US homes, individual Americans may not be able to contribute to the reduction in deficit by increasing their savings.

The US is a $14 trillion economy and, so, even a 10 per cent drop in its GDP could have a negative impact on the global economy.

Fortunately for Obama, he has the majority in both the Senate and the Congress. He can take hard decisions to bring back stability to the financial markets. For American citizens this will be quite painful, but there is no choice. The entire world is counting on Obama.

(The authors are on the faculty of the Institute for Financial Management and Research, Chennai. blfeedback@thehindu.co.in )

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