Five Economic Blunders of 2011 and Five Fixes for 2012

Government's ability to fix the economy's problems may be limited, but it at least should try not to make matters worse.

Unfortunately - but not surprisingly - many of the things that happened in Washington this year did the U.S. economy more harm than good.

More than two years after the official end to the recession, the U.S. economy is still suffering through sluggish growth and an 8.6% unemployment rate.

"They've been wrong from the beginning, and they're still wrong," said Money Morning Chief Investment Strategist Keith Fitz-Gerald of U.S. government policymakers. "It makes you wonder if any of these people passed Economics 101."

That said, here are five of the government's worst economic blunders of 2011:

1. The Debt Ceiling Crisis: While Congress did step back from the brink of plunging the nation into default, the fear and uncertainty resulting from the battle over raising the debt ceiling unnerved stock markets and was the main reason Standard & Poor's cut the U.S. credit rating from AAA to AA+ for the first time ever. The worst part of it was that the whole battle was unnecessary. Congress votes often to raise the nation's debt ceiling, a necessity to keep borrowing the 40% of the federal budget not covered by receipts.

2. The Bungled Federal Budget: In mid-January, the federal government will have operated without an official budget for 1,000 days. The lack of a real budget makes it harder for government agencies to plan, as funding depends on a series of "continuing resolutions" by Congress. Failure to pass one of these stopgap measures would result in a government shutdown, which both Republicans and Democrats have used as a threat to try to force the other party's hand. Even worse, lawmakers argued about, but ultimately took no action on, reducing the crippling $15 trillion national debt or the huge annual deficits that keep driving it higher. Both are anchors on the U.S. economy.

3. The U.S. Federal Reserve's Loose Money Policies: Led by Fed Chairman Ben Bernanke, the central bank has used every policy tool at its disposal to flood the U.S. economy with money in a futile effort to spur growth. Not only has it held interest rates near zero for more than two years, but it has conducted two "quantitative easing" bond-buying programs (not to mention mortgage-backed securities). Those policies have failed to implement either of the Fed's dual mandates to hold down the unemployment rate and control inflation.

4. U.S. President Barack Obama's Jobs Bill: Despite a lot of dramatic rhetoric, President Obama's American Jobs Act was more of a re-election ploy than a serious attempt to deal with the high U.S. unemployment rate. The president knew Republicans would object to many of its provisions, as well as its hefty $447 billion price tag, but also knew those same provisions would appeal to his political base. Even if it had passed intact, economists said it would at best lower unemployment only by a single percentage point.

5. The Payroll Tax Cut: While the House Republicans were foolish to fight the Senate and President Obama on the deal that was made to extend the payroll tax cut for two months, they were right about one thing: Any extension should have been for the full calendar year. Instead of resolving the issue, Congress merely postponed the fight over further extending the 2% cut in the Social Security tax deduction until February. Apart from that, who thought putting money into Americans' pockets by lowering payments into the already-threatened Social Security Trust fund was a good idea? Talk about mortgaging the future.

That leaves plenty of room for improvement, doesn't it? Now let's look at five things the government could do that could actually help the U.S. economy:

1. Get Out of the Way: Excessive regulations are "crimping economic development" and "smashing the entrepreneurial spirit" of America, warns Fitz-Gerald. "They're shackling the economy in ways that will doom it for a generation." And not only are there too many regulations, he said, there are too many regulators. With overlapping areas of responsibility, much of what desperately needs government oversight - namely, the big banks of Wall Street - falls through the cracks. The sticky part is figuring out how to eliminate unnecessary regulations while strengthening those that would protect the markets from dangerous financial instruments such as derivatives and credit default swaps.
2. Live Within Their Means: Doing something about the massive federal budget deficits would lift a huge weight off the U.S. economy. Fitz-Gerald says Congress must "get serious about passing budgets that live within our means." That means shrinking government spending and spreading the pain of taxation wider. Instead of raising taxes on the rich - the top 5% already bear 58.66% of the federal income tax burden - Fitz-Gerald said something should be done about the 45% of households that pay no income tax at all. "They need some skin in the game," he said.
3. Reform the Tax Code: An overhaul of the tax code could go a long way toward rectifying the country's budget problems, as well as helping the U.S. economy. Money Morning Global Investing Strategist Martin Hutchinson said Congress should consider removing or capping some individual deductions, such as those for home mortgages and state tax. His plan for corporations is to cut their tax from 35% to 25% "and eliminate loopholes, while making dividends tax-deductive (but fully taxable to recipient.) With an effective 0% tax on dividend profits, suddenly loopholes and tax havens are less interesting, and $1.2 trillion comes home."
4. Reverse Course at the Fed: Since the Fed's loose money policies aren't working, it should try doing the opposite. Hutchinson recommends the radical step of "raising the Fed funds rate to 5% over six months; 2% immediately, then three more 1% steps every 2 months." That should rein in inflation and strengthen the dollar, protecting it from what would be the biggest calamity of all - losing its status as the world's reserve currency.
5. Reform Immigration Law: One of the less obvious factors holding back the U.S. economy is the lack of highly-educated candidates for professional jobs. Yet many well-credentialed workers leave the country each year. "A lot of smart people come into this country, get a degree and go home," said Fitz-Gerald. He noted the irony in government policies that allows tens of thousands of poorly educated illegal immigrants to flood across America's southern border while foreign nationals with doctorate degrees are often forced to leave. "It could be tax breaks or visas, but we need to find ways to keep those PhDs here," Fitz-Gerald said.

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