What Obama Needs To Cut Deficits: Patience

In the December 14th edition of Forbes, Daniel Fisher proclaims that Obama needs a stock market rally in order to cut deficits. He argues that a bull market will increase the wealth of Americans and encourage them to spend more, stimulating the economy. Maybe I'm missing something, but I'm not getting his logic.

After considering inflating away the deficit, raising taxes and cutting spending, he turns to the stock market:

So what's left to fight the red ink? That massive stock market rally. Since households spend 4 cents of every $1 in increase in wealth, a 30% increase in the $14.3 trillion U.S. stock market next year would pump $170 billion into spending. With the doubling effect as those dollars cascade through the economy, that would be the equivalent of a $340 billion stimulus program. Bill Clinton was the recipient of such a gift when the S&P climbed 230% between 1993 and 1999. But remember what happened afterward: The market plunged 45% as the tech bubble burst.

So let me get this straight: if you accept Fisher's assumptions, then the stock market would have to increase by a whopping 30% for the spending that results to equal less than half of last February's so far relatively anemic stimulus. Good luck with that one.

He goes on:

An Obama rally of 30% would require the S&P to climb past its current price/earnings multiple of 21 times estimated 2010 earnings of $53 a share to something more like a 27 P/E. Then we're back in bubble territory. Says Fair, "You can't run an economy forever on the basis of the stock market going up."

Really? So what we need is another bubble to cut the deficit? That sounds like a terrible idea to me.

Fisher almost comes to the right conclusions here that making a major dent in the deficit in the near-term will be essentially impossible without very bad economic consequences. Precisely what the President does not want is another dangerous bubble. President Obama also understands (I hope) that raising taxes before the economy fully recovers could have disastrous consequences. I'm sure he also realizes that attempting to inflate away the deficit would just make our debt more expensive going forward.

Shrinking the deficit might seem very attractive to many people, but patience is really the only reasonable option. As long as 10% of Americans are collecting unemployment checks instead of paying taxes, it's hard to imagine deficit reduction making much progress. Along with that patience, wasteful spending on new programs should be constrained so that the problem isn't made worse.

In time, when the economy improves, taxes can be raised and stimulus programs cut. Then the deficit can gradually decline, and Washington can slowly whittle away at the national debt. But don't count on that happening in any short time horizon.