Big Government Is Back—Big Time

Have you noticed that Barack Obama sounds more like the president of France every day? When Obama said in his Inaugural Address that it was time to get past stale arguments over whether government is big or small, he was echoing the eclectic philosophy of Nicolas Sarkozy, who champions markets one day and state industrial "champions" the next. When Obama called Wall Street "shameful" and greedy, he was articulating what the French have always thought, and endorsing Sarkozy's recent dismissal of the "crazy" idea that markets are always right. In endorsing the "Buy American" rules that would steer the billions in U.S. stimulus spending toward domestic manufacturers, members of the Obama administration were seconding the old French culture of "economic patriotism." And when Obama moved to cap the pay of executives at financial firms in line for the federal bailout at $500,000, he was forcing on them a massive pay cut that Sarkozy had already coaxed from French bank leaders when he gathered them together last month and got them to agree, publicly, that they would forgo bonuses.

It was with a distinctly continental sniff that Obama said top bank brass had shown "bad taste" by taking their bonuses despite massive losses.

Obama's rhetoric and actions reflect how quickly the debate has changed over the past several months. Until the financial crisis began last year, this kind of business bashing and protectionism was largely relegated to the far left, and it seemed axiomatic in the United States that the business of America was business. But with an urgency not seen since Ronald Reagan declared that government was in fact the problem, policymakers are now reconsidering the relationship between government and the private sector. At its most basic level, the nearly $1 trillion U.S. stimulus package now being dissected on Capitol Hill is a fight over how great a role the federal government will play in what had been, for decades, private economic life. And while it's impossible to know just what the day after the crisis will look like, the broad contours of the new economic world are becoming visible.

One of the more lasting effects will be a steady drift toward what could be called a European model of governance, regulation and paternalism. Already, big government is on the rise—projected public-spending figures show the United States will move ever closer to European averages over the next two years. More specifically, in the absence of a robust private sector (or at least public confidence in business) the U.S. government will be forced to fill the gap, firmly directing businesses in all sorts of ways—regulating some industries (particularly banking and the automotive sector) with big-brother vigilance, favoring others like clean energy with grants and loans, and turning still others—health care, pensions—into virtual wards of the state. Harvard economist Ken Rogoff predicts the United States will move toward "a more centralized, redistributional health-care system, as Europe already has," with a greater emphasis on the environment, higher regulation and increased protectionism. "I take the 2008 U.S. elections as marking a turn toward continental Europe," he says.

This is all likely to prove very popular if the conventional wisdom is right. Many economists think this is going to be a long, perhaps very long, recession. In this case, the banks would largely stabilize, thanks to the help of the federal government, but the stimulus package would be too small and insufficiently "timely, targeted and temporary," as Obama economic adviser Lawrence Summers has frequently suggested it needs to be. Rather than a speedy V-shaped recovery, in which the economy quickly rebounds, the U.S. would face a Japan-style L-shaped recovery, which is to say extraordinarily slow growth over a decade or more. As in Europe, slow or no growth is likely to generate greater demand for publicly funded social services in the years to come.

Slow growth could kill rugged American individualism, too. Health care in the U.S. is for the most part tied to employment, so if job numbers continue to look dismal, or get even worse, an ever-greater number of people will start looking to the government for support. Moreover, if the New York Stock Exchange goes the way of Tokyo, still down by more than half from its level 20 years ago, the cultural impact will be profound. Today, basic U.S. social services are tied to private wealth generated by the stock market: retirement is funded through 401(k)s, for instance, and college tuition through 529 plans and endowments that help defray costs. As of last week the S&P 500 was down 41 percent from its 52-week high, and if it continues to bump along at that level, pressure will only grow on the Obama administration to step in and take over more and more public services. Think about it, and it's very easy to imagine a chorus of former American individualists demanding cushy French-style pensions and free British-style health care if their private stock funds fail to recover and unemployment inches upward toward 10 percent and remains there.

Obama's populist rhetoric will likely subside, but already U.S. government spending is expected to increase, approaching European levels. A decade ago, total government spending in the United States constituted 34.3 percent of GDP, compared with 48.2 percent in the euro zone—roughly a 14-point gap, according to the Organization for Economic Cooperation and Development. That gap has declined dramatically, and by 2010, U.S. spending is expected to be 39.9 percent of GDP, compared with 47.1 percent in the euro zone—a gap of just 7.2 points. To be fair, much of the big increases in spending took place in the Bush era (in large part thanks to two wars), but a prolonged period of low growth and greater demands on the public sector will likely mean a further narrowing, as well as a seismic shift in spending priorities, away, perhaps, from defense and toward social programs. The baby boomers, meantime, will be putting an increased demand on Medicare and Social Security.

The public seems to want the government to fill in where the private sector cannot. Recent Gallup polls say trust in financial institutions is lower than at any point since it started asking that question in 1985, and 68 percent of Americans want major corporations to have less influence than they do now—up from 52 percent in 2001. Another poll shows a 12-point jump between 1994 and 2007, to 69 percent, in the number of Americans who believe government should do more for people who cannot care for themselves. So aside from expanding the social safety net, the government will have to take a greater role in guiding business toward ends the state deems healthy for the overall economy.