Overregulation, not phantom spending cuts, caused economy to shrink in fourth quarter

John Berlau Senior Fellow, CEI
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The schizophrenia of progressive economic thought was on full display last week in the wake of some bad economic news. On the one hand, progressives believe the U.S. economy is so fragile that even the mere threat of cuts in government spending would be disastrous. On the other hand, they believe this same economy is so resilient that billions upon billions of dollars in regulatory costs have no effect on growth at all.

Last Tuesday, The Conference Board — a private group that measures consumer confidence —announced that consumer confidence had plummeted in January. One day later, the Department of Commerce reported that the U.S. economy had actually contracted by 0.1 percent in the fourth quarter of 2012. Then on Friday, the Labor Department announced that the unemployment rate had ticked back up to 7.9 percent.

The establishment media and liberal politicians, including President Barack Obama, either downplayed the news or blamed phantom “spending cuts.” Hardly anyone brought up the dramatic increase in regulation over the last few years and the fear that President Obama’s re-election opens the door to a massive onslaught of red tape.

The Washington Post published a news bulletin blaming the weak economy on “cuts in government spending, fewer exports and sluggish growth in company stockpiles.” The “cuts in government spending” part is wrong on its face. According to the U.S. Treasury Department (and hat tip to John Nolte of Breitbart.com), government expenditures in the fourth quarter were actually up by more than 10 percent from the previous quarter.

The Associated Press story that The Washington Post linked to in the bulletin did not repeat the error and was technically accurate in noting that defense spending had fallen. Other establishment media outlets took a similar approach, seeking to “blunt the bad news [and] continu[e] the left-wing theme that government spending/stimulus is the solution,” notes Julia Seymour of the Media Research Center.

In his weekly address on Saturday, President Obama stuck to the spending-cuts narrative, blaming “bad decisions” by Congress and warning ominously that “we can’t just cut our way to prosperity.”

Instead of blaming Congress for the economy’s struggles, the president should be blaming his own administration for piling on regulation after regulation — what has been called the “regulatory cliff.” President Obama’s re-election made it highly unlikely job creators will get any substantial relief from costly new provisions of the Affordable Care Act (Obamacare) or the Dodd-Frank banking overhaul that hits many community banks and non-financial businesses hard.

As Adam J. White noted recently in The Weekly Standard, “The Obama administration’s first three years of major rules, costing up to $26.7 billion, were five times more burdensome than the Bush administration’s first three years ($5.3 billion) and three and a half times more burdensome than the Clinton administration’s ($7.6 billion).” White adds that these “major rules” were only a fraction of the 3,500 total regulations Obama has issued so far, and the cost figures did not even include the opportunity costs for the economy of blocking the Keystone XL pipeline.

The president’s re-election means that executive agencies that had been facing bipartisan criticism for being out of control before the election, such as the Environmental Protection Agency and Department of Labor, now have free rein. Indeed, after the election a torrent of new regulations that had been on hold for more than a year were suddenly released — in President Obama’s December Unified Regulatory Agenda and elsewhere. National Journal reported just after the election that “federal agencies are sitting on a pile of major health, environmental and financial regulations that lobbyists, congressional staffers and former administration officials say are being held back to avoid providing ammunition to Mitt Romney and other Republican critics.”

As my Competitive Enterprise Institute colleague Ryan Young has put it: “Now that this ammunition will no longer have electoral consequences, the EPA can move ahead on delayed rules on everything from greenhouse gas emissions to ozone standards. Rules from the health care bill and the Dodd-Frank financial regulation bill also likely will make themselves known in the weeks to come.”

In addition to the domestic rules, the Basel III international banking accord that was scheduled to go into effect this year threatened to severely constrict banks of all sizes from making loans even to high-quality borrowers. Under the regime, banks would have been forced to hold two to three times as much capital against most mortgages and small-business loans as they have to under current regulations.

If there’s one thing worse for the economy than uncertainty, it’s the certainty that thousands of pages of new regulations will go into effect. The fourth-quarter economic contraction was likely caused by entrepreneurs and investors seeing this future of shackling regulations and pulling back their investments in response.

The good news is that these economic problems can be fixed if the regulatory onslaught is reversed or at least significantly reduced. For instance, the first quarter of 2013 may see stronger growth because Basel III was delayed and revised to allow banks to hold different types of capital. To get the economy growing again, President Obama and Congress should focus on making the “regulatory cliff” smaller.

John Berlau is a senior fellow for finance and access to capital at the Competitive Enterprise Institute. Evan Woodham, a CEI research associate, contributed to this article.