The Q4 GDP: Conservative Economics in Action, On To The Budget Battles

A Very Economically Conservative Quarter
The headline was scary - the US Gross Domestic Product contracted by 0.1% in the fourth quarter of 2012.  While this is just ever so slightly below the zero line, we are technically halfway to a new recession (traditionally defined as two consecutive quarters of contraction, although, in modern times, more complex definitions have been used) after what has been a less than stellar recovery from the last deep recession.

The recession more or less started in the first quarter of 2008 and lasted for 18 months.  During that time period, the size of our economy contracted by 4.6%.  This may not sound like a ton, but bear in mind that under "normal" circumstances, the economy needs to grow by 1% just to keep up with population growth and that contraction of the economy disproportionately impacts working class workers in industries like manufacturing, construction and retail and entertainment services, as belts tighten.

During the 18 month recession, unemployment skyrocketed from 5.0% to 9.5% (it would eventually peak after the end of the recession, in October 2009 at 10.0% - it is normal for unemployment to peak slightly after the recession ends, as companies don't start hiring until several months after business picks up) and 7.5 million jobs were lost, meaning that that the actual percentage of people working dropped even more than the official unemployment rate would tell.

Since then, the recovery has been painfully slow, against the norm for recessions (although, many would argue, not for recessions born of deep financial crises) and against the predictions of many, including myself, who expected a more "V-shaped" recovery.  Average growth in the 3+ years since the recession ended has only been 2.3%, which would be okay if the starting point was a healthy economy, but nowhere near sufficient to relieve the pain caused by the recession.  Unemployment has fallen to 7.9%, lower than the peak certainly, but way above pre-recession levels.  There are STILL 3.2 million less jobs now than when the recession started 5 years ago.  And it wasn't until the fourth quarter of last year that the GDP surpassed its pre-recession level.

This gap would make the fourth quarter GDP contraction very troubling.  But, looking at the internals, things aren't as bad as they appear on the surface.  This quarter is actually a positive argument for economic conservatism and austerity, if you look under the covers.

You see, while the overall GDP contracted by 0.1%, private sector GDP rose by 2.6%, while government expenditures at all levels fell by 2.7%.  In other words, the private sector is in recovery, as evidenced by rising corporate earnings and corresponding rising stock prices.  It is government that is shrinking.  Most of the reduction is coming at the state and local level, as governments are forced to balance their budgets and (with California as a big exception) are largely turning to reducing government spending as opposed to raising taxes to make ends meet.  There has also been some reduction of federal expenditures and some modest cuts from prior budget deals take effect and we lap the tail end of the stimulus spending.

So why is this a good thing?  Employment in the quarter is actually the strongest it has been in a long time.  You see, while the overall economy contracted, just over 600,000 net jobs were added in the quarter, even more than that in the private sector.  In other words, at least for this quarter, the reduction in government spending did not have a dampening effect on the thing that matters most to the average person - available jobs.  Private sector hiring more than made up for public sector austerity.

This model seems destined to play out to some degree on the federal level as well.  Sequestration cuts take effect automatically on March 1st and the Republicans have been pretty clear that while they would like to replace the defense cuts, they have no interest in punting on the amount of the overall cuts.  Good for them - I hope they stick to their guns.  We have to solve the budget deficit one way or another and while we can argue the balance between tax hikes and spending cuts, doing something is better than doing nothing.

Also in play is the federal budget - the current continuing resolution lapses March 27th, which means that if Congress does not pass some sort of budgetary measure to fund the government, the government will shut down on that date.  Republicans, having had to give ground on the tax cut debate, since tax rates were slated to go up automatically, are not in a giving mood on the budget.  They, after all, hold the cards this time around - no budget can pass without the consent of the Republican-majority House.

With the debt-ceiling discussion wisely out of the way (sanity did prevail, as I'd hoped, on that topic, with the GOP agreeing to suspend the debt ceiling at least until mid-May, long after the budget battles), federal spending will be front-and-center in Washington.

These debates will play out over the next 1 to 2 months.

Rebuilding a Second-Term Cabinet
President Obama has some work to do.  Much of his first-term cabinet has left or is leaving.  Let's review the status of the key cabinet-level department head positions:

State Department
Hillary Clinton, as we all know, has moved on.  This is one that the President doesn't have to worry about as former Senator John Kerry has already taken the top job at state, confirmed easily by a 94-3 vote in the Senate.  He took office February 1st.

Treasury
Tim Geithner has already departed, officially resigning January 25th.  President Obama has nominated Jack Lew as his replacement.  Lew have his hearing in the Senate, but is widely expected to be confirmed, although he has generated some controversy.

Defense
Leon Panetta, President Obama's second Defense Secretary (his first, Robert Gates, was a keeper from the Bush Administration) is still in office but has asked to leave as soon as a successor can be confirmed.  Chuck Hagel just had his grilling this week before the Senate.  The majority of Republicans are expected to vote no for their dovish fellow Republican, but most expected that all 55 Democrats and Independents will vote for Hagel and that few enough Republicans will want a filibuster fight that he will ultimately be confirmed.

Attorney General
Eric Holder is staying, at least for now.

Interior
Ken Salazar has announced his desire to leave office in March.  President Obama has yet to nominate a successor.

Agriculture
Tom Vilsack has not announced his second term plans, but appears to be staying, at least for the time-being.

Commerce
This has been the most difficult cabinet position for President Obama.  Gary Locke, Obama's third nominee in his first term, finally took office in March of 2009, but stayed only 2 and a half years, basically competing the census and then departing.  Obama's second Commerce Secretary, John Bryson, lasted a mere 8 months, resigning after a bizarre incident involving a hit-and-run car accident and a stroke.  For the past 8 months, Rebecca Blank has been acting Commerce Secretary, awaiting an appointment and confirmation.  President Obama has yet to nominate a new Commerce Secretary.

Labor
Hilda Solis has already left office on January 22nd, leaving the post open.  President Obama has yet to name a replacement and most of his top picks from the world of labor are sure to generate controversy from Republicans.

Health and Human Services
Kathleen Sebelius appears to be staying, at least for now.

Housing and Urban Development
Shaun Donovan appears to be staying, at least for now.

Transportation
Ray Lahood is still in office but has announced his intention to leave when a successor can be confirmed.  President Obama has yet to name a successor.

Energy
Stephen Chu just announced this week that he will also be stepping down.  President Obama has yet to name a successor.

Education
Arne Duncan appears to be staying, at least for now.

Veterans Affairs
Eric Shinseki appears to be staying, at least for now.

Homeland Security
Janet Napolitano appears to be staying, at least for now.

So, to wrap it all up, of the 15 federal departments (I'm excluding "cabinet-level" positions that do not run a federal department) here is where President Obama stands:

Staying on from First Term: 7 (Justice, Agriculture, Health & Human Services, Housing & Urban Development, Education, Veterans Affairs and Homeland Security)
Nominee Already Confirmed: 1 (State)
Nomination Made But Not Yet Confirmed: 2 (Defense, Treasury)
Nominee Yet-To-Be-Named: 5 (Interior, Commerce, Labor, Transportation, Energy)

Clearly, the President has some work to do to rebuild his team.  This is doubly important given the significant budgetary changes to these departments likely to come down the pike with both sequestration and the continuing resolution battle in March.  Having interim leaders is not the best way to go ever, but is particularly bad when there are big changes coming.

Expect a flurry of nominations in the next few weeks as well as a lot of hearings and votes on nominees.  The President has named his most critical team (generally State, Defense, Treasury and Attorney General are considered the most critical positions in the cabinet), but there is much work left to do on the rest of the team.

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Happy 2010! Welcome to the Cabinet Dead Pool

It is inevitable -- in Presidential administrations, key staff members leave. Some leave because they burn out after a few years in high-profile, thankless and frankly, fairly low-paying jobs. Some leave because they come to have policy differences with the President (think Christie Todd Whitman and Colin Powell.) Some leave because of public fire or because the President just feels there is a need to make a change (think Donald Rumsfeld.) But ultimately, no President holds his entire cabinet together, even for 4 years.

So, in the spirit of the New Year and the pending second year of the Obama Administration, I thought I'd rate our "cabinet dead pool" on the probability that each member will survive 2010 in their current job.

Department of State -- Hillary Rodham Clinton
There was a lot of speculation early on that Clinton was not in Obama's inner-circle, that her appointment was simply an example of "keep your friends close and your enemies closer" and that Hillary would quickly tire of being a senior official in name only, with the real foreign policy decisions being made behind closed doors with the Vice-President and Secretary of Defense Gates driving the policy.

To my eyes, Clinton has done what she tends to do when she gets a new job -- she has gone to work. She has been quietly effective, if not omnipresent in front of the camera. During her actually fairly low-profile Senate career, Hillary was a worker not a glory seeker and the same seems to be the case here. Whether he ambitions will get the best of her over the course of the term remains to be seen, but for now, she seems unlikely to leave and the President seems extremely unlikely to ask her to.

Odds of Departure in 2010: 5%

Department of the Treasury -- Timothy Geithner
Geithner certainly got off to a rocky start. Blistering criticism from the right on his tax dodges (or "errors", if you like) and a poorly received mortgage bailout plan early on had many clamoring for his ouster very early on. As time has passed, the criticism seems to have waned and Geithner's job seems safe for now. The work he and Ben Bernake did on TARP in the waning days of the Bush Administration looks better now than it did a year ago and while Geithner does not appear to be in Obama's inner circle, his skill set is pretty unique and not something that is likely to be found in one of Obama's Chicago friends or from anyone he knew from his Senate days.

Odds of Departure in 2010: 5%

Department of Defense -- Robert Gates
It was all supposed to be a temporary arrangement -- the rumor around Washington was that Gates agreed to stay exactly one year in the new administration when he came on board an no more. Gates, perhaps the most high-profile of all Obama cabinet members has been coy with the press, saying that he "serves at the pleasure of the President" but that it is "unlikely" that he will stay in the job for all of Obama's term. Still, clearly the year will pass without Gates leaving, there hasn't been a peep of a rumor about his departure in the past few months and Gates clearly has been effective in influencing policy (the Afghanistan strategy is largely his brain child as were modifications to the military budget to scrap expensive F-22's in favor of more enlisted troops) and most decidedly is President Obama's go-to guy on Defense policy. If he leaves, it is likely to be in the second half of the year and, in the continuation of his practice of doing things the right way, only after a successor is in place. President Obama should seek to hold on to Gates for as long as he can.

Odds of Departure in 2010: 50%

Department of Justice -- Eric Holder
There were probably better ways for Holder to introduce himself to the nation than to call us all a "nation of cowards" on race, although his point wasn't entirely wrong, but Holder seems to have weathered that storm as well as the criticism at his confirmation hearing about his role in Rich pardon while part of the Clinton-era Justice Department. Holder has been effective on a number of fronts, backing off federal prosecution of medical marijuana cases, vacating the prosecution against former Alaska Senator Ted Stevens and starting to bring terrorists to trial in the US. It seems Holder is always at the center of controversy, but he IS, undoubtedly in Obama's inner circle and as such, his job is pretty safe, unless he REALLY steps in it in the new year.

Odds of Departure in 2010: 10%

Department of Interior -- Ken Salazar
The former Colorado Senator appears to be having the time of his life, is generating no controversy and frankly, isn't in a very high-profile cabinet department. He is very safe.

Odds of Departure in 2010: 2%

Department of Agriculture Tom Vilsack
Frankly, most of us probably forgot he even had this job. He has been very low-profile, although that could obviously change if there is a mad cow or hoof-in-mouth disease scare in the next year. Still, he is very well-liked on a bi-partisan basis and has generated no waves so far.

Odds of Departure in 2010: 2%

Department of Commerce -- Gary Locke
President Obama's third pick for the Commerce Department (after his first two fell apart for various reasons) has a big task in 2010 -- execution of the census. We haven't heard a ton form Secretary Locke yet, but expect his profile to increase. And expect there to be the requisite controversy that always accompanies the census -- how the homeless are counted, how illegals are counted, whether statistical sampling will be used for funding purposes (the Supreme Court has already ruled that it cannot be used for House and Electoral allocation purposes.) Still, Locke is a seasoned political veteran nearing the end of his career. It's hard to imagine him departing this year.

Odds of Departure in 2010: 3%

Department of Labor -- Hilda Solis
The subject of a confirmation fight for her unapologetically pro-union political stands, Secretary Solis has taken a lower profile in the first year of the Obama Administration. The union's crown jewel of legislation, the Employee Free Choice Act has not seen Congressional action yet, although the new Administration, at the urging of the Labor Secretary, has issued several executive orders favorable to public service unions. Secretary Solis certainly has a better job than when she was in Congress and doesn't have an obvious next step politically (she could be a Senate candidate down the road in California, but right now there are no Democratic vacancies.)

Odds of Departure in 2010: 3%

Department of Health and Human Services -- Kathleen Sebelius
Among the higher profile Obama administration officials, Secretary Sebelius has been central in the fight for universal healthcare. She appears NOT to be in the Obama inner circle and as such at times appeared off-message during the debate. Her real test will be if a reform plan IS passed in overseeing the implementation, which could be a make-or-break for her career. She also seems to still have political clout back home, although the calendar would seem to preclude a 2010 Senate run at this point.

Odds of Departure in 2010: 5%

Department of Housing and Urban Development -- Shaun Donovan
Another Obama inner-circle member who seems to have created no controversy, even on the right. His job is very safe.

Odds of Departure in 2010: 2%

Secretary of Transportation -- Ray Lahood
One of Obama's Republican appointees, Lahood is a quirky guy. He can come off as oddly combative in interviews sometimes, has some controversial ideas (like taxing automobile mileage) and seems like a bit of a loose cannon. He is decidedly not an inner-circle member and seems like he could part ways with the administration at any time. Still, where would he go? He isn't going to be a statewide candidate for either party at this point and it frankly seems unlikely he could even win back his old seat in congress.

Odds of Departure in 2010: 10%

Department of Energy -- Steven Chu
A career scientist, not a politician, Chu is an exceptionally bright individual. He has been low-profile thus far, probably a product of the fact that he is more effective at speaking to scientists than to the general public. Chu has generated no controversy, although that could certainly change as debates ensue about Cap and Trade and the green economy and he is dispatched with greater frequency. Still, I would find it highly surprising to see Chu depart this year.

Odds of Departure in 2010: 3%

Secretary of Education -- Arne Duncan
As bright and articulate as he has proved to be unconventional, Chicago-insider Arne Duncan has been a breath of fresh air in stale debates over educational reform. He has the President's ear, possibly more than any other cabinet member, and is well-liked on both sides of capital hill.

Odds of Departure in 2010: 2%

Department of Veterans Affairs -- Eric Shinseki
A decorated ex-officer running Veterans Affairs -- he has the best possible job with his credentials and is well-liked on both sides of the aisles. He isn't leaving.

Odds of Departure in 2010: 2%

Department of Homeland Security -- Janet Napolitano
It's been a tough few weeks for Napolitano. Her "the system worked" gaffe harkened back for many to the George W. Bush's tone-deaf "you're doing a heck of a job, Brownie" and convinced many that she is out of touch with the threat that exists in the US. Napolitano has been extremely high profile between the Mexican drug wars, the Fort Hood shootings and the Christmas Day bombing attempt and has not always appeared in the best light. She gave up an opportunity to oppose John McCain in Arizona in 2010 to come onboard and may ultimately regret doing so. Still, the Obama Administration has repeatedly stated that her job is not at risk and it seems likely she will survive the year.

Odds of Departure in 2010: 15%


So, there you have it. I rate Gates (50%) by far the most likely to depart this year, Napolitano (15%) second and Holder (10%) and Lahood (10%) tied for third. In total, my percentages would imply a 71% probability of at least one Obama cabinet member departing this year.

Don't agree? Have another leader in your "dead pool"? Let me know.

Happy New Year's everyone.