Economy will be election's back-seat driver

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The first presidential election since the terrorist attacks of 9/11 will offer a severe test for the political axiom that Americans vote their pocketbooks. As Democratic nominee John Kerry made clear in his acceptance speech, he intends to take the fight directly to President Bush, challenging him with the notion that he is more qualified and competent to be commander-in-chief.

Yet the performance of the economy — past and future — will be a critical subplot in the drama of the next three months. The theme of a middle class “being squeezed,” as Kerry put it Thursday, is likely to be as prominent as the Democrats’ claim to leadership in the war on terror.

“This election is not going to be decided on the Iraq war,” former Vermont Gov. Howard Dean said on MSNBC’s “Hardball” this week.  “It’s going to be decided on jobs, health insurance and decent public schools.”

Not everyone agrees with Dean’s analysis, but clearly jobs and the economy will be a central focus of the campaign. And while the latest evidence supports the view that the economy is in the midst of a healthy expansion, there are still signs of lingering weakness, giving both sides plenty of ammunition for the campaign’s final phase.

In fact, because voters’ memories are notoriously short when it comes to pocketbook issues, the economy's performance in the coming months could be crucial in determining the election’s outcome.

"As an economist, I’d hate to bet my career on three months of economic numbers, because they are so volatile and they get revised to often,” said Joel Naroff of Naroff Economic Advisers. “Yet these politicians are betting their careers on three months' worth of economic numbers.  I feel for them.”

The latest news has been mostly favorable to the incumbent's cause, despite Friday’s report that overall growth slowed to a 3 percent rate in the second quarter after a year of much-faster expansion. Consumer spending grew at an anemic 1 percent rate in the quarter, the slowest in three years, but is likely to gain momentum in the second half, analysts said.

Home sales surged to a record rate in June as buyers rushed to lock in deals before mortgage rates rise any further. Consumer confidence surged beyond expectations in the latest survey. Orders for long-lasting durable goods were weak in June, but early indications are that activity picked up in July, said Jose Rasco, senior economist at Merrill Lynch.

“Things have improved dramatically over the past six months — there is no denying it. But it’s not exactly nirvana,” he said. “Uncertainty is the watchword of the day.”

For most voters, the economy boils down to jobs and income, making next Friday’s July employment report another critical piece of campaign data. Over the past six months employers have added 1.3 million jobs, but the economy still is more than 1 million jobs short of where it was when Bush took office in 2001. As Democrats often point out, no president since Hoover has presided over a four-year term where the economy failed to add jobs.

The weak job growth follows one of the shallowest recessions on record, as the latest revised figures made clear Friday. Gross domestic product actually rose in the midst of the 2001 recession, according to the Bureau  of Economic Analysis. That means the downturn failed to meet the classic rule of thumb that a recession occurs when GDP shrinks for three straight quarters. Yet the committee that declared a recession began in March 2001 and ended in November of that year is unlikely to revisit its decision — especially in the midst of a tight presidential election campaign.

Don Straszheim of Straszheim Global Advisors argues that issues of national security are more likely to predominate this year because the economy is neither particularly strong nor particularly weak. “While President Bush is hoping for strong economic numbers between now and November, the economic data are not likely to be seen as sufficiently strong to assure Bush’s re-election, nor sufficiently weak to assure Kerry’s win as a challenger,” he said in a research note.

And there are strategic reasons for Kerry and his supporters to focus on national security issues, said Kenneth Warren, a professor at St. Louis University and former pollster for Dick Gephardt. He said Democrats need to build an image of strength on defense to win over  crucial independent voters and wavering Republicans in battleground states.

“The economy is a great issue,” Warren said. “But it’s an issue that would help bolster their support among their own Democrats. It’s not as likely to appeal the independents and weak party identifiers.”

This week’s four-day Democratic rally in Boston was a bit short on specifics about Kerry's economic plans, but vice presidential nominee John Edwards did mention several of the ideas he and his running mate plan to promote in their appeal to middle class families. They include a tax increase on the wealthiest 2 percent of Americans, tax breaks for companies the create U.S. jobs and tax credits for child care and college tuition. Kerry tossed in a promise to “cut middle-class taxes," perhaps a reference to the proposed tax credits.

For policy analysts who have watched in alarm as the federal budget has gone from surplus to a record deficit in just a few short years, the Kerry campaign has not been encouraging.

“Everything they are planning to do exacerbates the deficit — it doesn’t rein it in,” said Phil Smith, national grassroots director of the Concord Coalition, a bipartisan group that promotes fiscal responsibility. “Neither side is really doing anything to address the major long-term economic challenges facing this country, particularly entitlement reform.”

Isabel Sawhill, director of economic studies at the Brookings Institution, agreed. She said the two candidates have clear differences on economic policy that will be made apparent as they barnstorm the country and face each other in three planned debates.

“The president is focused very clearly on tax cuts for fixing whatever ails the economy, where Kerry is focused more on addressing the middle-class squeeze,” she said. But she said Kerry’s proposals for improving health care and education are “expensive,” and the source of funding is not completely apparent.

“If you’re asking who is going to reduce the deficit more, based on what the two candidates have said, so far there isn’t a huge difference between them.”