Congratulations, Mr. President. Here's how to fix ... - Fortune Finance

Dear President Obama,

Congratulations on winning such a hard fought, and at times bitter, contest for the White House. In yet another illustration to the world of America's robust democracy, you have been elected to guide our country through choppy domestic and international waters. And we fully support your efforts to improve the well-being of millions in this country.

The task facing your administration is far from easy. For the first time in a very long time, our nation faces the possibility of seeing our children's generation end up worse off than their parents.?Unemployment has been too high for too long. And every day, it risks getting embedded deeper into the structure of our economy.?Poverty is rising. Our social safety nets are strained. And income and wealth inequality has reached levels that tear at the fabric of our society.

Our economic resilience seems to be declining as years of under-investment in public infrastructure exaggerate the already-devastating impact of natural disaster such as last week's deadly Superstorm Sandy. And the room for bold macroeconomic responses is limited now that the Federal Reserve's interest rates are floored at zero and virtually every budget -- federal, state and local -- is stretched.

Then there is what has set us apart for centuries from almost all other countries, and what has served many generations of Americans well: the overriding confidence of citizens in what this country provides in terms of opportunity and upward mobility; and the related notion that, with lots of hard work and a bit of luck, individuals can significantly improve their future and that of their families.

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This unique and incredibly powerful American motivator is at risk. It is undermined by too much skepticism and disillusionment. And increasingly it battles understandable suspicion that the "system," including institutions of government, is stacked against the interest of ordinary Americans.

Our country is also operating in an increasingly complicated world. Europe is facing a multi-year crisis which is exposing countries to more than the threat of economic and financial chaos. It is also involves existential risks to the continent's peaceful integration process ? an historic phenomenon that was just awarded this year's Nobel Peace Prize.

Geopolitical tensions are rising again in the Middle East. China is slowing. The global economy is failing to accommodate well the developmental breakout phase of systemically important emerging nations. And at a time when global policy coordination is desperately needed, our multilateral institutions continue to suffer from long-standing representation, legitimacy and deficit problems. Just witness the disappointing outcome of the IMF/World bank annual meetings that were just held in Tokyo.

Simply put, the country is challenged on account of both domestic and external forces. Yet none of this is on automatic pilot. Outcomes are far from pre-ordained. And you have at your disposal powerful levers to control the country's destiny, and improve the well-being of current and future generations.

We must never forget that the U.S. unquestionably has the potential to overcome all these challenges. And with that, it can restore its ability to exercise appropriate soft power around the world. It can also be ? indeed, should be ? a conductor for better global policy coordination, as well as provide an anchor for those countries and communities going through challenging domestic and regional transformations. And the safer the global neighborhood is, the sounder the prospects for the U.S.

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The upside potential is indeed large. Trillions of dollars in cash lie idle on the balance sheets of companies rather than being invested in new equipment, plants, jobs and business strategies. Meanwhile, many investors seem content with very low-yielding "safe" assets rather than investing in startups, small and medium-enterprises, including the Apple, Google, Facebook, Intel or Microsoft of tomorrow.

There is also tremendous upside in what is empowering companies. For quite a few, input costs are declining sharply as much cheaper domestic energy sources are developed. Digitalization and social media are enabling individuals, communities and professions?in multiple ways. Just think: Through widely-available climate technology, farmers have a lot more information to better time the application of fertilizers and their crop rotation; and through timely market information, they can optimize the sale and delivery of the output of their hard work.

We should have no doubts. Entrepreneurship is alive and well in America. Just witness the amazing individual success stories ? from Lululemon (LULU) to Under Armour (UA) and from LinkedIn (LNKD) to Wildfire (and many others) ? in what has been a difficult macro environment. And, every day, this unmatched entrepreneurship is being invigorated by unique clusters of innovation, amazing networking and world class universities.

The challenge for your presidential term is to enable and protect what works very well in America today; and to help rehabilitate what has stumbled, what continues to struggle, and what is getting increasingly marginalized.

Specifically, the dynamic sectors will not be your major headache. Yes, your administration can ? and should ? enable them further, including through greater policy certainty, better credit intermediation and more rational visa and immigration policies. But, in most circumstances, they will do just fine. Your real challenge lies in reinvigorating the larger part of our economy and society that has yet to regain a firm footing since the devastating 2008 global financial crisis.

This can be done; and it should be done. And when it is, America will restore annual growth rates of 3% and above, reduce unemployment to below 5%, increase the employment-to-population ratio back to above 60%, reverse the persistent deterioration in our government debt to GDP ratio (currently heading to 100%) and improve income and wealth inequality. And through all this, your administration would definitely restore the vitality of the middle class, strengthen social cohesion, and enhance America's global influence.

So, at the risk of sounding pretentious, allow me please to suggest four early and coordinated initiatives that could make a huge difference. In doing so, I write to you as a citizen, an economist, a parent, and someone who is concerned about the most vulnerable segments of society.

• First, to overcome its malaise and handle external headwinds, we need to restore the flexible functioning of the labor market. For too many years, we relied on construction and housing, finance and retail to generate jobs. It seemed to work, but only because these sectors were taken very deep into bubble territory. In the process we lost sight of the importance of excelling in internationally competitive segments. We need to better equip our workers and the unemployed to compete on the global stage. This speaks to multi-year efforts in labor retooling and vocational training. The successful labor market reform in Germany in the middle of the last decade provides important pointers in this regard. We must also do more to adapt our educational approach so that it better prepares our youth for the rather complex and fluid world that will be here for quite a while. This speaks to more forward-looking curriculums and better engagement of students. It also speaks to greater emphasis on financial literacy and greater global orientation.
• Second, we must properly reform housing and housing finance. Without this, it will take years for this crucial sector to recover strongly (as opposed to just stabilize, which is the case today). Prior programs have disappointed because they failed to boldly take on the challenge of allocating losses to different segments of society. The longer we wait on this burden sharing challenge ? and, yes, it is a complex challenge ? the higher the risk of disorderly foreclosures, reduced worker mobility, and negative wealth effects.
• Third, we must create a more robust credit intermediation system. At one point, our major banks performed this but then succumbed to the devastating allure of endogenous securitization ? that is fabricating and trading derivatives and derivatives of derivatives rather than lending to the real economy. They lost sight of a basic truth -- their size, profitability and long-term success cannot, and should not be divorced from their role in servicing productively the real economy. And to make things worse, banks' risk and compensation cultures went crazy. Four years from the onset of the global financial crisis, the banking sector still faces a multi-year retrenchment and de-leveraging period. Well-designed private-public partnerships and highly selective credit facilities can play an important role in the interim ? and especially when it comes to the desperate need of improving our infrastructure.
• Finally, there is the fiscal issue. Once you remove the immediate threat of the fiscal cliff (a day one priority for your administration that, if Congress handles poorly, could throw the country back into recession), we need to strike the right balance between profound medium-term fiscal reforms and immediate stimulus. And have no doubts, both the economics and math are clear on this. Reforms over time must involve both the revenue and expenditure sides of the budget.

Now is the time to move forward on these four inter-connected areassimultaneously. I suspect that, once you signal your willingness to do so, you will quickly come across lots of preparatory work that has already been done on these multi-year initiatives.

I know. All this is desirable yet none of it is feasible unless Congress cooperates with your administration. And the experience of the last few years provides little comfort in this respect, But, here is the twist:?Americans are deeply resentful of the dysfunctional Congress. We know that this has retarded our economic recovery and financial sustainability. And we are ashamed to admit to foreigners that it has been three years since our Congress has approved an annual budget ? and this, after all, is the most basic element of economic governance.

By being open about our multi-year challenges and by detailing the extremely fluid global environment, you can mobilize the nation to put proper and timely pressure on Congress to cooperate. Assign an economic spokesperson among your many capable experts who, on your behalf, would help Americans better understand the high frequency economic indicators, place them in a proper economic and financial framework, and provide them with regular updates on the four initiatives (including the naming and shaming of those who put their personal interests ahead of those of the country).

If you do this, I suspect that it won't take long until Congress has its ah-ha moment; and for the nation its modern sputnik moment.

Call me na?ve, but I am confident that all this is doable. Over my thirty years in the economics profession, I have witnessed turnarounds in countries with much more challenging sets of initial conditions and a lot fewer human and physical resources; and certainly nowhere near the ingenuity and entrepreneurship of this country.

We owe it to our children's generation to restore the dynamism of this country. And now that the American people have made their choice clear at the ballot box, we can certainly do so under your leadership and with a more cooperative Congress.

Congratulations again on your hard-earned victory.

Wishing you great success.

Mohamed El-Erian, a concerned citizen

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Source: http://finance.fortune.cnn.com/2012/11/07/mohamed-el-erian/

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