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4 economic pitfalls for Obama

It's still early days for the president, but he's got to fight a few dangerous leanings that could spell danger down the road.

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By Richard Beales,

( -- President Barack Obama may be making a broadly decent fist of tackling the financial crisis and the recession. But he is also revealing leanings that could undermine economic recovery and efficiency in the longer term. It's still early days - but fighting these traits is crucial.

Of course, the president can rightly claim a mandate from the U.S. electorate for decisive action. Also, many of the stabilizing programs Obama and his team have continued or initiated appear to be broadly on a sensible track.

Yet four aspects of his approach could court trouble in the future.

First, he seems too prone to browbeat those who disagree with him, even when the other side has a good case. He referred to Chrysler creditors who wanted to uphold the traditional rules of bankruptcy as "speculators". That made the group sound unpatriotic. It folded soon after, before the bankruptcy court had a chance to rule.

Any creditors of General Motors (GM, Fortune 500) tempted to hold out against government plans are likely to face similar treatment. Obama was also slow to distance himself from hot-headed moves by Congress to tax some bankers' bonuses at punitive rates. Presidential bullying isn't unprecedented in the U.S., but too much political interference in commerce can undermine confidence in the fairness and predictability of the system - and that could be far worse for the economy than a less union-friendly restructuring of the auto industry.

Second, the government seems too relaxed about getting the needed financial restructuring right. Obama sometimes sounds determined to bring about a much needed reduction in the industry's influence in Washington. But the effect of the authorities' myriad investments and liquidity-boosting initiatives has been to extend the overlap between government and finance. It's not always clear that the government has the upper hand.

The unwillingness either to fully nationalize or to wind down Fannie Mae (FNM, Fortune 500) and Freddie Mac (FRE, Fortune 500), the giant housing finance businesses, is discouraging. The willingness to try to force markets to do the government's bidding - through the Treasury, the Federal Reserve, the Federal Deposit Insurance Corporation and other tentacles of government - also suggests a financial dictatorial streak.

Third, Obama's team sounds somewhat complacent about the need to reverse the extraordinary monetary and fiscal measures of the last year or so. To start, the huge budget deficit, the largest ever in peacetime as a share of gross domestic product, is expected to decline only very slowly.

Then there is the Fed. The central bank's fast-growing balance sheet has reached $2.2 trillion and its liquidity programs are still keeping the banking system in business. Ben Bernanke, the Fed chairman, has talked several times about the importance of having an "exit strategy", but he has been shy about details, despite pressure from China, the country's largest creditor.

Economist John Taylor, who gave his name to a well-known rule of thumb for setting interest rates, said last week that the Fed may need to raise rates soon to avoid making money too easy - a tendency, he said, that had contributed to the credit bubble. But it's hard to imagine even the supposedly independent Fed having the inclination and courage to follow Taylor's advice any time soon.

Finally, there's the trade deficit, which arguably created the debts that helped blow up the credit bubble in the first place. While the Obama team seems happy to force constraints on industrial and financial companies and markets, it seems less concerned to impose discipline on itself over this politically sensitive imbalance.

The trade deficit fell sharply as the recession deepened, but it rose again last month. If it keeps going in that direction, the administration should perhaps be more wary about the risks of credit once again getting out of hand.

It's perhaps churlish to expect Obama and his officials to be thinking too far ahead just yet. The administration's symbolic and almost unimaginably demanding first 100 days are only just behind it, and the still new president deserves the benefit of the doubt for now. But the unintended consequences of mistakes - and even of giving mistaken impressions - merit early consideration, too. To top of page

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