Obama has difficult choices to make for recovering economy

WASHINGTON -- One year in, President Barack Obama faces a perilous economic choice.

He can't pull back the stimulus too quickly, despite the public's concerns about rising deficits, because that could kill a fragile recovery. If he steps too hard on the accelerator to create more jobs, responding to another voter imperative, he risks feeding inflation and restarting the dangerous cycle.

The GOP Senate upset in Massachusetts shows that the political risks of any bold move are enormous.

Either way, the road ahead probably means painfully slow job creation accompanied by more government debt and higher taxes.

"Without significant changes to tax and government spending policies, the budget outlook will deteriorate rapidly even after the costs associated with the financial crisis abate," said Mark Zandi of Moody's Economy.com, a former adviser to Republican Sen. John McCain who now counsels congressional Democrats.

When Obama took office in January 2009, financial markets were teetering, jobs were evaporating and global economic activity was tanking faster than in the 1930s. A depression seemed imminent.

Now the economy is back from the brink, thanks largely to the most aggressive global government intervention in history.

"The economy is growing, albeit at an unsatisfactory rate," said Lawrence Summers, director of the White House National Economic Council. While chances of a depression are "remote," there is still "a long, long, long way to go," Summers acknowledged.

He said job creation will be the prime emphasis in the coming months, a priority to be reflected in the president's State of the Union address Wednesday night and in his budget proposal released next month.

White House spokesman Robert Gibbs said said Obama will press for doing "everything possible to create an environment where the private sector is hiring again." Ambitious health overhaul plans are being scaled back, at least for now.

While White House officials still insist they inherited a broken economy from President George W. Bush, there's little doubt that people now fully see it as Obama's economy -- and expect him to lead the way in fixing it.

More than half of the 7 million-plus jobs lost since the recession began in December 2007 vanished since Obama signed the $787 billion stimulus package Feb. 17. That aid was intended to help reverse job losses.

The unemployment rate then was 7.6 percent. Now it's 10 percent.

"If we as a country are not successful in establishing job growth and economic growth soundly, we will not achieve any of our objectives," Summers said.

Obama and the Federal Reserve must get their exit strategies just right. They must unwind the low-interest rates and multibillion-dollar stimulus spending that have propped up the economy. Otherwise inflation could return with a vengeance and deficits become unsustainable.

Pulling back too quickly could plunge the economy into a "double-dip" recession.

President Franklin D. Roosevelt made that mistake in 1937 when he thought the Depression was over and decided to cut spending while the Fed tightened monetary policy. That only made things worse.

Few economists see a solid way ahead without higher taxes, and not just for the wealthy.

"Taxes are going to have to go up," said William Galston, a domestic policy aide to President Bill Clinton and now a scholar with the Brookings Institution. To suggest otherwise is "a denial not only of reality, but of necessity."

Obama faces rising public fury toward bankers and bailouts at a time of double-digit unemployment along with pressure to rein in spending. This populist anger helped sweep little-known Republican Scott Brown to victory in the Massachusetts Senate race.

Taking a harder line that some Democrats say was late in coming, Obama has proposed a special tax on large banks to recover "every last dime" of bailout money and wants to let regulators break up banks deemed too big to fail.

Beating up on banks and bankers is one of the few causes in town embraced by Democrats and Republicans alike.

Obama is expected to make spending restraint a theme of his State of the Union address, although aides say that significant belt-tightening will have to wait until after the recovery gains more steam.

He plans to create a bipartisan commission to make recommendations by the end of 2010 on how to reduce the budget deficit. This year's projected $1.4 trillion deficit would add to a $12-trillion-plus national debt.

The commission also would make recommendations on taxes and spending on "entitlement" programs such as Social Security, Medicare and Medicaid. Its plan would go to Congress for up-and-down votes.

Obama must steer the economy through a darkening political storm for Democrats. In addition to dropping the Senate contest in Massachusetts on Tuesday, the party lost governors' races last fall in New Jersey and Virginia. Coming this fall are congressional elections, where the Democrats' majority in Congress could be threatened.

Despite improvements in manufacturing and a strong 10-month stock market rally, housing prices are still depressed, mortgage foreclosures increasing and bank loans tight for all but the biggest businesses. Factor in those people who have stopped looking for work or who are unable to find full-time jobs, and the "underemployment" rate swells to over 17 percent.

Gone at the White House is talk about "stimulus," a word the public seems to associate more with bank bailouts and wasteful spending than new jobs. Instead, White House officials now talk about "target ideas" that "will have a positive impact on private sector hiring."

"The road to recovery is never straight. We have to work every single day to get our economy moving again. For most Americans, and for me, that means jobs," Obama said recently.

It won't be easy.

Forecasters say it could be years before the employment rate drops below 8 percent, let alone to pre-recession levels of 5 percent to 6 percent. It took four full years for employment to regain its peak after the mild 2001 recession.

Economists cite a rule-of-thumb that suggests it takes a 2 percentage point rise in the gross domestic product to lower the unemployment rate by 1 percentage point. Government and private economists expect GDP growth of no more than about 2.5 percent to 3 percent this year.

"Where are the jobs?" House Minority Leader John Boehner, R-Ohio, asks in news release after another, as the GOP lashes out at Obama's policies and basks in the Massachusetts victory.