Gloom and Doom

Gloom and Doom: Economic Prospects

Be wary of former Marxists (me!): when devout, we used to see 1929 in every downturn (and lick our Marxist chops)! But this time it’s different: there are no Marxists, so to speak–it’s
the mainstream press which keeps hammering away at us that the financial meltdown is the worst since The Great Depression. And it may well be, but it’s also different this time since most of the bank failures back then did not occur in 1929 and 1930, but later, as the depression deepened, while this time the failures are more or less preceding what looks to be a long and serious decline.

Not just the Princeton lads are saying this–Krugman and Bernanke–or Berkeley’s Brad DeLong who thinks we will have 8-10% unemployment–but many others of all political stripes are projecting a deep and long recession. (And keep in mind that the official unemployment rate which is impeccably correct in what it measures does not measure what we really want it to measure–and that is those looking for jobs and not finding them (the official rate) + those who have given up looking + those working part time who want to work full time. By this measure, and it is calculated (although it leaves off something else that should be added--those working "full time" but on a somewhat shorter work week), unemployment is strikingly higher than the 6.1% official rate as well as relatively higher than the official rate.)

Of course, no one knows when the financial mess will end–toxicity seems to be unmeasurable–and maybe it has essentially ended, though I doubt it. Surely what banks and other lenders have been experiencing is as unique as it has been dismaying. But there are some who think once "normality" in this area returns, and banks and other lenders get over their jitters, and resume "normal" lending, we will then have a "normal" recovery. What is overlooked is that recoveries since World War II have never exactly been normal. In fact, they differed to the point we can even argue each was unique.

Some recoveries were aided by post-war factors (such as the cashing in of war bonds and huge outlays on cars and houses that one could not buy since 1929). Others responded to lower interest rates, but in most of these cases, the lower rates had followed a raising of rates by the Fed to stop creeping (or, in 1981, galloping) inflation. Then too increased military expenditures helped overcome some recessions along with tax cuts (in both 1961 and 1982).
In recent decades the "boom" phase of the cycle has lasted much, much longer than what existed before the eighties (leaving off the sixties which had the Vietnam War as a stimulus) but the recoveries after both of our last two recession (Bush 1's recession {1990-1} and Bush 2's recession {2001}) were initially unusually weak, although in the 2nd term of Clinton, there was a genuine boom related to new computer technology (which caused and accompanied the dot-com bubble).

So what is normal? Or put differently, can we expect a "normal" recovery when we finally get our financial ship (that’s a "p") together. I think not likely. The mainstay of recent years has been consumer spending and it is hard to imagine that it can continue at the clip it was at.
Savings on income after income taxes were subtracted–disposable income, for the economically educated–had been relatively stable at 7-8%, for decades, only to decline in the nineties until it actually went into a minus territory for a while recently–dis-saving!. This unprecedented low savings rate is doubly amazing, since personal income has been increasingly captured by the upper 1 %. And these are the people who historically saved, or at least used to, at much higher rates than us plebeians.

But from now on, most Americans, unable to borrow against their houses, perhaps finding it harder and more expensive to use credit cards, making less money due to unemployment and short time, and perhaps most important scared shitless (no "p" here), are likely to be cautious. Already, there is evidence that the savings rate is increasing. It is unlikely, therefore, that consumption is going to spark the recovery.

Business investment, the I in C + I + G + X - M (the GDP in letters in elementary texts, standing for consumption, investment, government, exports and imports), has not been held back by high interest rates. To the contrary. No doubt if, unexpectedly, something new (and important) comes along, new investment can stimulate a "normal" recovery–unless what is discovered is produced in China.

But, nothing on the horizon makes it appear that investment is going to propel us back to prosperity, especially if you add into the calculation the fact that housing is a big part of investment. (Rents are C but new housing is I.) And while at some point, the existing houses up for sale (including those foreclosed) will be bought up as their prices fall through the floor (and projections by many informed sources still believe housing prices will fall further into the basement, maybe by another 5-10 percent), construction of new housing is highly unlikely to be a source of economic strength, for some time to come. And after a recession, with low interest rates, this kind of spending has in the past been important, if not crucial.

Nor will exports be the answer, weakened as they are, because of the decline of manufacturing, but likely to be further weakened as the result of the strange but incredible strengthening of the dollar against the Euro (from a Euro costing about $1.60 a few months ago and now costing less than $1.30). [It is why I and my wife who will begin her one year sabbatical in January may go to Europe and you, dear reader–I assume only one–should consider it a last "golden" opportunity.] But the dollar has enormously weakened against the Japanese yen, and little is being written about this fact, never mind its causes. Since we can’t export much to Japan, exports will undoubtedly be weak. (Also, the mix of tourists, less in number, should end up with more Japanese and less Europeans. I hope it doesn’t mean more Japanese restaurants in my neighborhood, since there are already about 10 of them within four blocks.)

Finally, and related to exports and tourism, is the fact that it is not only the United States that is in economic trouble, but Western Europe, East Asia (including South Korea, Japan and to some degree, China) as well as oil exporting countries, given the collapse of the price of oil. One need not fear being labeled a Cassandra to believe that exports are not going to be the catalyst which gets us out of the recession.

Thus, I believe the only way out of this economic mess is fiscal policy–which is all about taxing and spending. Unfortunately, the emphasis of the election campaign–both by Obama and McCain–has been on tax cuts. But tax cuts are less likely to be effective than spending increases. People may use their tax cuts to cut down their debts or build a reserve in case they are laid off. And to the extent this is true, tax cuts do little.

Federal spending (yes, deficit spending) is probably the best (and possibly the only) short term answer, even though in adding to the deficit it has long run negatives. The four best areas for this kind of spending, in my view, are: federal aid to states, to lessen the cutbacks of teachers, police, sanitation workers, bus and subway workers and civil servants of all kinds; federal spending on infrastructure; federal spending on medical programs that bring coverage to (preferably) everyone; and, to the extent possible, spending on developing ecologically appropriate energy alternatives. I doubt, initially, Obama, if elected, will move very strongly in this direction. But here we may have a repeat of the 1930's. Roosevelt bumbled away in 1933 and 1934, with the likes of the National Recovery Act (NRA), but found his stride in 1935 with the WPA (Works Progress Administration) and Social Security. Let’s hope history repeats.*******

As for the longer run, just two brief comments: (1) At some point in the not too distant future, I expect the dollar will not only resume its decline against the Euro (and British pound and Canadian dollar et al), but that it will actually collapse. Whether this will be a crash like the stock market in 1987 (nearly 25% in one day) or more gradual, I haven’t the foggiest. But even the United States can’t keep its printing presses operating 24 hours a day without at some point suffering the consequences. I would not be surprised if ten or fifteen years from now the dollar is worth half as much as it is today (or maybe one-third as much) against a mix of currencies. This will mean many Americans will not be able to afford what they are accustomed to buying.

(2) I do believe that in one respect the future will be like the past and that is in the area of productivity. The incentives are always there for businesses to find ways to produce whatever they make more cheaply (and not just through lower wages or relocations of factories to areas where labor is cheap). To illustrate this means or could mean: rather than having one worker employed and one worker unemployed–a highly exaggerated description of what is happening, but if the numbers are overstated the direction is clear–it would be better to have both workers working half time, with productivity improvements keeping living standards liveable.

I can almost hear the "oy vey." But think about it. What happened between 1880 and 1929? The work week fell from about 70 hours or so to 40 hours and not because of unions. Workers voluntarily took part of their increased earnings out in the form of greater leisure, to spend more time with their families and to engage in enjoyable leisure activities. A gradual shortening of the work week is the desired choice of the future, not just because we can’t produce 40 hour, full employment for all; and not even because it is the best partial answer to environmental degradation; but because it also offers a richer life than one cluttered with goods one doesn’t really need. Businesses will not like this, but more important, can Americans make this giant emotional step?