Oct 14th 2011, 19:28 by R.A. | WASHINGTON
NEIL IRWIN has written a piece in the Washington Post today on the case for optimistic pessimism. Things are now so bad, he writes, that they're unlikely to get much worse. There's a narrative within the piece that seems right to me: essentially, that the fundamentals point toward a steady if slow recovery in the absence of another large shock, like a European collapse. Having said that, this seems like a fundamentally flawed view of the economy:
The U.S. economy has been through a lot in the past few months — an unprecedented downgrade of the government’s credit rating, a debt crisis in Europe that threatens to spread across the Atlantic, and a steep decline in financial markets. Yet most economic indicators have pointed to continued, albeit slow, growth.
It isn’t the resilience of the U.S. economy. Rather, it’s a sign of how bad things have already become. Many of the key sectors that usually cause economic contraction, including housing and durable goods such as automobiles, are already at such low levels that they don’t have much more room to fall.
Mr Irwin says that sectors like housing and durable goods production usually cause economic contraction. Now, it's not impossible for a contraction to occur in this fashion. A virus could strike all of America's carpenters dead, leading to a sudden halt in residential investment and a resulting decline in output. That would be a supply-side reduction in economic activity, and it would be a very unusual one indeed. That's not how America usually finds its way into recession.
Instead, America typically finds itself in recession because there is a drop in demand. There are lots of things that might trigger a demand shortfall. The Fed might signal its intention to induce a recession to fight inflation. Instability in financial markets might lead to a surge in money demand. An intense bout of political brinksmanship over debt default could conceivably have the same effect. In all these cases, the source of the recession is a sudden decision across the economy to simultaneously increase saving, which is not offset by countercyclical policy. When that demand shortfall occurs, some sectors are hit harder than others. Housing and durable goods, like automobiles, are cyclically sensitive industries. When demand falls, they suffer first and most, and when demand recovers they tend to lead the way out.
Now, it's possible that the spike in oil prices in 2007 and 2008 contributed to a supply-driven contraction that manifested itself as declining automobile output and consumption. As far as I can tell, there's almost no one who assigns primary blame for the deep drop in output in late 2008 and early 2009 to that slowdown in the auto industry. They blame the panic-induced drop in demand associated with the October financial crisis. Auto sales and production plummeted with the onset of the financial crisis. In the three months to July 2008, when oil prices hit their highest level of the year, employment in motor vehicle production dropped 16,000. In the three months to October, during which oil prices were dropping, employment fell by 3,000. In the three months following the October financial crisis, employment in the industry dropped by 55,000. Falling auto output didn't cause the recession. It was symptomatic of a gut-wrenching decline in demand.
In considering the path of future output, the question is: what's demand likely to do? My sense is that it's likely to rise slowly, at or just below real potential growth plus an inflation rate around 2%, which is probably all the Fed will tolerate. But we have no guarantees about that, and we certainly can't take much comfort in the low level of sales in housing and durable goods. They'll grow as quickly as the Fed allows. Should the Fed make an error of some sort, they'll fall with demand and the broader economy. We should keep the Depression foremost in our minds. When systematic policy error results in low demand, it's as likely that the error will be sustained or compounded as it is to be rectified. In such cases, every bottom is ephemeral, and there is no darkness that can't grow darker still.
In this blog, our correspondents consider the fluctuations in the world economy and the policies intended to produce more booms than busts. Adam Smith argued that in a free exchange both parties benefit, and this blog's aim is to encourage a free exchange of views on economic matters.
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Irwin is a fool.
We are still running deficits of 10% of GDP just to keep the economy propped up at its current anemic level. That can't last forever.
Household balance sheets are still a complete mess, and there is plenty of room to cut consumption further when the unemployment checks and free rent run out.
Unfortunately, that's the truth.
At this juncture I am not tremendously concerned with the economics of the issue. Five years into the contraction things are beginning to sort themselves out, albeit painfully.
What does terrify me is the continuing antics of the political elites. Whether one looks at the U.S., The EUE, Japan or China the ruling classes seem clueless. For that reason the Great Depression is very much in my mind:
"Progress, far from consisting in change, depends on retentiveness. When change is absolute there remains no being to improve and no direction is set for possible improvement: and when experience is not retained, as among savages, infancy is perpetual. Those who cannot remember the past are condemned to repeat it."
And on that cheery note, have a great weekend! Thanks R.A.!
(Or has Buttonwood taken over Free Exchange for the day...)
Second that, Henry.
Funny you can say so bluntly it's a drop in demand when the GOP is running on the idea it's a lack of confidence caused by fear of regulation and tax hikes.
Globalisation of KRID
An article is published in one Pakistani newspaper. This article suggests that the root cause of financial and economic crisis of the rich world and emergence of developing countries is Globalisation of KRID . This article also suggests that (a) USA and EU (western block) will not be able to regain pre-2008 position (and Japan also could not be able to defeat irreversibly its deflation and recession ), (b) that more and more least developed and developing countries will join the new trajectory of development and progress (c) global economy overall will grow but the main source of growth will be present and future BRICS and (d) that key to the solution of rich worlds crisis is in redefining their relationship with developing countries and restructuring their economies towards job creation of jobs GDP figures without jobs will not be helpful in addressing social and economic crisis.
A section of article is reproduced below:
“What is going on? Truth is that the gods are extremely confused, for they are inept to appreciate and accept the reality. It was not a simple coincidence that while most of the rich countries including Japan started showing signs of slowing during 1990s whereas developing countries mainly India, China and Brazil kicked-off on a new economic path.
What is the new objective reality? It is the globalisation of KRID (knowledge,research, innovations and development) with digital technology and ICT as main vehicles of the process powered by IST (innovations of science and technology).
Let us look back to the outcome of Industrial Revolution, it on the one hand, made it possible for human civilisation to enter its second phase and climb to a higher rung, nevertheless, it also accomplished the division of the world into imperialism and colonised blocks.
Although, colonies commenced to discard the yoke of colonialism in the wake of Second World War, yet due to lack of financial capital, technology, moribund economic, political and cultural bottlenecks, they could not enjoy the real fruits of independence until the globalisation of KRID paved the way for the new paradigm.
New process started encroaching upon the monopoly of the rich world since mid-80s resulting in its slowdown, yet rich world tried to camouflage its resulting slowdown with different recipe's and ultimately under compulsion they opted for the last recipe like sub-prime loaning and leveraging which kept the growth figures at complacent levels but unfortunately eroded the foundation of their economies.
Although, United States and Japan still have unmatched potential for innovation of science and technology, however, their economic woes are bound to hurt it during the next 10 to 15 years. Hence, it will be in interest of the developed world to redefine its relationship on realistic grounds with the emerging world that can definitely play a stabilising role for their economies.
Globalisation of KRID energised by IST has emerged as an objective force. Its speed and expansion are very difficult to gauge. Gone are the days when science, technology and financial capital would be denied to the poor and developing countries, for they were to serve only as primary commodity producers and markets for finished products being sold at premium prices.
Interestingly, the dynamics of science and technology is such that it cannot be confined for long. The process of globalisation started off in the mid-80s with the advent of digital technology, which led to the emergence of ICT. Accessibility of ICT tools is increasing increasingly for all and sundry at unprecedented velocity with continuous value addition coupled with steep plunge of prices of the gadgets.
Presently, the amount of FDI etc being invested without attached strings by BRICS in developing countries is more than what IMF and other like lenders loaned them during the past 30 years and is expected to increase 5 to 10 times more during the next decade. Yet it is not the amount of money only, it is the nature of investment and technology that counts even more.
Indeed, human civilisation has successfully entered into its new phase 3.0 (first ended with advent of industrial revolution) which even at its nascent stage has proved to be promising one particularly for the have-nots and it could safely be said that by 2030, we will be living in an absolutely different world. A difference comparable with the aggregate of progress experienced between 1801 to 2000.
Science and technology, though, can create the foundations, yet cannot write the political and cultural rules for the society, for it is function of the human being itself and this function is carried out through organisation. But organisation must match the objective realities to facilitate the hiking of human civilization”.
A huge problem is that the longer this goes on it is having a growing effect on our culture. People who cannot find jobs are retiring from the work force far earlier then planed while young people are not learning that work is an expected part of life.
This burden on society and the government is a "cultural health problem" that will cost America trillions of dollars over the next decade if not corrected. At this time most government budgets do not allow for this. The longer this goes on the weaker we become the worse the damage becomes, this is a cultural problem as well as an economic one, month after month attrition is having its effect.
Yes it is a drop in demand! Things will get worse when the government runs out of money and can no longer prop us up through deficit spending. The headwinds developing as we are forced to balance are budgets will bring us down to earth. This economy of "give more to the non-working to create demand" is unsustainable.
The last commenters ignorance is perfectly reflective of the right's ignorance on this issue in general. Should we let the unemployed starve? Or perhaps we should wait until they riot. Did millions of people suddenly become lazy and decide not to work? If we don't prop them up, then what? By the way, the reason we have bigger deficits is because there are fewer tax contributors. It's not hard to understand. Put people to work and tax receipts will rise and deficits will drop. Again, it's basic economics.
"We are still running deficits of 10% of GDP just to keep the economy propped up at its current anemic level. That can't last forever."
Oh yes it can. The Federal government (including the Fed) can no more run out of dollars to spend than football stadiums can run out of points to award touchdowns and field goals. They create the dollars. The proper limit to deficit spending is from potential inflation.
Furthermore, it's a question of math. Total net savings has to equal the deficit (again, including Fed distribution of dollars). If there were no deficit, total net savings would have to be zero. To go even further, economic growth needs to be accompanied by an increase in the active money supply -- otherwise, we get deflation.
guest-iweanlm, yes the guv can run out of money. Check out the hyperinflation in Germany in the 1920's. The more the guv relies on printing money, the less people want it and the more prices rise. Eventually no one accepts the guv's money and people resort to barter.
A drop in demand does not cause the depression; it is the depression. A drop in demand is the definition of a depression.
Find out what causes the drop in demand. In housing, the best book I have read on the subject is "Slapped by the Invisible Hand". The author writes that the realization of how many bad mortgages were in the MBSs caused the prices of those derivatives to collapse. Banks who used them as reserves suddenly had to call in loans to meet reserve requirements.
"How clueless have Keynesian econometric trend forecasters become? One measure that provides an indication is the Citigroup Economic Surprise Index.
"The CESI is a quantitative measure of actual economic news that is contrasted with econometric forecasts of what the news will be .
"The measures are defined as weighted historical standard deviations of data surprises (actual releases vs Bloomberg survey median). A positive reading of the Economic Surprise Index suggests that economic releases have on balance beating consensus. The indices are calculated daily in a rolling three-month window.
"An examination of the index shows that since since mid-August it has turned upward, indicating that more and more Keynesians are underestimating strength in the market. (Only Keynesians, of one sort or another are quizzed in the survey). See a chart of index here.
"Most economists are simply trend followers. They have no theory to explain changes in the economy. For them, there is some kind of deus ex machina event that causes a change in consumer demand, which to them means the demand must be coaxed back on track. They have no way of forecasting a change in the economy before this supposed shift in consumer demand occurs. "
from http://www.economicpolicyjournal.com/2011/10/citigroup-economic-surprise...
In 40s and 50 s we had Ford telling us. YOU WILL HAVE ONE COLOUR CAR black. There was no power of speech but ahoy what do we have now, The 11th-hour decision to scrap the ouster of Occupy Wall Street protesters came after Mayor Bloomberg and Brookfield Partners were blindsided by objections from local pols - including longtime allies.
Bloomberg friends - like Council Speaker Christine Quinn and state Sen. Daniel Squadron - slammed the plan, which many protesters feared was a trap to permanently remove them from Zuccotti Park. The about-face came abruptly at 11:33 p.m. Thursday night, when Brookfield's CEO Richard Clark emailed Deputy Mayor Cas Holloway to call off the cleanup. The mayor was never gung-ho about the crackdown, insiders said, but started planning for it Wednesday after Brookfield requested city help for the undertaking. Then it became a political power keg Thursday, when NYPD Commissioner Raymond Kelly said protesters would no longer be allowed to have tents, tarps, sleeping bags or coolers in the park - essentially ending their occupation. Bloomberg was quickly under siege from lawmakers. "City Hall wanted Brookfield to ask for the postponement," said a source who lobbied the mayor and the company to stand down. "City Hall was able to get Brookfield to say, 'We'll back down.'" I thank you Firozali A.Mulla DBA
BWW's hits the nail on the head asserting the the cultural problem is as big as the economic one. Bravo.
what's demand likely to do? My sense is that it's likely to rise slowly, at or just below real potential growth plus an inflation rate around 2%, which is probably all the Fed will tolerate.
Drat!
As I was reading this entry I was hoping it would lead to an announcement date for us to guess next year's economic numbers.
Mr. Irwin seems to have forgotten:
The federal goverment is only running until November 18th, when a new Continuing Resoultion (read another foodfight) is needed.
The "Super Committee" is a wild card.
Backlogged repossessions and resales, households still underwater.
Yes, existing and new housing sales are flat and probably might not go much lower, but they probably won't rise.
Remember the Fed is going to keep rates low until 2013, so why buy now?
Businesses are still not investing in Structures.
"$15 Trillion in cash or investments" doing nothing.
That leads to places for people to work in. Which leads to hiring.
Some want to give businesses more cash via tax cuts, so they can reward upper management by buying back stock - it doesn't really matter if it is before or after the options are exercised and sold.
Businesses may be running lean but states and local gov'ts are still laying off people.
Harrisburgh Pa. filed for bankruptcy.
There's always a natural disaster somwhere that we can pin blame on if things don't improve.
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Anyone else notice many "economists" upped their Q4 GDP on Friday?
http://www.forbes.com/sites/afontevecchia/2011/10/10/u-s-data-suggests-g...
Must be high school football season, as all of the pom-poms are coming out.
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After hitting a low of about $3.10, gasoline is back up to $3.35
Good thing we didn't spend the money we "saved" during that pull-back, and put it in the bank to await higher prices.
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Joke of the day:
Did you notice that fewer people were around Friday for Occupy Wall Street?
They were out getting their iPhone 4s.
Regards
@hedgefundguy wrote: Oct 16th 2011 2:24 GMT
I guess they called all their friends with them for the international party today.
I believe the comment by Dpabowen73 who wrote: {The last commenters ignorance is perfectly reflective of the right's ignorance on this issue in general. Should we let the unemployed starve?} was directed to me.
I would like to point out that that while fiscally conservative my social views as presented in my book "Advancing Time" are far from those held by the right. The simple wish that economic realities don't matter does not make it so.
The government has not done a good job and many people can not define the difference between their "wants and needs" , the word "deserve" is to often used as a line in the sand. We must remember there is "no free lunch!"
its really hard to say where we're headed right now. things could go in so many different directions with vastly different outcomes. French bond yields are starting to rise over German bunds. this is just not good. I'm worried that we could see a euroarea recession that might creep across the atlantic. we'll have to see how the US closes out 2012.
http://changing-of-the-guard.com/2011/10/16/update-americas-economy/
Beyond the eurocrisis, a slowdown in china due to a misstep in monetary policy could be a crimp on investment.