Monday, July 9, 2012

Elegy On An Immoral Employment Report

Let’s look at Friday’s dismal employment report.  It’s the third dismal report in a row.  Unemployment is now stuck above 8%, and it’s been stuck there and higher for so long that even getting down to 8% flat would be a relief; getting under 8% would seem like a great victory.  It’s hard to remember long ago in the olden days, in the 1990s, when 5% to 6% was commonplace, and even 7% would have been seen as crisis.  We’ve been down so long it looks like up to us now.

Which is not only a problem, it’s a travesty, because this wearying economic languor is not that hard to fix, if we only had the wit and determination---and political capacity---to do it.  And since it is a great harm to the world, and since we could fix it if we chose, it is flatly immoral, shameless, base, for us to simply shrug our shoulders and walk away.

This recession is not about an absence of anything real or basic about the economy.  Our working age population didn’t shrink between 2007 and 2008; it grew, and has grown since then too.  Our innate capability has not changed; we still have the training, the education, the skills that we had before the recession started.  Our technology is no worse now than it was in 2000, or 2007.  There are plenty of new products available, and plenty more that are possible, which is evident from the fact that over the years since 2007 the U.S. Patent and Trademark Office has issued many millions of new patents. Our natural resources are still there.  Our energy, our intelligence, are still good; our productive capacity should even be higher now than it was then since new, energetic, well trained young people have joined the labor force.  Even the general level of our infrastructure is not significantly worse now than it was then---it was badly deteriorated then, but that was not the cause of the economic collapse in 2007.  There is no physical or intellectual reason for us to suffer from unemployment this high for this long.  But we are suffering from it, and will continue to suffer from it for a long time, unless we choose to do something about it.  

We are seeing the clash of two great ideological armies in this area, and the pro-austerity side has won outright in Europe, and has done considerable damage in the United States.   If we are going to combat this simmering depression we have to first admit what is wrong.  I say ‘admit’ because in reality everyone knows what is wrong.  It’s not a secret.  It’s not hidden.  And it’s not a matter of Federal overreach, or overspending, or over-regulation, or anything like that: those things may be bad or good for the economy, and it’s legitimate to argue about them, but they also did not significantly change in 2007, and did not cause this recession.   

No.  What caused this recession was a collapse of highly leveraged assets, primarily a collapse of frothy housing prices, and of the value of mortgages and all the toxic assets derived from them, and derived from the derivatives based on them.  The bubble of housing prices burst, and in the wake of that mass cataclysm every part of the economy was wounded.  Every part.  Banks and Wall Street and the financial sector in general, businesses, and also, importantly, households, were wounded, because much of the value of the assets they owned vanished almost overnight.  Something like $50 trillion of wealth was lost worldwide in the first 18 months of this recession.  Levels of debt that households thought were stretched but tolerable in 2007, when the median U.S. household net worth was $126,400 (much of it in retirement accounts and the value of the houses they owned), seemed much less tolerable in 2010 when the median household net worth had dropped to $77,300, and suddenly retirement seemed much more distant and much more meager.  Businesses suffered not only because their assets lost value, but also because households and other businesses reduced spending to restore their balance sheets, to restore the wealth and sense of security they had lost, and so businesses were not sure they could sell what they produced.  

And so we entered a strongly negative cycle: households reduced purchases to regain some sense of financial wellness, and businesses reduced their investment, first to rebuild their damaged balance sheets, but also because confidence in their ability to sell their products in the future was shaken by falling demand.   Households then saw not only a decline in wealth, but also a decline in job security, a decline in wage prospects, and they pulled in their purchases even further.   The only leg left of this three-legged stool was government.  Households and businesses were stuck in a paradox of thrift, so government had to act to break out of it.

And in fact governments everywhere ground into action to save the parts of the economy they really cared about and knew how to save: they saved the banks, and they saved businesses.  I approve of that, of TARP and QE1 and QE2 and all the rest.  The financial sector does provide the funding that makes the rest of the economy work, and if it suddenly disappears much of the business of the economy disappears with it until a new financial system builds itself to fill that need.  And at least some governments went into action to support businesses more directly.  And as a result, both the banks and large businesses have recovered.   Both are once again experiencing robust profits.

But no one has helped to restore the balance sheets of the third leg, of households and very small businesses.  And no one is going to, if the headlines are any indication.  Both here and in Europe, all the proposed solutions involve cranking up the respective central banks---the Fed or the ECB---to further bolster banks, or to drive down interest rates even further.  My response to all of these finance-mesmerized policizers is this: get a freaking clue!  Interest rates are near zero here, we can’t push them any lower than that.  For those who don’t believe in liquidity traps or zero lower bounds, here’s a graph of the federal funds rate since 1990:

See that bit at the end laying there like a dead snake on a lonely desert road?  That’s us flat against the zero lower bound.  We can’t push interest rates any lower than that.  There are a few things the central banks can still do, pushing longer term rates down another small bit, but really, it’s not that clear that an even lower interest rate will push new investments. The Fed has already fired all the ammunitions for its biggest guns; they’re empty.

At the beginning of this long post I said that the problem is not that hard to fix.  What did I have in mind?  Unfortunately, I meant nothing radical, and nothing novel.  To get out of this recession, we have to help all the legs of the stool; two legs are not enough.  And since we have already helped banks and businesses, we have to help---well---people.  Households.  And governments who hire people and serve households.  We have to reduce the burden of household debt, and we have to create jobs, and if there is no easy indirect way to do that we need to do it directly through the government.   Yes, we need to spend federal government money to do this.  Yes, that might mean increased deficits in the next year or two.  We need to suck it up for a little while, and just get it done.

But if we are going to have deficits, at least we can insist on smart deficits.  Deficits that result from tax cuts would be limp, at best.  Deficits that resulted from tax cuts for the wealthy would be next to useless.  We need deficits that make investments in the future, to both repair and improve infrastructure, to add new infrastructure, or to support pragmatic research.   And since a complete view of infrastructure includes education and a vibrant, well organized web of first responders, we need to provide grants to the states so that they can re-hire the teachers, firefighter, and police that they have had to fire over the last few years to balance their budgets, as many of them are bound by law to do.  And we need to provide effective incentives for banks to allow existing homeowners, even if they are currently underwater or nearly so, to refinance at the current very low interest rates.  With new jobs and new lower cost mortgages will come both new income and, gradually, improved household finances.  And with new jobs, new income, better financial balance, the third leg of this stool will finally do it’s share to help to support it.   

And if we could do these things the depression would end.  Nothing stops us from doing them except the ornery disconnect of our political parties.  The things I suggested above---and that many, many others have suggested also, including a long list of top economists---are fundamental, supported by both theory and empirical research.   And they are also, for some reason, politically impossible.  The disconnect continues, and the long dismal depression, to our great and historic shame, continues with it.


  1. Great post, Stuart. Wish I had something useful to add but I don't. Krugman put it this way in a recent column titled "The Great Abdication."

    "The fundamentals of the world economy aren’t, in themselves, all that scary; it’s the almost universal abdication of responsibility that fills me, and many other economists, with a growing sense of dread."

  2. Wow. Yes, an abdication of responsibility. I missed that Krugman column.

    And dread. We're at a decision point, several decision points actually, and if we make the wrong choices right now dread is absolutely appropriate.