Don't Call it a Comeback

The Times reports on Larry "The Harvard Lighning Rod" Summers' "Path to Renewal." Will he be the Oscar Madison in a White House of Felix Ungers?

The two men, who have forged their relationship in the tumult of the financial crisis, share a lot: Harvard, a love of debate, and firm convictions, like agreement on the need to narrow the gap between America’s most fortunate and everyone else. But they are also an odd couple: the serene, slender politician who seems to win people over effortlessly and the impatient, acerbic bear of a man who seems to offend them just as easily.

“Barack thinks with his mind open,” said Charles Ogletree, a law professor at Harvard. “Larry thinks with his mouth open.”

The Recession: "Mild" Down and "Bad" to Go?

At Macroblog, David Altig does wholesale what I've been doing piecemeal in several recent posts, comparing the current downturn with past recessions. He plots the recent movements in employment relative to both the "mild" recessions of 1991-92 and 2001 and the "bad" recessions of 1973-75 and 1981-82. Where we are still looks like a mild recession, but where we appear to be going looks like a bad one. The graphs are a good reminder of just how bad the bad ones were... we've still got a way to go before we get there. (Also, I think considering the 81-82 recession in isolation, rather than in combination with the 1980 recession somewhat understates the "badness" of that episode).

Update (12/6): See also the Times' recession comparison charts which predate the latest employment numbers (as Dean Baker rightly notes, the comparison of housing prices is somewhat deceptive since it is not adjusted for inflation).

Specter of '74

The November employment report from the BLS was not good. The unemployment rate is up to 6.7% (which is still lower than in most previous recessions). The Times reports:

The nation’s employers shed 533,000 jobs in November, the 11th consecutive monthly decline, the Bureau of Labor Statistics reported Friday. Not since December 1974, toward the end of a severe recession, have so many jobs disappeared in a single month, and the current recession appears to be just gathering steam.

Of course, the labor force is much bigger now than in 1974, so in percentage terms, the decline is considerably smaller. The November decrease was 0.4%; December 1974 was an 0.8% decrease, and there were declines of 0.5% in November 1974 and January and February 1975, as well as May 1980. There were also 0.4% decreases in March 1975, June 1980, and January and July 1982. Overall, the 1973-75 and 1980/81-82 recessions featured several months with decreases in employment comparable to or larger than November 2008. However, as David Leonhardt notes, the rise in the unemployment rate was made smaller by a large decrease in the labor force, which suggests that some people are giving up on finding a job. The labor force participation rate fell by 0.3 percentage points to 65.8%.

I see the FRED folks have added a shaded area...

Who is Beggar-ing Whose Neighbors?

The FT's Martin Wolf has an interesting column about global imbalances and the economic slump. He calls on the surplus countries to take responsibility for increasing global demand:

In normal times, current account surpluses of countries that are either structurally mercantilist – that is, have a chronic excess of output over spending, like Germany and Japan – or follow mercantilist policies – that is, keep exchange rates down through huge foreign currency intervention, like China – are even useful. In a crisis of deficient demand, however, they are dangerously contractionary.

Countries with large external surpluses import demand from the rest of the world. In a deep recession, this is a “beggar-my-neighbour” policy. It makes impossible the necessary combination of global rebalancing with sustained aggregate demand. John Maynard Keynes argued just this when negotiating the post-second world war order.

In short, if the world economy is to get through this crisis in reasonable shape, creditworthy surplus countries must expand domestic demand relative to potential output. How they achieve this outcome is up to them. But only in this way can the deficit countries realistically hope to avoid spending themselves into bankruptcy.

Some argue that an attempt by countries with external deficits to promote export-led growth, via exchange-rate depreciation, is a beggar-my-neighbour policy. This is the reverse of the truth. It is a policy aimed at returning to balance. The beggar-my-neighbour policy is for countries with huge external surpluses to allow a collapse in domestic demand. They are then exporting unemployment. If the countries with massive surpluses allow this to occur they cannot be surprised if deficit countries even resort to protectionist measures.

(For a similar argument by Michael Pettis, see this earlier post).

Dani Rodrik has a related worry, that America's propensity to import reduces the effectiveness of any stimulus because a significant portion of the spending will be on imported goods. That is, the marginal propensity to import reduces the simple spending multiplier (which he guestimates at 1.8):

Now suppose that we had a way to raise the multiplier by more than half, from 1.8 to 2.8. The same fiscal stimulus would now produce an increase in GDP of $2.8 trillion--quite a difference. Nice deal if you can get it.

In fact you can. It is pretty easy to increase the multiplier; just raise import tariffs by enough so that the marginal propensity to import out of income is reduced substantially (to zero if you want the multiplier to go all the way to 2.8). Yes, yes, import protection is inefficient and not a very neighborly thing to do--but should we really care if the alternative is significantly lower growth and higher unemployment? More to the point, will Obama and his advisers care?

Being the open economy that it is, I fear that the U.S. will have to confront this dilemma sooner or later. In an environment where the dollar has already appreciated against the Euro and even more significantly against emerging market currencies, fiscal stimulus here will produce an even larger current account deficit. If American consumers decide to spend 40 cents of a dollar of additional income on cheap imports from China and other foreign countries, the multiplier will be a mere 1.3. How long will it take before politicians of all stripes cry foul over the leakage through the trade account and the "gift to foreigners" that this represents? And they will have Keynesian logic on their side.

One would hope that a decline in the Dollar - though not too abruptly, please - could be an adjustment mechanism (even if panic-induced demand for US Treasuries has moved the Dollar in the other direction lately) but Chinn and Wei's finding that flexible exchange rates do not facilitate current account adjustment suggests otherwise. That's counter-intuitive, but I guess I shouldn't be too surprised; some of my own work has studied another aspect of the "exchange rate disconnect" puzzle.

Living in the Shaded Area (Probably)

The NBER's Business Cycle Dating Committee says the "peak" in the business cycle occurred in December:

A recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in production, employment, real income, and other indicators. A recession begins when the economy reaches a peak of activity and ends when the economy reaches its trough. Between trough and peak, the economy is in an expansion.

Because a recession is a broad contraction of the economy, not confined to one sector, the committee emphasizes economy-wide measures of economic activity. The committee believes that domestic production and employment are the primary conceptual measures of economic activity.

The committee views the payroll employment measure, which is based on a large survey of employers, as the most reliable comprehensive estimate of employment. This series reached a peak in December 2007 and has declined every month since then.

The committee believes that the two most reliable comprehensive estimates of aggregate domestic production are normally the quarterly estimate of real Gross Domestic Product and the quarterly estimate of real Gross Domestic Income, both produced by the Bureau of Economic Analysis. In concept, the two should be the same, because sales of products generate income for producers and workers equal to the value of the sales. However, because the measurement on the product and income sides proceeds somewhat independently, the two actual measures differ by a statistical discrepancy. The product-side estimates fell slightly in 2007Q4, rose slightly in 2008Q1, rose again in 2008Q2, and fell slightly in 2008Q3. The income-side estimates reached their peak in 2007Q3, fell slightly in 2007Q4 and 2008Q1, rose slightly in 2008Q2 to a level below its peak in 2007Q3, and fell again in 2008Q3. Thus, the currently available estimates of quarterly aggregate real domestic production do not speak clearly about the date of a peak in activity.

Other series considered by the committee—including real personal income less transfer payments, real manufacturing and wholesale-retail trade sales, industrial production, and employment estimates based on the household survey—all reached peaks between November 2007 and June 2008.

The committee determined that the decline in economic activity in 2008 met the standard for a recession, as set forth in the second paragraph of this document. All evidence other than the ambiguous movements of the quarterly product-side measure of domestic production confirmed that conclusion. Many of these indicators, including monthly data on the largest component of GDP, consumption, have declined sharply in recent months.

The last time around, payroll employment peaked at 132.53 million in Feb. 2001 and bottomed out at 129.84 million in June 2003; the NBER's peak was March 2001 and the trough was November 2001; but employment was very slow to rebound. This one may be worse - the industrial production index sure looks scary, doesn't it?

The announcement should at least put an end to the tedious "are we technically in a recession" arguments. But if we want to be pedantic (and, really, who doesn't?) we might note that we don't know that the trough hasn't already occurred. I sure don't think it has, but the turning points usually are only clear in retrospect. So it would be a little premature for the folks at FRED to put in another "shaded area."

Update: I've removed the sentence where I mixed up the 2001 and 1990-91 recessions (d'oh!).

Tyranny or Monetary Policy

The NY Times reports on a forthcoming book attributing a central role to economic motives for the American revolution:

“I think there’s reason to doubt the Revolution would have happened as it did if it weren’t for these economic conditions,” said Ronald W. Michener, an economics professor at the University of Virginia, in a radical departure from today’s popular notion that the Revolution was a product primarily of grand ideas about self-government.

Gordon S. Wood, a professor at Brown University and perhaps the pre-eminent living historian on the subject, counters: “There was a great deal of instability, but that is hardly an explanation for the Revolution. I don’t think you can make a strong argument for an economic interpretation of the Revolution.”

Professor Michener and his collaborator, Robert W. Wright, a financial historian at New York University, plan to do just that. The tandem worked for several years on a manuscript arguing that the American Revolution was a direct result of the economic malaise that followed the French and Indian War.

Now they have a built-in marketing hook — the current financial crisis — and the publisher, Yale University Press, is hoping to bring the book out as early as next fall. “What I found was that the monetary difficulties faced by the colonies were not very different from modern macroeconomic problems,” Mr. Michener said.

As a former student of Ron Michener's, I know that he is a good storyteller - even when the subject is optimal control theory - so the book is something to look forward to (although when they say "hoping to bring the book out as early as next fall" it sounds like I shouldn't hold my breath...).

Keynes: Take This Economy and Shove It

John Maynard Keynes,

"The Great Slump of 1930" (Dec., 1930)

"The World's Economic Outlook" (May, 1932)

"Open Letter to President Roosevelt" (Dec., 1933)

The latter has some advice which should also apply to President-Elect Obama:

You remain for me the ruler whose general outlook and attitude to the tasks of government are the most sympathetic in the world. You are the only one who sees the necessity of a profound change of methods and is attempting it without intolerance, tyranny or destruction. You are feeling your way by trial and error, and are felt to be, as you should be, entirely uncommitted in your own person to the details of a particular technique. In my country, as in your own, your position remains singularly untouched by criticism of this or the other detail. Our hope and our faith are based on broader considerations.

If you were to ask me what I would suggest in concrete terms for the immediate future, I would reply thus.

In the field of domestic policy, I put in the forefront, for the reasons given above, a large volume of loan-expenditures under government auspices. It is beyond my province to choose particular objects of expenditure. But preference should be given to those which can be made to mature quickly on a large scale, as for example the rehabilitation of the physical condition of the railroads. The object is to start the ball rolling. The United States is ready to roll towards prosperity, if a good hard shove can be given in the next six months.

The 1930 essay comes to my attention via Paul Krugman, who writes "its observations on the crisis at hand remain stunningly insightful, and fit current events all too well."

Update (12/5): Keynes' private letter to FDR (Feb. 1938). This passage is particularly amusing:

Businessmen have a different set of delusions from politicians, and need, therefore, different handling. They are, however, much milder than politicians, at the same time allured and terrified by the glare of publicity, easily persuaded to be ‘patriots’, perplexed, bemused, indeed terrified, yet only too anxious to take a cheerful view, vain perhaps but very unsure of themselves, pathetically responsive to a kind word. You cold do anything you liked with them, if you would treat them (even the big ones), not as wolves or tigers, but as domestic animals by nature, even though they have been badly brought up and not trained as you would wish. It is a mistake to think that they are more immoral than politicians. If you work them into the surly, obstinate, terrified mood, of which domestic animals, wrongly handled, are so capable, the nation’s burdens will not get carried to market; and in the end public opinion will veer their way.

Paradox of Thrift

in cartoon form.

In Ben We Trust

In The American Prospect, Brad DeLong explains how we've gotten to this:

Ben Bernanke is the closest thing to a central economic planner the United States has ever had. He bestrides our narrow economic world like a colossus. Unelected (he was appointed by President George W. Bush and confirmed by an overwhelming majority in the Senate) and unaccountable (unless the Congress decides that it wishes to amend the Federal Reserve Act and take the blame for whatever else goes wrong with the economy), he is responsible only to his conscience -- and his open-market committee of himself, the other six governors of the Federal Reserve Board, and the 12 presidents of the regional Federal Reserve banks.

The fate of the economy in the next administration depends far less on the president than on this moral-philosopher-prince to whose judgment we have entrusted a remarkable share of control over our destiny....

Definitely on the reading list for Eco 317 in the spring.

Too Manic About the Depression

In a commentary for our local NPR station, I make the argument, which I've also made on this blog, that we're getting a little carried away with the depression comparisons.

Update (11/24): Slate's Daniel Gross makes a similar argument, to which Paul Krugman responds.