The Great Recession

While public debate about jobs usually focuses on the unemployment rate, what matters more are the changes in the number of people still working and how many hours they're working, since that determines how much wealth and income the economy produces. On these matters, major developments are unfolding which could play decisive roles in determining not only the economic prospects of millions of households, but also the results of the 2010 and 2012 elections. As it now stands, Democrats in 2010 will have to explain why the jobs numbers are still deteriorating, and President Obama will likely go into his reelection campaign with fewer Americans working than when he took office.

What's been happening with jobs already has broken past records. Since this recession began – the National Bureau of Economic Research pegs the start at December 2007 – the number of Americans employed has fallen by 6.5 million or 4.7 percent. That's far worse than the entire, deep 1981-1982 recession, when the number of people at work fell by 2.8 million or a little over 3 percent. The current jobs numbers also are in an entirely different league from those seen in the recessions of 1990-1991 and 2001, when total employment fell by just a little more than 1 percent.

The number of Americans on the job will also continue to worsen even after this recession finally ends. After the 1990-1991 recession, jobs didn't begin to come back for 13 months – and it took four more years for manufacturing jobs to increase. The pattern was even worse after the 2001 downturn, when the number of Americans working kept on falling for two more years – and for nearly five more years for manufacturing jobs. All told, we may be looking at as many as 9 million fewer Americans working than before this all began. In addition, the number of hours worked by those who have jobs also is falling more sharply than it used to. During the big 1981-1982 downturn, an American worker's average number of hours shrank 1.7 percent, and the recessions of 1990-1991 and 2001 produced declines in average hours of less than 1 percent. This time, average hours on the job are down 2.4 percent already – and it will get worse before this recession ends.

These developments are yet another reason why the next expansion, when it finally comes, will be relatively weak. The main element now available to prop up a coming expansion is the President's stimulus, which was designed to kick in mainly this fall and winter. (The only way to get stimulus out more quickly is tax cuts; but the evidence showed that Bush’s spring 2008 tax relief had little effect on this cycle, since most of it was saved.) But the stimulus is a single shot affair, and the emerging jobs picture suggests that it's time to design a second one.

It's also time to take more seriously mounting evidence that globalization and other developments are taking big bites out of America's long-vaunted capacity for creating jobs. We see this evidence throughout the last expansion (2002-2007), when we added new jobs at a rate barely one-third as great as during the expansions of the 1980s and 1990s. Yet, there are few signs that these developments matter much in the current political debate. For example, a central factor in our new problems creating jobs, even during expansions, has been fast-rising health care costs being borne by businesses. With those businesses facing intense global competition, as most large U.S. businesses do, they've found themselves unable to pass along their higher health care costs through higher prices. So instead, they cut other costs, starting with jobs.

Even so, the health care reforms being considered by Congress all involve even higher health care costs for most businesses, which will mean more job cuts even as the economy grows. No one questions that health care reform is an urgent, national priority -- as are efforts to contain the risks of climate change. But we gain little except a false sense of accomplishment by enacting health care reforms that also aggravate the new jobs problem, or climate legislation such as Waxman-Markey which cannot deliver significant reductions in greenhouse gases.

The right way to do this is to focus first on the underlying problems in the current downturn and the issues with jobs and incomes -- before we take on broad and urgent reforms in other areas. The politics, if nothing else, virtually dictate it, since a growing economy that creates large numbers of new jobs and pushes up incomes is always a prerequisite for the public’s support for reforms that, one way or another, end up imposing new costs on them.

Simon Johnson, former chief economist at the IMF, says why bother:

The L’Aquila summit seems likely to achieve nothing, i.e., nothing that could not have been agreed upon in a conference call among deputy ministers.  Just because there’s a communiqué does not mean it has any real content.  Does this kind of expensive pageant make politicians today look important or frivolous?

More broadly, three longer-run shifts mean the G7/G8 is increasingly anachronistic.

First, emerging markets have obviously risen in both respectable clout and ability to make trouble.  China’s exchange rate policy is a leading example, but think also about Mexico, Brazil, or India.  Having a global economic discussion (e.g., on climate change or aid to Africa) without these players fully at the table does not really make sense – particularly as the G20 now operates effectively at the heads of government level.  And inviting these countries to a dinner or other event on the fringes of the main meeting just adds insult to injury.

Second, the Europeans are now organized into a loose political union and all of the major economies – except the UK – are in a currency union.  What is the point of sitting down with Italy, Germany, France, and the UK separately?  It is much more effective when they – and other Europeans – work out common positions and bring those to the table collectively.  The European Union belongs to the G20 but not the G7.

Third, the idea that the US and its allies “lead” by any kind of economic policy example is plainly in disarray.  The recent crisis focuses our attention, but we’ve seen two or three decades with irresponsible credit and throwing fiscal caution to the winds across these countries.  These countries traditionally position themselves as “G7 models” worth emulating; this message needs to be toned down.

President Obama obviously has a talent for diplomacy (e.g., at the April G20 summit).  He should use the Pittsburgh G20 summit in September to transition away from the dated emphasis on the importance of a G7/G8 heads of government meeting (e.g., reduce the excessive display of nothingness, lower the hype, have it feed into the G20 more explicitly).  Canada, chair of the G7 next year and usually very sensible on these kinds of issues, can help.

In the Financial Times, Citigroup’s William Rhodes argues that the G8 can demonstrate leadership on global trade, and, in the words of the WTO’s Pascal Lamy, “come back to the table at a political level.” Rhodes’ op-ed warns against the mistakes of Smoot-Hawley, bemoans that lack of movement on FTAs and the Doha round, and speaks of the dangers of protectionism:

Meanwhile, protectionism continues its rise in insidious ways. Very recently, the House of Representatives included trade protectionist provisions in the climate change and energy conservation bill, while earlier this year such provisions were added to the economic stimulus package. Fortunately, Mr Obama has been swift to speak out against these measures, but the congressional actions reflect rising political pressures today. Other countries are implementing similar protectionist regulations or requirements, including calls to “buy domestically” or to limit the issuance of work visas.

It is precisely the danger of one country retaliating against another’s trade restrictions, leading to an ever more threatening spiral of restrictions and tensions, that is now the gravest risk. There are indications of this, for example, in the financial area. In response to the financial crisis, governments, one by one, are moving to stabilise their domestic situations by imposing inward-oriented measures on financial services firms, such as requiring them to curb foreign lending and boost domestic credit. Such provisions penalise developing countries in particular, while, more generally, undermining the flow of capital across countries. This raises the costs of trade finance and it undermines foreign direct investment. These measures exacerbate the more than 10 per cent plunge in global trade that is likely this year.

The proliferation of domestic-oriented finance measures not only fragments the international financial system, but risks its disintegration. This will compound the damage done by rising nationalistic trade actions. Combine the finance and trade protectionist measures, and the potential for a slowing of economic recovery moves from a risk to a certainty. It could prolong the pain of the economic downturn on the millions of people and businesses who are suffering from the current crisis, while threatening the fabric of international understanding and co-operation between governments.

Already today we learn that a climate agreement was not in the cards at the summit (although the headline on the story is a little misleading.)

Update: So, there was a climate agreement of sorts, but no committment from developing countries.

Today in the Washington Post, Treasury Secretary Tim Geithner and Director of the National Economic Council Larry Summers outline the administration's plans to regulate the financial system. While these reforms will not get the same attention as the other major initiatives President Obama is trying to pass this year, they are incredibly important to our continued prosperity, and the post crisis shape of the financial system is a fascinating story to follow. One also notices that the "New Foundation" theme is repeated for the op-ed. Here's what the President's top economic advisers had to say:

Over the past two years, we have faced the most severe financial crisis since the Great Depression. The financial system failed to perform its function as a reducer and distributor of risk. Instead, it magnified risks, precipitating an economic contraction that has hurt families and businesses around the world.

We have taken extraordinary measures to help put America on a path to recovery. But it is not enough to simply repair the damage. The economic pain felt by ordinary Americans is a daily reminder that, even as we labor toward recovery, we must begin today to build the foundation for a stronger and safer system.

This current financial crisis had many causes. It had its roots in the global imbalance in saving and consumption, in the widespread use of poorly understood financial instruments, in shortsightedness and excessive leverage at financial institutions. But it was also the product of basic failures in financial supervision and regulation.

Our framework for financial regulation is riddled with gaps, weaknesses and jurisdictional overlaps, and suffers from an outdated conception of financial risk. In recent years, the pace of innovation in the financial sector has outstripped the pace of regulatory modernization, leaving entire markets and market participants largely unregulated.

That is why, this week -- at the president's direction, and after months of consultation with Congress, regulators, business and consumer groups, academics and experts -- the administration will put forward a plan to modernize financial regulation and supervision. The goal is to create a more stable regulatory regime that is flexible and effective; that is able to secure the benefits of financial innovation while guarding the system against its own excess.

Read the whole piece here.

Stockholm -- The best way to clear your head of the political chatter that passes for policy debate in Washington is to get out of town. I’m writing today from Stockholm, a grand old city on a picturesque harbor and archipelago, where it’s harder to care much about Larry Summers’ squabbles with White House colleagues, the cynical fulminations from Newt Gingrich or Rush Limbaugh, or even the heated discussions inside Obamaland over its legislative strategy for health care reform. With a little distance, it’s easier to focus on developments which may actually matter for the rest of us, such as the prospects of Iran electing a democratic reformer as president this week or how the unfolding, deep slump in global trade may imperil economic recovery by China, Japan and Germany.

 It’s also easier to concentrate on our own economic conundrums. Let’s start with the crying need for new financial regulation that can prevent a system whose dysfunctions have just wiped out 20 percent of America’s wealth from doing it all over again sometime soon. The current TARP program, now officially a tangled mess, isn’t much of a model. This week the Treasury announced that 10 large institutions will be permitted to repay their TARP loans, including Goldman Sachs and Morgan, while nine others, including Wells Fargo, Bank of America and Citicorp, have to stay in the system. It sounds reasonable, since the lucky 10 can afford to repay while most of the rest cannot. But the TARP system ties regulation to outstanding loans, so now we’re left with a two-caste financial market where the weaker ones operate at a market disadvantage and others who used the taxpayers to fund their comebacks are no longer constrained to operate in the interests of a public which rescued them less than nine months ago.

We also learned this week that the Treasury’s clever plan to use taxpayer guarantees to create a private market for the toxic assets of all these institutions is a flop: Even with all that largesse, nobody wants to buy much of the toxic paper. So if the economy dips again, the 10 institutions now exiting the TARP regulations will be back for more, and there won’t be enough money in the Treasury or the Fed to save Citicorp and Bank of America again.

Then there’s the matter of how to regulate the derivatives that knocked the pins out from under the vaunted U.S. financial markets last year. The Administration’s current economic mandarins, along with the most elevated mandarin of all, Alan Greenspan, all have confessed publicly to their errors in dismissing the need for such regulation in the late-1990s. With the catastrophic collapse of the multi-trillion dollar markets for mortgage-backed securities and their credit default swap derivatives, strict regulation of these transactions to protect the rest of us -- which basically means transparency and reasonable limits on the leverage used to create or buy these instruments -- should be a no-brainer.

So what’s the logic behind the Administration's decision to keep trading in large, “private” deals in derivatives outside regulated markets? Those are precisely the deals that pose a danger for the rest of us, since they’re the large ones and inevitably the deals carried out by the institutions now acknowledged to be too large to fail. That’s Washington-speak for companies important enough to demand help from the taxpayers whenever they need it. The justification is the same as in the 1990s -- it will reduce their profits. That’s correct, in order to protect the rest of us from the now well-known consequences of a mindless drive for higher and higher profits regardless of the risks.

The next time you feel yourself drawn to the insider accounts of the greasy pole inside the White House or the breakup of the Republican coalition, take a deep breath and remind yourself that these are the players actually responsible for serious matters that ultimately may determine whether you ever have the income and assets required to send your kids to college or retire before you’re 80 years old.

With General Motors filing for bankruptcy this morning, and the federal government taking a 60 percent stake in the company, NDN offers some recent thinking on the American automobile industry.

• Fuel Economy in Context by Michael Moynihan, 5/19/2009 - Moynihan welcomes the Administration's steps on fuel economy, but points out that CAFE standards are imprecise tools that must be viewed as part of a larger series of complex policies.

• Here in the Real World They're Shutting Detroit Down by Morely Winograd and Mike Hais, 4/30/2009 - NDN Fellow Winograd and Hais pont out that GM's problems come at a time when the inherent tension between the investor class and the country's manufacturing sector have never been greater.

• Should We Try to Save the Damaged Brands? by Simon Rosenberg, 4/30/2009 - Rosenberg asks if these mainstay, now troubled American brands - AIG, Chrysler, Citi, GM - can be saved by being propped up by the government or if their brands are permanently insolvent.

• The Administration Goes Out on a Limb for GM -- and the Rest of Us by Robert Shapiro, 4/29/2009 - Shapiro says that the Obama Administration's plans for General Motors are a dismal idea, except for all the alternatives.

• China, the World's Largest Car Market and the Future of the Electric Car by Michael Moynihan, 4/10/2009 - Moynihan argues that a robust American auto industry is crucial for the US to compete with China in the growing electric car market.

• Carbonomics by Michael Moynihan, 4/2/2009 - Moynihan looks at the connection between pricing carbon and the future of the American automobile industry.

• Cars, Banks and the Future of the Clean Economy by Michael Moynihan, 3/31/2009 - Moynihan argues that to rebuild the economy we need more engineering and less financial engineering.

• Lessons from Detroit: 10 Years Later, the Overhaul of the Domestic Auto Industry and Its Parallels with the Republicans' Problem by Morely Winograd and Mike Hais, 3/30/2009 - Winograd and Hais find the similarities between Detroit's failure to change and the Republican Party's woes.

• Sympathy for the Car Guys by Michael Moynihan, 12/5/2008 - Moynihan compares Capitol Hill's treatment of Wall Street CEOs to that of the automakers.

• If Detroit Goes Down, Will It Take the Economy -- and the GOP -- With It? by Robert Shapiro, 11/19/2008 - Shapiro argues that the Bush Administration's mismanagement of the economic crisis has driven the auto industry into an impossible situation.

NDN's Dr. Rob Shapiro recently discussed on how the Great Recession has created protectionism without passing any protectionist laws. In today's Wall Street Journal, British Prime Minister Gordon Brown writes to American audience, arguing that, "The collapse of global trade is the most immediate issue we face. We must show once again our determination to fight back." An excerpt:

The simple truth is that trade is the most serious casualty of the global financial crisis, with a vicious circle emerging of falls in exports leading to falls in production and rising job losses leading to further falls in consumer demand, exports, etc. We used to think that the countries most affected by the global financial crisis would be those with the largest financial sectors. But it has become increasingly clear that the countries hardest hit are those most reliant on exports.

...

Developing countries have been particularly hard hit as a result of declining world trade and falling commodity prices. Some 100 million more people are in poverty as a result of the crisis. All the progress we have made to reduce poverty is in danger of being wiped out.

Just a few months ago, the WTO forecast global trade to fall by 9% in 2009. In simple terms, a banking crisis has become a trade crisis.

There can be no recovery in the global economy without a revival of world trade. Trade was the driver of postwar recovery in Japan, Germany, the rest of Europe and the U.S., and the engine of growth in Asia in recent decades. We must ensure that a revival of world trade leads the global economy once again out of recession.

More here.

Today President Obama is conducting a town hall meeting in New Mexico focusing on the issue of credit card debt.  This is a welcome turn in the national economic conversation from the plight of big institutions and the financial system to what is perhaps the most important part of the story of the Great Recession still not adequately understood - the weakened state of the American consumer prior to the recent recession and financial collapse. 

We've told this story many times - despite robust growth in the Bush Era, incomes for a typical family fell.  Most measures of consumer health during the Bush went in the wrong direction.  We saw an increase in those without health insurance, in poverty, incomes fell.  The lack of income growth - coupled with a flood of cheap money - helped drive increased consumer indebtedness - mortgages themselves, credit cards, home equity loans.   People borrowed to maintain their lifestyles, and to keep up with the Jones.  The continued consumption and borrowing was justified in the minds of consumers by the power of the wealth effect brought about the rapidly increasing value of homes and stocks.  But we know what happened next.  Assets fell.  Incomes did not appreciably rise.  The debt remained.  People lost jobs.  The already very weakened balance sheet of a typical family grew much much worse. 

And then the inevitable happened - consumption plummeted.  Repeatedly throughout this crisis the "experts" have been surprised by the weakness of the typical American consumer.  They are not acting like consumers in a typical recession because for consumers the recovery they just experienced was not a typical recovery.  Typical Americans have been in their own "recession" for almost a decade.  Look at the Post headlines today: "More Homeowners Getting Aid, But Demand Keeps Rising," and "Weak Retail Sales Dash Recovery Hopes."

The reason that this matters so much is that consumer spending in the US is 70 percent of GDP, and it has been the mighty American consumer who has been fueling the recent global expansion.  The length and depth of the current Great Recession will be driven to a great degree by the ability of consumers to start buying things again.  We maintain that given their weakened home balance sheet that this could be a while.  Which is why the next stage of our recovery will not be so much about liquidity or confidence.  It will be about actually improving the financial position of the typical American consumer, which inevitably lead us to discussions of "deleveraging," or reducing the amount of debt on the balance sheets of American families.

Which is why what the President is doing today is so important.  He is beginning a conversation now about what is happening with American families.  What is best for American families now - to spend or save?  Do we really want, as a matter of national policy, Americans to spend, to take on more debt? Or is it best for them to save, pull back, spend less, pay down their debts, get their own balance sheets in order?  The answer to this question - being put on the table by the President today - will have a lot to do with how the current global recession ends. 

My own view is that just as we have tried to figure out how to get the debt off the balance sheet of the banks so they can resume their work, we will have to talk about how to reduce the indebtedness of American consumers, and encourage those nearing retirement to save much more to replenish the losses in their retirement savings.  This may mean a period of slower growth and less consumption of course - but what other choice do we have?

Update: Just found this Christina Romer quote from an interview earlier this week:

The economic recovery, Ms. Romer said, will be driven by business investment in sectors like renewable energy rather than consumer spending. She echoed the views of other economists who expect a long-term economic shift.

“The chance that consumers are ever going to go back to their high-spending ways is not very plausible, nor do I think they should,” she said. “We were a country that needed to start saving more.”

The New York Times has a must read article by Eric Dash and Andrew Martin this morning which looks at the crushing burden credit card debt has become for many American families, and how worsening financial conditions is driving many into credit card default.  The article once raises a fundamental question we've been raising for months - what is the best course for consumers now? should they borrow and spend, helping fuel a recovery, or should they pay down their debts and clean up their own balance sheets? The answer will help determine how deep and long the Great Recession will be:

It used to be easy to guess how many Americans would have problems paying their credit card bills. Banks just looked at unemployment: Fewer jobs meant more trouble ahead.

The unemployment rate has long mirrored banks’ loss rates on card balances. But Eddie Ward, 32 and jobless, may be one reason that rule of thumb no longer holds. For many lenders, losses are now starting to outpace layoffs.

Mr. Ward, of Arkansas, lost his job at a retail warehouse in April and so far has managed to make minimum payments on his credit card debt, which he estimates at $15,000 to $20,000. Asked whether he thinks he will be able to pay off his balance, he said, “Not unless I win the lottery.”

In the meantime, he said, “I’m just doing what I can.”

Experts predict that millions of Americans will not be able to pay off their debts, leaving a gaping hole at ailing banks still trying to recover from the housing bust.

The bank stress test results, released Thursday, suggested that the nation’s 19 biggest banks could expect nearly $82.4 billion in credit card losses by the end of 2010 under what federal regulators called a “worst case” economic situation.

But if unemployment breaches 10 percent, as many economists predict, the rate of uncollectible balances at some banks could far exceed that level. At American Express and Capital One Financial, around 20 percent of the credit card balances are expected to go bad over this year and next, according to stress test results. At Bank of America, Citigroup and JPMorgan Chase, about 23 percent of card loans are expected to sour.

Even the government’s grim projections may vastly understate the size of the banks’ credit card troubles. According to estimates by Oliver Wyman, a management consulting firm, card losses at the nation’s biggest banks could reach $141.5 billion by 2010 if the regulators’ loss rate was applied to their entire credit card business. It could top $186 billion for the entire credit card industry.

In the official stress test results, regulators published losses only on credit cards held on bank balance sheets. The $82.4 billion figure did not reflect another element in their analysis: tens of billions of dollars in losses tied to credit card loans that the banks packaged into bonds and held off their balance sheets. A portion of those losses, however, will be absorbed by outside investors.

What is more, the peak unemployment level that regulators used to drive their loss estimates is roughly what current rates are on track to reach. That suggests that if the unemployment rate gets much worse, credit card losses could be worse than what regulators projected.

And many economists expect the number of job losses to climb even higher. On Friday, the unemployment rate reached 8.9 percent as the economy shed 539,000 jobs. The unemployment rate and the rate of credit card charge-offs, or uncollectible balances, have been aligned because consumers who lose their jobs are more likely to miss payments.

Banks wrote off an average of 5.5 percent of their credit card balances in 2008, while the average unemployment rate was 5.8 percent. By the end of the year, the rate of credit-card write-offs was 6.3 percent; more recent data was not available.

Experts predict that the rate of credit-card losses could eventually surpass the jobless rate because of the compounding effects of the housing crisis and lackluster consumer confidence. Shortly after the technology bubble burst in 2001, credit card loss rates peaked at 7.9 percent.

“We will blow right through it,” said Inderpreet Batra, a consultant at Oliver Wyman, which specializes in financial services.

Unlike in prior recessions, cardholders who recently lost their jobs are unlikely to be able to extract equity from their homes or draw down retirement accounts to help pay off their debts. That means borrowers who fall behind on their bills are more likely to default, leading to higher losses.

Throughout this Great Recession analysts have been repeatedly suprised by the gravity of the economic decline.  But as this article points out, one of the central dynamics driving this downturn was the unusual economic circumstances of this decade prior to the Wall Street collapse and recession - that in a period of sustained growth incomes in America dropped.  The American consumer was in an already terribly weakened state prior to the slowdown, and this is why it is critical - as the President is doing with his new credit card initiative - to begin to focus much much more on getting the balance sheet of the battered American consumer in better shape.  

For without the typical American family getting back in the game we could see this far-reaching global recession last much longer than of any of us would want.