One of my first posts cautioned against comparing the current economic downturn to the Great Depression. Our economy is certainly in terrible shape, as Friday’s GDP data confirmed. Indeed, it’s the worst downturn since World War II. But it still pales in comparison to the horror of the Great Depression.
Since we received fresh data on Friday, it seems like an auspicious time to present a new version of my chart making this point:
The green bar is the current recession. Most forecasters expect the economy to grow, albeit tepidly, in coming quarters. If they are right, the estimated peak-to-trough GDP decline in this downturn is 3.9%. (If you believe that forecasters are too rosy, feel free to add on your own estimate of further declines in the quarters ahead.)
Yesterday’s GDP report confirmed what many had already suspected: the current economic downturn is the worst since World War II.
According to the advance estimate, GDP fell at a 1.0% annualized pace in the second quarter, somewhat better than consensus estimates (which were looking for a decline in the 1.5% range). Revisions to last year, however, revealed than earlier parts of the recession were more severe than originally estimated.
Putting it all together, GDP has declined by an estimated 3.9% over the past four quarters. That edges out the recession of 1957-58, when GDP fell by 3.7% in just two quarters, as the deepest contraction in GDP since World War II.
To put this in context, the following chart shows the magnitude of all GDP declines since 1947:
There have been 25 such declines, ranging in length from one to four quarters. The current downturn beats all the others.
There wasn’t room to include the dates of the downturns in that chart, so here’s one that shows just the top five declines:
The economy contracted at a 1.0% pace in the second quarter, according to the advance estimate from the Bureau of Economic Analysis. That’s bad, of course, but much better than the 5.4% and 6.4% pace of declines in the two previous quarters.
Whenever the GDP data come out, the first thing I look at is Table 2, which shows how much different sectors of the economy contributed to the growth (or, in this case, the decline). The most striking thing about Q2 is how broad the weakness was:
As the chart shows, Q2 witnessed declines in every major category of private demand: consumer spending, residential investment, business investment in equipment and software (E&S), business investment in structures, and exports. Wow. To find the last time that happened, you have to go all the way back to … the fourth quarter of last year, when it was even more severe. But before that, you have to go back five decades to the sharp downturn of the late 1950s.
Not surprisingly, government spending helped offset the declines in private spending. Most of the boost came from defense spending, but state and local investment also helped (perhaps some glimmers of stimulus?).
A sharp decline in imports, finally, was the biggest contributor to growth in Q2, at least in an accounting sense. It’s important to choose your words carefully here, since declining imports are clearly not the path to prosperity. In a GDP accounting sense, however, import declines do boost measured growth. Why? Well consider the fall in consumer spending. That decline affected both domestic production and imports. GDP measures domestic production, so we need a way to net out the decline in consumer spending that was attributable to imports. That’s one of the factors being captured in the imports figure.
Note: If the idea of contributions to GDP growth is new to you, here’s a quick primer on how to understand these figures. Consumer spending makes up about 70% of the economy. Consumer spending fell at a 1.2% pace in the second quarter. Putting those figures together, we say that consumer spending contributed about -0.9 percentage points (70% x -1.2%, allowing for some rounding) to second quarter growth.
As I mentioned a few weeks ago, today’s GDP release is particularly important because the fine people at the BEA have gone back and made revisions to the entire history of GDP statistics. I will post again once I have a chance to review how history has changed.
Many economists, myself included, refer to the recent boom and bust in house prices as a bubble, whose foundation lay in a combination of credit market excesses and human imperfections. Fundamentals certainly played a role as well, but bubble forces were particularly important.
The housing boom and bust of the last decade, often attributed to “bubbles” and credit market irregularities, may owe much to shifts in economic fundamentals. A resurgence in productivity that began in the mid-1990s contributed to a sense of optimism about future income that likely encouraged many consumers to pay high prices for housing. The optimism continued until 2007, when accumulating evidence of a slowdown in productivity helped dash expectations of further income growth and stifle the boom in residential real estate.
Jim’s argument depends on several related lines of reasoning:
First, he notes that productivity drives long-term income growth and that incomes determine how much families can pay for homes. He then argues that the demand and supply for housing are inelastic and, as a result, rising incomes imply rising house prices. Putting these pieces together, he concludes that faster productivity growth implies faster house price appreciation.
Second, he notes that productivity growth accelerated in the mid-to-late 1990s and then slowed around 2004. The productivity acceleration thus began shortly before house price took off, and the productivity slowdown began shortly before house prices began to collapse.
Much ink, both physical and electronic, has recently been spilled on the question of whether the United States should undertake a second stimulus.
To which there is only one possible answer: we already did a second stimulus.
The first stimulus — the Economic Stimulus Act of 2008 — was signed by President Bush in February 2008. That Act gave families $115 billion in tax rebates and allowed companies to depreciate business investment more rapidly. Overall, the Act reduced taxes and increased spending by $168 billion in 2008 and 2009 (the long-term budget hit from the Act is smaller — about $124 billion over ten years — because the corporate tax reductions deferred tax payments rather than eliminating them.)
Those were the days before the collapse of Lehman (heck, it was even before the collapse of Bear Stearns) when policymakers were rightly worried about a weak economy, but $168 billion seemed like a lot of money.
The second stimulus — the American Recovery and Reinvestment Act of 2009 –was signed by President Obama in February 2009. That Act increases spending on a host of programs, including infrastructure, state assistance, and extended unemployment insurance. It also created the Making Work Pay tax credit, among other tax reductions. The Act is usually described as a $787 billion stimulus, with ten-year spending increases of $575 billion and tax reductions of $212 billion. The reality is a bit more complex, however. On the one hand, the Act provides somewhat more stimulus than the headline figure; for example, there are about $810 billion in spending increases and tax reductions during the first seven years. On the other hand, the stimulus takes time to phase in; during fiscal 2009, for example, the estimated stimulus is about $185 billion.
The question we face today is whether to enact a third stimulus, not a second one. I will have more to say on this in the future. For now, I think the Obama administration has it exactly right, indicating that it’s premature to enact a third stimulus, but their economic team is closely monitoring the situation.
In interpreting this increase, it’s important to keep several points in mind:
May’s increase was driven entirely by the recent stimulus act. The act provided for one-time payments of $250 to a range of Americans who are beneficiaries of various other programs, including Social Security, SSI, and veterans’ benefits. Those payments more than account for the increase in transfers from 16.9% of personal income in April to 18.0% in May. Continue reading “Stimulus Lifts Government Transfers”
It’s no surprise that Americans have been cutting back in the face of job losses, pay reductions, and shrunken retirement accounts. One result has been a sharp increase in the saving rate, which has averaged more than 4.5% this year after flirting with 0% in recent years.
A second result is a rebound in doing-it-yourself. Home-cooking has replaced some restaurant visits, for example, and more Americans are picking up a hammer rather than calling a handyman.
This morning’s Washington Post provides another example of such rising home production — a boom in vegetable gardening:
Seed producers and merchants across the United States are reporting the same phenomenon of crazy demand and even some shortages, especially of staples like beans, potatoes and lettuces. Sales of seed packets picked up last year and have grown significantly again this season, which runs from January to June.
Industry observers attribute the boost in sales to a concern for food safety following outbreaks of E. coli and salmonella poisonings and a desire by consumers to be a part of the local food movement. Michelle Obama’s new vegetable garden at the White House may also be inspiring people, they said.
But the primary reasons, they speculate, are the recession, income loss and the need for people to lower their grocery bills by growing their own. (my emphasis)
Anecdotes like this have a number of larger implications:
Every five years, the fine people at the Bureau of Economic Analysis update the way that they measure the U.S. economy. Yesterday, the BEA released a helpful document that outlines some of the upcoming improvements. Among the things that caught my eye:
BEA will employ plain English, rather than bureaucratese, to describe the three vintages of GDP estimates, which are reported one, two, and three months after the end of each quarter. Those vintages are currently known as the Advance estimate, the Preliminary Estimate, and Final estimate. The latter two names always struck me as nonsensical: “Preliminary” sounds like it should come before “Advance,” and “Final” estimates aren’t really final. Hence the new names: the Advance Estimate, the Second Estimate, and the Third Estimate. A definite improvement.
The parallels between the lead-up to the Great Depression and the lead-up to today’s severe recession are eerie. Why do the economic costs today appear to be so much lower (knock on wood)?
Yesterday I cautioned against comparing the current economic downturn to the Great Depression. The current recession is certainly severe, with overall economic activity on track to drop almost 4 percent. But the Great Depression was incomparably worse, with output dropping almost 30 percent.
In the comments, Merle Hazard offers an important addendum to my argument, which I heartily endorse. Merle says:
A plane crash averted does bear some resemblance to a plane crash that happened…not in the final outcome, but in the chain of events that took place up until the time the pilot pulled out of the nose dive.
The easiest way to see what Merle has in mind is to read John Kenneth Galbraith’s The Crash of 1929. The parallels between the lead-up to the Great Depression and the lead-up to today’s severe recession are eerie. Excess credit, reckless lending, high leverage, ponzi schemes … it’s all there. Some enterprising author should (with permission) go through the book, change a few hundred words and numbers and reprint it as The Crash of 2009.
Except for one thing: the economic costs of today’s downturn, although severe, appear to be much lower (knock on wood). The trillion dollar question is why. I see three possible explanations:
