Transcript The Great Recession of 2008-09 - University of Wisconsin

We Survived the Great Recession of 2008-09 –
WHAT NOW?
Wayne Carroll
Department of Economics
University of Wisconsin-Eau Claire
[email protected]
The Great Recession
 Started in December 2007 and probably ended
around July 2009.
Aug 1929 - March 1933
43 months
Dec 2007 – July 2009
20 months
Nov 1973 - March 1975
16 months
July 1981 - Nov 1982
16 months
July 1990 - March 1991
8 months
March 2001 - Nov 2001
8 months
Source: http://wwwdev.nber.org/cycles/cyclesmain.html
Why was this recession special?
 The deepest since the Great Depression.
 The government response to this recession
was extraordinary and will have a lasting,
historic impact.
 The economy has been behaving differently
from before, so we’re in uncharted territory.
How do we measure recessions?

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




Real GDP
Total employment
Unemployment rate
Bank credit
Industrial production
Home sales and prices
Stock market prices and other asset prices
Others
The “official” word on recessions comes from the
National Bureau of Economic Research (NBER).
National Output
(Real GDP in billions of 2005 $)
$14,000
$12,000
$10,000
$8,000
$6,000
$4,000
$2,000
$0
1970
1975
1980
1985
1990
1995
2000
2005
2010
U.S. Unemployment Rate
12%
10%
8%
6%
4%
2%
0%
1970
1980
1990
2000
2010
Total Employment Relative to Peak:
The Bad Recessions
102%
1974-75
101%
100%
99%
1981-82
98%
97%
96%
95%
94%
2007-09
93%
-5
0
5
10
15
20
Months before or after employment peak
25
30
What about Wisconsin?
 Wisconsin tends to follow national
economic trends (more or less)
 Wisconsin was hit by the recession
about as hard as the rest of the
nation, and it will probably recover
(or not) with the rest of the nation
Nonfarm Employment Index: Wisconsin and U.S.
(Seasonally adjusted; December 2007 = 100)
105
Wisconsin
100
95
U.S.
90
85
80
75
70
1990
1995
2000
2005
2010
Unemployment Rates: Wisconsin and U.S.
(Seasonally adjusted)
12%
10%
8%
U.S.
6%
4%
Wisconsin
2%
0%
1990
1995
2000
2005
2010
Nonfarm Employment Index: Wisconsin and U.S.
(Seasonally adjusted; December 2007 = 100)
102
100
Wisconsin
98
U.S.
96
94
92
90
2007.5
2008
2008.5
2009
2009.5
2010
2010.5
2011
How did we get here?
 Broad expansion in mortgage lending and
increases in home prices starting in the 1990s.
 The housing bubble burst in 2006-7.
 Many home owners “underwater”
 Increase in mortgage default rates
 Financial problems for holders of mortgage-backed
securities
(http://faculty.chicagobooth.edu/raghuram.rajan/research/TheCreditCrisisDougDiamondRaghuRajanAEADec2008.pdf)
How did we get here?
 Risks were spread in new ways (or at an
unprecedented scale) in the housing bubble, so
the downturn was much broader and deeper
than anyone thought was possible.
(http://www.hbs.edu/research/pdf/09-060.pdf )
 Crisis of confidence  recession accompanied
by financial crisis
 Consumers are reluctant to spend or borrow
 Banks are reluctant to lend
 Businesses are reluctant to invest in capital
projects
Crisis of Confidence
Consumption and Investment Spending
(billions of 2005 dollars)
$10,000
Consumption
$9,000
$8,000
$7,000
$6,000
$5,000
$4,000
$3,000
Investment
$2,000
$1,000
$0
1980
1985
1990
1995
2000
2005
2010
Crisis of Confidence
Expenditures on New Housing
(Real Private Residential Fixed Investment in billions of 2005 dollars)
$900
$800
$700
billions
$600
$500
$400
$300
$200
$100
$0
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
How did we get here?
History offers lessons for policy makers:
 Recessions can be long-lasting.
 The Fed did not act decisively in the Great
Depression – it “had to keep its powder dry
for a real emergency.”
 Japan suffered a deep recession and
deflation starting in 1989, and the Japanese
government did not respond quickly.
How did we get here?
How did we get here?
 Learning from history:
 The Federal Reserve System has taken extraordinary
steps to rescue the financial system.
 The Fed increased the nation’s money supply at an
annual rate of over 45% in the fourth quarter of
2008.
 The Fed has dropped its target interest rate to
essentially zero.
 The Fed has injected hundreds of billions of
dollars into banks, AIG, and other financial
institutions.
(http://www.federalreserve.gov/monetarypolicy/bst.htm)
http://www.frbatlanta.org/documents/research/highlights/finhighlights/FH_090810.pdf
How did we get here?
 Learning from history: Congress and the
president(s) enacted fiscal stimulus
programs on an unprecedented
(peacetime) scale
 The stimulus packages have boosted the
economy – how much?? – and raised the
federal budget deficit.
How did we get here?
 Emergency Economic Stabilization Act of 2008:
 Troubled Asset Relief Program (TARP) – Treasury
could spend $700 billion to recapitalize banks
 The American Recovery and Reinvestment Act of 2009:
 $787 billion injection of funds into the U.S. economy,
including $212 billion in tax cuts, in the next ten years
(http://cboblog.cbo.gov/?p=208)
 President Obama’s latest proposals.
(http://www.nytimes.com/aponline/2010/09/10/us/politics/AP-USObama.html?scp=2&sq=infrastructure&st=nyt)
 The federal budget deficit for fiscal year 2010 was $1.3
trillion dollars, or about 9% of GDP.
(http://www.cbo.gov/doc.cfm?index=11705)
Federal Budget Deficits as a Share of GDP
12%
10%
8%
6%
4%
2%
0%
1950
-2%
-4%
1960
1970
1980
1990
2000
2010
National Debt (adjusted for inflation)
(Billions of 2010 dollars)
$12,000
$10,000
$8,000
$6,000
$4,000
$2,000
$0
1940
1950
1960
1970
1980
1990
2000
Projected debt in 2011 from http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=economic_indicators&docid=f:32au10.txt.pdf
2010
Possible Future Scenarios
 A double-dip recession.
 Many years of deflation and stagnation
– like in Japan in the last twenty years.
 Fiscal crisis and high inflation as a
result of our high national debt
 Rapid recovery – like in the early 1980s.
 Most likely: a long, slow recovery.
Double-dip Recession?
 The economy has slowed in recent months
(although it’s still growing).
 State and local government spending
continues to fall.
 Federal stimulus spending is declining.
But the economy will probably continue to
grow.
Deflation and Stagnation?
 The scary monster hiding under the
bed: Japan in the last twenty years .
 The 1990s were “the lost decade.”
 Housing bubble in late 1980s  bank crisis in
1990s
 Slow growth in real GDP, deflation, and high
unemployment throughout the last twenty years
(http://research.stlouisfed.org/publications/review/10/09/Bullard.pdf )
Deflation and Stagnation?
Japan in the last
twenty years:
what we want
to avoid!
http://www.economist.com/finance/displaystory.cfm?story_id=13415153
Deflation and Stagnation?
Deflation and Stagnation?
 The Federal Reserve System is trying to ensure that
we’ll have some inflation over the next few years to
avoid Japan’s fate:
(http://www.federalreserve.gov/newsevents/press/monetary/20100810a.htm)
 The Fed probably can keep us out of a
deflationary trap.
Fiscal Crisis and High Inflation?
In theory (or maybe in our worst nightmares),
a huge national debt could result in:
 Bankruptcy: the U.S. government might have to
default on its debt, causing interest rates to
skyrocket (the fate that threatened Greece last
spring).
 High inflation: the government and the Fed might
pay off the debt by “printing money,” which would
cause inflation.
Fiscal Crisis and High Inflation?
 Bankruptcy? Not likely.
 The U.S. economy “grew out of” deficits in the 1990s
and could do it again in the long run.
 U.S. Treasury bonds remain an attractive investment
around the world.
 High inflation? Also not likely.
 There’s not much evidence of inflation on the horizon.
 The Fed is on the watch for inflation.
Reducing the deficit (by reducing government
spending) would tend to slow the economy further in
the short run – not a good move now.
Rapid Recovery or Slow Growth?
Reasons for optimism:
 There is a lot of excess capacity in the U.S.
economy:
 Millions of workers looking for work
 Banks holding more capital and extraordinary levels of
reserves that could be lent out
 Consumers reducing their debts and their spending
 If confidence is restored, the economy could take
off quickly – like it did after the 1981-82 recession.
Rapid Recovery or Slow Growth?
National Output Relative to Pre-Recession Peak
114
1981-82
112
110
108
106
104
102
100
2007-09
98
96
94
0
2
4
6
8
10
Quarters after pre-recession peak
12
14
16
Rapid Recovery or Slow Growth?
Consumer Spending Relative to Pre-Recession Peak
120
1981-82
115
110
105
100
2007-09
95
0
2
4
6
8
10
Quarters after pre-recession peak
12
14
16
Rapid Recovery or Slow Growth?
Reasons for pessimism:
 Many households are still deeply in debt, and it will
take longer for them to dig out.
 There’s a lot of excess capacity in the housing
market, so housing starts are not likely to pick up
soon.
 Many workers have been unemployed (or out of the
labor force) for a long time, and their skills are
getting rusty. Productivity might fall as they return
to work.
My Predictions
 2011 will be a good year.
 2012 will be an even better year.
 …unless Congress chooses to cut government
spending in the short run, which will slow the
recovery.