Green Shoots or Green Observers?

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Econ­o­mists have long had to endure being called “Dis­mal Sci­en­tists”, but real­ly that’s not hard enough on them. With their pro­cliv­i­ty to invent trite phras­es to describe com­plex issues, they deserve to be known as Dis­mal Poets as well.

The lat­est cliché off the eco­nom­ic jar­gon pro­duc­tion line is “Green Shoots of Recov­ery”. With gov­ern­ments hav­ing laid lib­er­al amounts of fer­tilis­er – in the forms of hand­outs, bud­get deficits, slashed inter­est rates and “quan­ti­ta­tive eas­ing” (anoth­er new piece of jar­gon for giv­ing good mon­ey to bad lenders in return for bad assets) – they now report signs of eco­nom­ic recov­ery sprout­ing like alfal­fa every­where.

At least this anal­o­gy has a bet­ter foun­da­tion than pre­vi­ous favourites like “step­ping on the accel­er­a­tor” (or the brake), which implied the econ­o­my was some­thing as straight­for­ward as a car. This one has hints of biol­o­gy, which is a bit clos­er to the organ­ic, evo­lu­tion­ary thing an econ­o­my actu­al­ly is.

But econ­o­mists’ knowl­edge of the eco­nom­ic gar­den reminds me more of Chance the Gar­den­er from Being There – a sim­ple­ton who those in author­i­ty thought was pro­found­ly intel­li­gent because he answered ques­tions about com­plex issues with sim­ple analo­gies.

The com­plex issue being buried by this lat­est anal­o­gy is “what caused the cri­sis in the first place?” The answer, as I’ve been argu­ing for years now, is that a debt-financed spec­u­la­tive bub­ble gen­er­at­ed illu­so­ry wealth as it grew, but its col­lapse has now left us with a moun­tain of pri­vate sec­tor debt.

Now that the Ponzi fol­ly of lever­aged spec­u­la­tion on asset prices is over, debt has stopped grow­ing and the con­tri­bu­tion that grow­ing debt made to demand has dis­ap­peared. That alone is enough to cause a cri­sis: in the USA in 2006-07, pri­vate debt grew by $4 tril­lion, boost­ing aggre­gate demand in that $14 tril­lion econ­o­my by over 20 per cent.

Even sta­bil­is­ing debt at its cur­rent lev­el results in demand falling by 23 per cent in Amer­i­ca. And now the debt bub­ble is act­ing in reverse – reduc­ing demand as firms and fam­i­lies reduce debt, and nec­es­sar­i­ly spend less in the process.

The result is a plunge in demand that dri­ves unem­ploy­ment up and pro­duc­tion down. Gov­ern­ment attempts to stop this by throw­ing large amounts of pub­lic mon­ey at it can atten­u­ate the process, but they are too small to coun­ter­act it because the debt lev­els are so huge.

So while tem­po­rary salves may flow from gov­ern­ment stim­uli, the recov­er­ies such largesse have engi­neered in the past – dur­ing the reces­sions of the 80s and 90s – worked only because they restart­ed pri­vate debt growth.

With US pri­vate debt at 300 per cent of GDP, there is no prospect of that lend­ing tak­ing off again. So the stim­uli will slow the pain, but not stop it. The “Green Shoots” will turn brown, whith­er and die.

And to see them amidst all the glob­al data itself requires dis­tort­ed vision (wear­ing grass-coloured glass­es per­haps?). As eco­nom­ic his­to­ri­ans Bar­ry Eichen­green and Kevin H. O’Rourke have shown, on a whole host of indi­ca­tors to date, this cri­sis is pro­gress­ing in step with The Great Depres­sion.

How green will neo­clas­si­cal econ­o­mists appear to be in a year’s time? Watch this space.

This was orig­i­nal­ly pub­lished on Fri­day, June 26, 2009 as an expert com­men­tary on Peter Switzer’s relaunched blog.

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