Sep05

It’s Hard Being a Bear (Part Three): Good Economic History

by Cassander on September 5th, 2009 at 11:57 am
Posted In: Debtwatch

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“Green shoots” are appearing everywhere—just read the newspapers, and you can be assured that we’ve turned the corner. Bar the latest rise in US unemployment—up 0.3% to 9.7%, after falling 0.1% the previous month—there’s nothing but good news as far as the eye can see.

Unless, that is, you take a look at a wider range of data, as economic historians Barry Eichengreen and Kevin O’Rourke have been doing in their series  “A Tale of Two Depressions”.

They have now published three installments of this study, which collates data from a number of countries and compares it to the same information in the 1930s—taking June 1929 as the starting point for the Great Depression, and April 2008 as the same for our current “Great Recession”.

Their latest installment was published on September 1st, and it does indeed show some signs of a turnaround—“green shoots” perhaps. But their comparison of today with the 1930s still reaches the conclusion that “today’s crisis remains dramatic by the standards of the Great Depression”.

The key improvement they see in the current data over that for the 1930s is an uptick in world industrial production, which has risen by about 2% (compared to peak output in April 2008) in the last four months from its low of 88%. This now puts it substantially above the comparable period in the 1930s, when by this stage industrial output had fallen to 81% of its peak.

However, they express the concern that this turnaround reflects the gigantic government stimuli that have been applied in the last year, and the continuance of a positive trend now relies upon the private sector taking over:

“The question now is whether final demand for this increased production will materialise or whether consumer spending, especially in the US, will remain weak, causing the increase in production to go into inventories, leading firms to cut back subsequently, and resulting in a double dip recession.”

There are signs of good news elsewhere too—notably in stock markets and world trade. However, these aren’t as robust as a focus solely on the US indices and Japan’s exports might imply. Though world stock markets have rebounded, they are still slightly below their comparable levels in the 1930s.

The world trade figure is more telling. Neoclassical economists have often pointed at restrictions to world trade as one reason the Great Depression was as bad as it was—citing in particular the Smoot-Hawley Tariff Act in the United States. In fact this Act was signed into law in June 1930, one year after Eichengreen & O’Rourke’s reference date for the start of the Great Depression. By that time, world trade had already fallen about 8% below its peak level; 3 months later had fallen a further 2%.

15 months into our modern-day crisis, and with no such protectionist legislation even being contemplated, world trade had fallen 20% below its peak.

The recent 1% uptick in world trade volumes is welcome, but it still puts us well below the 1930s.

This in itself is a reflection of how much world industrial output has been globalised in the last thirty years, which is in part why the crisis spread very rapidly from the USA to the rest of the world. In the 1930s, the vast majority of the USA’s industrial needs were met by its own factories, so the downturn hit its own industries and workers first and hardest. Today, the heavy blows also fell on the world’s industrial exporters—notably Japan and Germany.

One obvious statistic that Eichengreen and O’Rourke don’t use is the unemployment rate. I suspect this might reflect justified skepticism about the comparability of the modern measure to the old; the current ILO definition is so tight that recorded unemployment today is far lower than it would be were the 1930s standard applied (conversely, there were many Swagmen in the 1930s who would be classified as fully employed on the current standard).

A more comparable statistic for the USA is the U-6 measure, which includes most (but not all) discouraged workers. That now stands at 16.8%, up from 16.3% last month—versus the official rate of 9.7%. And though recorded unemployment is worsening much more slowly than in the 1930s, the U-6 measure is deteriorating more quickly now than it did in the 1930s, and it started at a far worse position.

A similar pattern applies in Australia. Roy Morgan Research prepares a U-6 like-measure that now stands at 16.6%—and their survey also disputes the ABS’s measure of formal unemployment rate, which they put at 7.8%, 2% higher than the ABS.

So “green shoots”, or selective reporting? There is no doubt that the immense government stimulus packages across the world have slowed the rush into Depression. But the force that caused the crisis in the first place—excessive private debt accumulated in a Ponzi Scheme laundered through share and house-price bubbles—is still with us. Until that debt is addressed, the downward rush of deleveraging is likely to resume as soon as governments wind back their spending in the false hope that the crisis is over.

I’ll finish with an extract from what has become one of my favourite daily reads—the “News from 1930” blog. On Thursday September 4th 1930, the Wall Street Journal reported that the Harvard Economic Society said there is “every prospect that the [business] recovery … will not long be delayed.”