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The economy can't recover until the economy recovers

GR2010072805955.gifThe economic recovery is sputtering, as Neil Irwin documents. Economists think growth between April and June was 2 to 2.5 percent, which is anemic at best. Job growth has been disappointing. Lately, I've been asking economists about this, and everyone says the same thing: The normal cycle of recovery has broken.

Here's what should've happened: Massive financial crisis hits. Credit markets shut down, causing businesses to lay off employees and begin hoarding cash. Government interventions stabilize the financial sector. Businesses continue to hoarding cash and cutting back in order to protect themselves against further disruptions. But as their holdings increase and the stock market rebounds and their profits get back to normal, they begin hiring again, as that's the only way to grow and deal with their demand.

But they haven't, not really. Some say it's because the European debt crisis took whatever confidence had returned and trashed it. Some say it's fear of new taxes and regulations. Some say recoveries are simply a bit uneven, and you have to wait out bad months to get to good months. Some say you can't underestimate the psychological impact of the economy's near-death experience, where storied banks collapsed and GM needed a bailout. Some say there's no demand for their product. But as things stand, there's a disconnect: It's not that businesses haven't recovered. They have. Profits are up. The stock market is up. Credit isn't perfect, but nor is it frozen. The problem is that they're not taking the next step and spending. The public sector stimulus hasn't given way to a private-sector recovery.

Eventually, they will take that step. Everyone agrees on that, as there's simply no other way for them to grow. The question is how do you get them to take that next step now, rather than months, or even years, from now? How do you make corporate American confident again?

The easiest way to do that would be for the economy to clearly recover, for growth to be strong and unemployment to be falling and the outlook to be rosy. A strong economy, after all, can withstand small shocks, and thus people wouldn't need to be so afraid of, say, Greece's budget. But the economy can't recover until the economy recovers, and to recover, it needs businesses to act like it's recovered. You see the problem.

By Ezra Klein  |  July 29, 2010; 3:14 PM ET
Categories:  Economy  
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Next: What would Republicans do for the economy? An interview with Rep. Paul Ryan.


Here are three ideas:

1. Pass a tax bill now that extends the Bush tax cuts permanently for individuals with incomes less than $250,000. Compromise with Republicans and Blue Dogs by including a two-year extension on some tax cuts for individuals making more than $250,000. Sell it to the Republicans by telling them that it gives them an election year 2012 issue.

2. Package the tax bill with aid to states to prevent massive layoffs by state governments.

2. Do everything possible to expedite use of stimulus funds which have not yet been spent. This may require legislation to lighten the regulatory load for some specific projects.

Posted by: QuiteAlarmed | July 29, 2010 3:40 PM | Report abuse

But the GOP keeps telling us that the economy hasn't recovered because the American people are lazy...

Posted by: nisleib | July 29, 2010 3:54 PM | Report abuse

I'd say it's because companies realize the gig is up and they're trying to enjoy the last year of Bush's tax cuts before they do anything ... and if they're lucky, they might be able to talk the American people into voting Democrats out of power.

Posted by: benintn | July 29, 2010 4:10 PM | Report abuse

Due to the lack of teaching critical thinking in our schools, people will believe almost anything.

People keep babbling about Obama inheriting a huge deficit from Bush. Amazingly enough,...... a lot of people swallow this nonsense. So a short civics lesson.

Budgets do not come from the White House. They come from Congress, and the party that controlled Congress since January 2007 is the Democratic Party.

They controlled the budget process for FY 2008 and FY 2009, as well as FY 2010 and FY 2011. In that first year, they had to contend with George Bush, which caused them to compromise on spending, when Bush somewhat belatedly got tough on spending increases.

For FY 2009 though, Nancy Pelosi and Harry Reid bypassed George Bush entirely, passing continuing resolutions to keep government running until Barack Obama could take office. At that time, they passed a massive omnibus spending bill to complete the FY 2009 budgets.

And where was Barack Obama during this time? He was a member of that very Congress that passed all of these massive spending bills, and he signed the omnibus bill as President to complete FY 2009. Let's remember what the deficits looked like during that period:

If the Democrats inherited any deficit, it was the FY 2007 deficit, the last of the Republican budgets. That deficit was the lowest in five years, and the fourth straight decline in deficit spending. After that, Democrats in Congress took control of spending, and that includes Barack Obama, who voted for the budgets. If Obama inherited anything, he inherited it from himself.

In a nutshell, what Obama is saying is "I inherited a deficit that I voted for and then I voted to expand that deficit four-fold since January 20th."

Posted by: flyer57 | July 29, 2010 4:16 PM | Report abuse

I'm going to repost this comment from an earlier thread because I find these talks about tax cuts a tad offbase and because I think Benintn has the right of it when he says, "I'd say it's because companies realize the gig is up and they're trying to enjoy the last year of Bush's tax cuts before they do anything."

They say letting the Bush tax cuts expire will hurt employment, but I'm not so sure. If we increase taxes on those making more than $250,000 (that is profit) we may actually encourage some companies to hire MORE people.

Why? Because that $250,000 is profit, not revenue. If your goal is to pay as little tax as possible then you do that by lowering your taxable income. All business owners like to keep revenue as high as possible, but we also love to time our deductions for maximum benefit. For example asset purchases are often timed with an eye toward tax reduction. If I expect to have a stellar year next year I may try to push as many expenses as possible from this year to next year.

If I know that my top tax rate is going from 35 to 39 percent next year, I may hold off on hiring that new employee I need so desperately until next year because the reduction in taxes I'll receive (due to lowering my taxable income by hiring another employee) next year will be higher than it would be this year.

Look at what happened when Clinton raised taxes to the level that they will revert to when the tax cuts sunset. Then compare it to what happened when Bush put the tax cuts into place. And for a laugh review the language Bush and co used to sell us on these tax cuts.

Posted by: nisleib | July 29, 2010 4:16 PM | Report abuse

Great summary of how economists think Ezra, which is useful in showing how out of touch economists are with how things work in the world. This is not a normal recovery because this was not a normal recession. Housing prices sank for the first time in the post-war period. If you look at fundamentals like mortgage/rent ratios, they should still fall further, but ongoing massive intervention is propping them up. The real estate/construction boom was propping up every other part of our hollowed out economy, and now that the boom is done, there is nothing that can prop up consumers spending habits which is 2/3s of the economy. The consumer is done. The baby boomers are retiring. Oil prices are high for a recession and the increased energy demand of a recovery would raise oil prices to the point where the recovery would be killed in the crib.

No, this is not a normal recession. Our biggest problem is that our leaders listen to economists whose "models" won't allow them to understand why.

Posted by: nathanlindquist | July 29, 2010 4:20 PM | Report abuse

"How do you make corporate American confident again?"

We all know the answer, but no one has permission to say it:

Cut their taxes some more, and get that goddamn n*gg*r out of the White House.

Posted by: davis_x_machina | July 29, 2010 4:22 PM | Report abuse

It's a global economy, the growth isn't happening here- we've managed to price our workers out of the market. It's really hard to get job growth when we have very a comparative disadvantage in labor.

2-2.5% isn't a terrible rate of growth. If you look at the old GDP numbers, a lot of that was just people trading around real estate assets and financial products, not "real" production. It's a mistake to think we have to aim to return to the inflated rates of the past.

Posted by: staticvars | July 29, 2010 4:23 PM | Report abuse

Among the problems here is that at least some business profits are recovering on lowered turnover. If you're making a bigger profit on lower sales, that means you've cut the hell out of your expenses. Unfortunately, what's expense to a business is income to the people who work for it or sell to it.

So the "recovery" thing actually means that owners are doing better, and everyone else, not so much.

Posted by: paul314 | July 29, 2010 4:27 PM | Report abuse

"How do you make corporate American confident again? "

You alluded to the problem without realizing it. The problem isn't lack of corporate confidence - corporations are plenty confident in their ability to make money as they should be, the problem is their ability to make money, as facilitated by government largess, does not require them to hire in any meaningful way.

To put it another way: unprecedented bailouts sans strings beget an unprecedented recovery sans hiring.

Posted by: slantedview | July 29, 2010 4:27 PM | Report abuse

flyer57 - So the two huge tax cuts for the Paris Hiltons of America are the Democrats fault? How about the Medicare Part D that passed without a funding mechanism? Of what about those two wars, the GOP would have allowed the Dems to end them?

And budgets may start in Congress, but for all presidents that don't have an R next to their names the buck has to stop at the White House.

Posted by: nisleib | July 29, 2010 4:28 PM | Report abuse

@nathanlindquist has it exactly right. There is a significant amount of correction that needs to take place concerning all values in all segments of the economy. It will take years to sort all of this out. Some argue for proping up these incorrect values with government policies and there can be some good to that.

But in the end, this economy is going to be very bad for a few years. Nothing is going to change that.

Posted by: lancediverson | July 29, 2010 4:43 PM | Report abuse

I'd add that the consumer (not large business and interbank) credit markets are, essentially, frozen (or at least frosty).

Posted by: rmgregory | July 29, 2010 4:46 PM | Report abuse

An $8 trillion dollar real estate asset bubble upon which most people had relied heavily for income support collapsed. What that means is that lots of people don't have money to spend, killing demand (most estimates are for a $2 trillion annual hole in demand). We filled that hole inadequately with stimulus that was far smaller, and now Ezra wonders why things are so slow now. Really? Come on.

Posted by: redscott | July 29, 2010 5:04 PM | Report abuse

"Lately, I've been asking economists about this, and everyone says the same thing: The normal cycle of recovery has broken."

This wasn't your typical bust. Before the crisis hit we had an insane credit party. The end result of an insane credit party is long and painful hangovers.

Keynesian and monetary stimulus might - like a morning drink - relieve some of the pain, but it's not as if you'll feel great and it's not as if the hangover is avoided.

A healthy economy has stable patterns of specialization and trade. The credit bubble created unsustainable patterns of specialization and trade. Price signals directed far too many people into construction, finance, real estate, etc. These unsustainable patterns broke down in 2007/2008. Other economic activity, such as auto sales, are dependent on these unsustainable patterns and were hit hard during the downturn as well.

" they begin hiring again, as that's the only way to grow and deal with their demand. But they haven't"

Fiscal stimulus doesn't create sustainable patterns of production and trade. At best, the government can try to employ unemployed resources, but those resources become unemployed once the stimulus is over. You can pave and repave and repave roads to give work to construction workers, but eventually it all ends. If the road work doesn't need to be done, all you're left with is a pile of debt, and at the end of the day a sustainable pattern of specialization and trade didn't develop.

Look at it from a business perspective. Let's assume that a business isn't worrying about regulation/legislation and is only focused on demand. The $862 billion stimulus, per the administration, has just had its maximum impact on the level of GDP. From here on out, ARRA's effect will be a drag on growth.

Take the high estimate of the effect of ARRA on Real GDP (table 3). It shrinks from 3.4% in 2010 to 1.2% in 2011. If you think the private sector real growth trend is about 2%, this withdrawal of stimulus will have 2011 GDP shrinking by 0.2%. This all assumes that stimulus works, that regulation uncertainty is a non-issue and that the stimulus had the highest estimated impact. Best case scenario.

Why would business managers hire into that?

So maybe the answer is another stimulus package. But that one will eventually end. Eventually, the spending must stop and all you'll have to show for it is, like Japan, a massive pile of public debt.

To the extent that you want to help people who are down on their luck, that's fine. To the extent you want to take advantage of low interest rates to make needed investments which were going to be made anyway, that's fine too. But don't count on spending to produce a sustainable recovery.

Posted by: justin84 | July 29, 2010 5:40 PM | Report abuse

"But the economy can't recover until the economy recovers, and to recover, it needs businesses to act like it's recovered. You see the problem."

Notice that words like weak, fragile, sputtering are associated with the economy and the recovery? Recovery isn't guaranteed to happened. One unexpected event could derail it. The uncertainty is a huge factor which is keeping businesses from expanding, re-investing in capital and hiring.

Policymakers can remove the controllable uncertainties such as being decisive on making the expiring tax cuts permanent for those under $250k, 'fixing' the estate tax, filling in some of the gaps in the credit markets by strengthening SBA programs. Get the Commerce head to do some symbolic rainmaking and drumming up sales for businesses in the U.S. which are exporting goods and services.

To the poster who said the U.S. should be satisfied with 2%-2.5% GDP growth, think about the current situation. The U.S. has 10 million+ unemployed and discouraged job seekers. That represents idle human capital. That rate of GDP growth will sideline those assets for most of this decade. This will hurt the new entrants to the workforce and minorities the hardest. Nothing more life scarring than getting out of school and being thrown into a job market with limited opportunities, especially being burdened with huge amounts of college loan debt right out of the starting gate. There will have to be a jobs bill (like a CETA in the '70s or call it WPA-like works program as in the Blinder interview) to put millions - not just a few hundred K - of long-term unemployed back to work.

Posted by: tuber | July 29, 2010 6:19 PM | Report abuse

Benintn wins the thread: Corporate America wants to elect as many Republicans as possible before getting back to business.

Justin84: "Fiscal stimulus doesn't create sustainable patterns of production and trade. At best, the government can try to employ unemployed resources, but those resources become unemployed once the stimulus is over."

No, generally this is incorrect. The story varies as to whether the stimulus is deficit-spending or a deficit-taxcut. But basically the stimulus introduces more demand for goods and services, and that works as a small demand-multiplier to help nudge private business out of its slump. When the stimulus ends, growth increases tax revenue, and the deficit caused by the stimulus should paid-off. That repaid deficit doesn't negate the previous growth, unless the people who redeemed the Treasuries put their money back into the non-productive investments that helped cause the slump in the first place.

Posted by: Lee_A_Arnold | July 29, 2010 6:43 PM | Report abuse

"No, generally this is incorrect. The story varies as to whether the stimulus is deficit-spending or a deficit-taxcut. But basically the stimulus introduces more demand for goods and services, and that works as a small demand-multiplier to help nudge private business out of its slump."

Lee, how come the multiplier doesn't hurt the economy as the stimulus is withdrawn? If I introduce $400 billion into the economy and create $600 billion of economic activity, how come the withdrawal of that $400 billion doesn't sink economic activity by $600 billion? That sounds like too much of a free lunch for me to believe it.

Also, are there any historical examples of pump priming actually succeeding?

All I ever hear are stories about how stimulus was cut off too early, such as Japan 1998 or USA 1937 (after four years of the New Deal).

World War II doesn't seem to fit either. The surge of government spending (G) was associated with declining private spending (C+I) and vice versa.

From 1941 to 1944, government spending rose 294.5% and private spending fell 8.7%. When government spending fell 70% from 1944 to 1946, private spending soared by 36.3%.

For comparison, private spending fell 6.1% from 2007 to 2009, and government spending rose 5.0%.

Posted by: justin84 | July 29, 2010 7:21 PM | Report abuse

Justin84: "how come the multiplier doesn't hurt the economy as the stimulus is withdrawn? If I introduce $400 billion into the economy and create $600 billion of economic activity, how come the withdrawal of that $400 billion doesn't sink economic activity by $600 billion?"

It may reduce it: but if the economy can be stimulated enough so that more goods and services are being produced and consumed in the other parts of the economy, this is economic growth that can surpass the withdrawal of the stimulus. New jobs are offered for the workers who were making roads, etc... We get to what happens due to growth, in any case. All stimulus does is to move the date of return to growth closer to the present, by borrowing the money from people who are holding it instead of investing it. Once it is returned to them, they can, once again, either hold it or invest it. The growth of the economy is matched by the growth of the money supply, in either case. A good overview of the theories is here (including a consideration of the Austrian explanation):
"Is Macroeconomics Hard?"

Justin: "Also, are there any historical examples of pump priming actually succeeding?"
The list depends on your definition of success. The current stimulus may have prevented worse unemployment. Ronald Reagan is an easy example of someone who deficit-primed the pump, massively.

Posted by: Lee_A_Arnold | July 29, 2010 10:07 PM | Report abuse

--"and GM needed a bailout."--

It's right there, Klein.

GM *FAILED*. GM should not have been prevented from suffering the full consequence of that failure. Ford, Toyota, and the rest, would have capitalized handily on GM's failure, cannibalizing what they could, promulgating their relatively greater efficiencies (there are reasons Ford and Toyota didn't fail) across the markets. Instead, the entire automotive market sits there now with the rotten GM lump in its midst. Ford and Toyota can't extend their businesses, because what should have been gone is still there, "competing" against them with stolen money. And GM is still a failure. The Volt is a expensive joke.

Further, the ultimate failure of Keynesian spending, mal-investment, is playing out in spades in the GM spectacle. GM itself is the ultimate mal-investment, of course, but the government is also distorting markets in things like battery development, throwing its stolen loot around in ways prudent investors weighing risks with their own money might not. Yes, it's possible that the Korean battery maker that the government has put its hopes (and much of the citizenry's wealth) in will develop the ultimate battery, but it's very unlikely. World shaking inventions don't come into being by government fiat, no matter how much money is thrown at the endeavor. Meanwhile, the researcher with a bright idea working at one of GM's competitors, doesn't have the budget he needs to pursue his research because his company has to compete with the company the government has picked to exercise its political whims.

Posted by: msoja | July 29, 2010 11:24 PM | Report abuse

The recovery ALWAYS depends on the consumer spending aspect. When you allow an administration to steal 7 trillion dollars for themselves and their supporters while they offshore our jobs we consumers do not have the cash to bail out the republicans again. Perhaps after decades of republican criminal activities the consumer has finally chosen or been driven to a reality check. Given the screaming insanity thrown at Obama for spending a trillion or two to attempt to fill the gap for the cash Bush/Chaney pissed away it would seem the consumer has had enough and that they are giving the likes of a Palin or another bush administration consideration shows they have not learned their lesson yet and that they still follow the twisted truths of talk radio minions seems to bare out my opinion of the voter as just another moron deserving of his demise!

Posted by: anOPINIONATEDsob | July 30, 2010 6:21 AM | Report abuse


The reason Ford "weathered the downturn" is that they were run so incompetently that they ran out of money a full year before GM, before things really went south. Luckily for them, the financial markets hadn't yet frozen up, so they were able to borrow a $20B lump of cash that was perfectly timed to keep even the worst-run organization afloat when everything fell apart.

GM needed government help because they managed to make it deep into the recession without before needing to borrow, when all private financing options were dried up.

So yes, there is a reason Ford "didn't fail". Not one that supports your argument though.

Posted by: eggnogfool | July 30, 2010 8:53 AM | Report abuse

Strangely I actually agree with Justin84 to an extent.

If your economy is on an unsustainable growth trend, and hits a recession, then you can keep yourself on the unsustainable growth trend for a while with fiscal intervention, but by definition, it has to end, and the end will be a recession. That's all tautologic. If you think we were on a sustainable growth trend prior to the recession (perhaps you have a signed copy of "DOW 36,000" on your mantelplace), then we arrive at "agree to disagree."

Keynesian responses serve three key roles in this perspective: (1) For an economy on a sustainable growth trend that hits a recession, spending can maintain demand until the private sector takes over (2) For an economy on the previously described unsustainable growth trend, it can prevent the geometrically necessary recession from overcorrecting the economy (3) Reducing the negative effects ("suffering") of downturns on the population. I see the stimulus as having had effects (2) and (3).

As to the suggestion that "we need more than 2-2.5% GDP growth to reduce unemployment", no we don't. We need some combination of (1) High GDP growth (2) A fall in the labor force participation rate (3) A fall in incomes. We know that (2) will occur based on the simple demographics, the % of the working age population above retirement age will rise rapidly over the next few years. (3) is likely as well. (1) won't happen barring another bubble or competent governance, the former hopefully made very unlikely by the financial market reform bill and the latter having always been laughably implausible.

Posted by: eggnogfool | July 30, 2010 9:16 AM | Report abuse

The economy won't recover until the economy recovers?

Washington Post considers this the logic of their policy wonk? My 12 year daughter can give a more insightful analysis of the economy than this. Stupid is as stupid does!

Posted by: Cornell1984 | July 30, 2010 3:46 PM | Report abuse

"The question is how do you get them to take that next step now, rather than months, or even years, from now? How do you make corporate American confident again? " - the corrupt liberal/progressive anti-conservative anti-Republican ERZA KLEIN "founder of Journolist" a collecton of left-wingers who coordinated their attacks and stories against Republicans and Conservatives.... to answer your question on, how

You do it by firing purging the Democrat Party from power........

And you do it by purging and cleaning our corrupt liberal/progressive MSM wolfpack press....

You certainly don't do it by saying fascist-like statements when Gibbs said ".....we are going to keep our boots on the throat of BP...."

Is everyone clear?

Posted by: allenridge | July 30, 2010 3:59 PM | Report abuse

What would allow the economy to recover is for the genius in the White House to reinstate the Bush tax cuts for small business owners and stop threatening to regulate them to death. Obummer is his own worst enemy in attemptng to revive the economy.

Posted by: DavidKeene1 | July 30, 2010 4:02 PM | Report abuse

Redscott has it right. This is simply a de-leveraging by business and consumers that is going to take a while to sort out--but ultimately will sort out by itself. The push for "stimulus," health care "reform" and Wall Street "reform" are just smoke/mirrors for an Administration and a Congress that are looking for excuses to redistribute other people's money to their supporters and to extort money from business through increased regulation.

Posted by: HT12 | July 30, 2010 4:03 PM | Report abuse

The business community finds Congress and the President as credible as leaders as the reading public finds Ezra Klein as an informed and insightful commentator. No credibility, no trust, no confidence in anything any of you have to say.

Posted by: saxon-american | July 30, 2010 4:06 PM | Report abuse

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