Monday, January 5, 2009

How Bad is the Economy?

The Great Depression from F.D. Roosevelt archive

The credit crisis and recession has often proved to be much worse than expected. Just when you think things have reached rock bottom, along comes some more bad news - another retailer going bankrupt, more job losses, - new record low levels of mortgage approvals, recession deeper than previously thought e.t.c.

So the problem with writing a post like this is that it could soon look outdated and rather naive. Nevertheless, given the current state of the economy, how does it compare to previous recessions and the Great Depression?

In the great depression, things were really bad; in fact it is hard to imagine how bad things really were.
  • Unemployment reached 20% in the UK and US in some areas it was even higher. To put that into context, it would mean an unemployment rate of 5-6 million today.
  • There was widespread destitution with little support for the unemployed.
  • It create large migrations of people, as the unemployed went in search of work.
The depression lasted not one year, but, a decade. Actually, the economy wasn't contracting all the time, in fact between 1933 and 36, the economy was growing, but efforts to balance the budget pushed the US economy back into recession in 1937 and 1938. However, even when the economy was growing, high unemployment persisted. The recession was so deep, that factories closed permanently. There was a fall in Aggregate supply / productive capacity and not just a fall in aggregate demand.

There was little support for the unemployment. Benefits were very low and begrudgingly given. In the UK, means tested benefits meant someone would come round to see what you were eating. (allegedly if you were still eating meat on Wednesday you were too well off to receive benefits.

By comparison, the current recession doesn't compare. However, the extent of the decline in output, suggests that this recession will be deeper than any since the war. Unemployment is rising rapidly, and it will continue rising even when the economy recovers. It could take many months before unemployment stops rising.

A key issue is the extent of deflation. If deflation sets in (Like in the great depression and Japan in the 1990s) it will invariably exacerbate the recession and lengthen it considerably. If deflation is avoided the recession may hopefully last for just 12 months.

Government finances have deteriorated very sharply. But, in the UK, it has not reached a critical stage yet. I would be more concerned about the US economy. National debt is increasing rapidly and will deteriorate even more this year. Rising national debt and quantitative easing could be a bad mix.
The key issue is whether we see recovery by the end of 2009 - it will certainly be greeted with great relief.


1 comment:

William Dees said...

As an owner of a construction company, we were preparing at the beginning of 2008. We generally see a large drop off in ticket orders before these things really hit. Orders have not picked up. We have at least six more months to go. Buckle in guys. Its probably going to get worse. But eventually it will turn around.