The Daily Reckoning
Tuesday, 24 February 2004
The Daily Reckoning PRESENTS: Sir Alan applauds himself for
his success in preventing all but "an exceptionally mild
recession." But what exactly was "exceptionally mild" about
the recession - and is it a good thing? The good doctor has
his doubts.
VINDICATION FOR THE FED?
by Kurt Richebächer
Manifestly, there is general overwhelming optimism about
the U.S. economy. Positive arguments abound:
Thirteen rate cuts and the lowest interest rates in
decades; runaway money and credit creation; rampant fiscal
stimulus; the long and strong rally in the stock market;
persistent, massive wealth creation through rising house
and stock prices; an impending, powerful boost to output
from a widespread need to replenish run-down inventories;
reported strong profit gains promising an additional strong
boost to business investment, returning job growth; surging
commodity prices; and the strong stimulus to exports from
the slide in the dollar.
To be sure, a more impressive list of growth-boosting
influences is hard to imagine. More and more economic news-
beating expectations seem to have carried away many people.
Late in 2003, there was even widespread talk that strong
economic growth in the New Year would soon force the Fed to
start pre-empting inflation by tightening monetary policy.
It did not carry us away. Much of what we read and hear
reminds us of a book by Paul Krugman, published in 1990:
"The Age of Diminished Expectations." The main subject of
the book was the observation that "relative to what
everybody had expected twenty years ago, our economy has
done terribly." Krugman expresses his amazement "how
readily Americans have scaled down their expectations in
line with their performance, to such an extent that from a
political point of view our economic management appears to
be a huge success."
It seems to us that in particular, there is a general
perception that the anti-recession policies pursued by the
government and the Federal Reserve during the last few
years have been a great success, considering above all the
rapid sequence of severe shocks imparted to the economy
through the bursting of the stock market bubble, Sept. 11,
corporate scandals and the Iraq war.
Yet, according to this mantra, America experienced its
mildest ever recession. For many people, even outside the
United States, all this is just further proof of the U.S.
economy's wonderful flexibility and resilience.
In a recent speech to the American Economic Association in
San Diego, Fed Chairman Alan Greenspan applauded himself
once more for his successful policy with the following
words:
"There appears to be enough evidence, at least tentatively,
to conclude that our strategy of addressing the bubble's
consequences rather than the bubble itself has been
successful. Despite the stock market plunge, terrorist
attacks, corporate scandals, and wars in Afghanistan and
Iraq, we experienced an exceptionally mild recession - even
milder than that of a decade earlier."
He offered mainly two explanations - "notably improved
structural flexibility" and "highly aggressive monetary
ease."
We are tempted to say that we disagree with every single
word.
In the first place, we reject the general perception of
America's "exceptionally mild recession." Measured by real
GDP growth, that certainly appears true. But that is a very
arbitrary measure. The officially declared end of the
recession in November 2001 was by no means the end of the
bubble's painful aftermath.
That painful aftermath has continued for more than two
years, and not only in terms of protracted, sluggish GDP
growth, but above all in America's worst by far postwar
performance in employment and associated growth in wage and
salary income.
Consider: While real GDP surged in the third quarter at an
annual rate of 8.2%, wage and salary income adjusted for
inflation edged up at an annual rate of 0.8%. Citing Paul
Krugman: "In the six months that ended in November 2003,
income from wages and salaries rose only 0.65% after
inflation." For most workers real wages are flat or falling
even as the economy expands. For America's employees and
workers, numbering almost 150 million people, there has been
no recovery.
In light of these facts, all talk of America's mildest
recession in the whole postwar period is outright absurd.
It plainly serves to delude people. GDP numbers are an
abstract statistical aggregate. What truly counts for
people is what happens to their employment and their
income. By these two measures, the U.S. economy is
experiencing its longest and deepest recession since the
Great Depression of the 1930s.
For the bullish consensus, this tremendous, unprecedented
discrepancy between real GDP and employment growth in the
United States finds its ready and also most convenient
explanation in the simultaneously reported record-high,
unprecedented productivity growth, accruing from
corporations that are becoming marvelously efficient
through cutting labor costs.
We do not buy this explanation. It does not make any sense
to us. Investigating the relevant statistics, the first
thing to note is that the U.S. economy's growth pattern
since the early 1980s has become increasingly geared toward
consumption. Its share of GDP during these years has
steadily risen from barely 63% to recently 70%. For most
other industrialized countries this share is between 50-60%
of their GDP. Since end-2000, the U.S. recession's start,
consumer spending has accounted for 101.6% of real GDP
growth.
To us, an economy in which consumption has been taking a
steeply rising share of GDP for years is in essence an
economy ravaging its savings and investments, both being
normally the key source of productivity growth.
In consideration of these and other facts, we feel flatly
unable to buy America's trumpeted productivity miracle.
There is one obvious statistical source: artificially low
inflation rates.
We can make a simple test by comparing both real and
nominal GDP growth between the United States and the
eurozone over the period from end-2000 to the third quarter
of 2003. Measured by real GDP, the U.S. economy grew
overall by 6.9%, compared with 4.5% for the eurozone. But
measuring by nominal GDP growth, the difference contracts
sharply - a U.S. growth rate of 13.1% over the whole period
compares with 12.2% for the eurozone.
As we have repeatedly pointed out, the U.S. economy's
superior growth performance during the past few years,
measured after inflation, had its source largely, though
not solely, in the application of lower inflation rates.
For the United States, the price deflator for GDP in the
third quarter of 2003 since end-2000 had risen a mere 5.8%,
as against a reported 7.5% for the eurozone.
Considering the U.S. economy's parabolic credit excesses,
the relationship between inflation rates should be the
opposite. But pressured by politicians and in particular by
Mr. Greenspan to produce the lowest possible inflation
rates, America's government statisticians have worked hard
to comply, in particular by counting quality improvements
as price reductions. Understating inflation rates, in turn,
overstates real GDP. A more accurate GDP deflator would
lower real GDP growth to a rate that would certainly
correlate better to the poor employment performance.
In our view, the prevailing perception that the U.S.
economy experienced but an "exceptionally mild" recession -
and now continues to perform exceedingly better than the
eurozone economy - needs drastic revision.
Regards,
Kurt Richebächer,
for The Daily Reckoning
P.S. This particularly applies to the job market. For
decades, all through the postwar period, job creation has
been the U.S. economy's outstanding superior feature among
the industrialized nations. But that has radically changed.
Since 2000, America is by far the worst performer in this
respect. Following past postwar recessions, payroll
employment was on average up 4% after two years. This time,
it is down almost 1%. Something very ominous is going on.