Arnold Kling  

Why Such a Deep Recession?

Ignorance, Incentives, and Mea... David Brooks on Haiti...

Several economists, not just Scott Sumner, have argued that the recession is too deep and too broad to be explained by the Recalculation Story. I think that there are many weaknesses in the Recalculation Story. It is far from a well established scientific thesis.

However, I would suggest that explaining the depth of the recession is a challenge for just about any macroeconomist. There is no well-established theory that can explain how we got to 10 percent unemployment.

If you are a Yale Keynesian, you would have been able to tell a good story when the S&P 500 stock index was down near 800. But it has gone back up over 1000, which means that Tobin's q is doing ok, which means that investment should be doing ok. It is not.

If you are what Greg Mankiw calls a macroeconomic "engineer," meaning that you believe in macroeconometric models, then you have to explain why unemployment today is higher with the stimulus that what the models predicted without the stimulus. The standard macroeconometric models do not explain the depth of the recession.

Next, we have the theory that even a little deflation is a horrible thing. Mark Thoma points to an essay by Andy Harless, which takes that argument to its logical conclusion, namely, that the Fed was too tight under Alan Greenspan.

The Fed eventually popped the previous bubble - the tech bubble - not because it was a bubble but because the economy was nearing the overheating stage, and the inflation rate risked eventually rising back to levels of a decade earlier. In my opinion, the Fed was wrong to pop that bubble. The Fed should have let the economy overheat, for a while, and let the inflation rate rise.

...Low inflation is what got us into this mess.

In the end, Scott Sumner is saying the same thing, although he thinks that as recently as the fall of 2008 the Fed could have generated enough expectations of inflation to save the day.

I want to offer a bit of pushback against this evils-of-deflation thesis. How could an otherwise robust, adaptive economy go completely haywire because prices stay flat, or decline for a bit? Yes, I know the Keynesian story--the liquidity trap pulls savings out of productive assets and under the mattress. Did we observe that? No--at least not for long. Again, look at the recovery in the S&P 500.

The other part of the Keynesian story is sticky wages. But have we observed a sufficient rise in real wage rates to explain the horrendous job market? I am waiting for someone to spell out that story.

The Keynesian story at least has some microfoundations. Scott Sumner's Y = expected MV/P story is just hand-waving. Does he want to default to the sticky-wage story?

Some pundits say "credit crunch," but it appears to me that since the beginning of this year the signs point to lower credit demand rather than lack of credit supply--unless you want to blame the banks for their reduced willingness to make stupid, risky loans. In any case, "credit crunch" is not in the macroeconometric models or in the textbooks. If the main story of this recession is going to be "credit crunch," then it is going to require at least as much theoretical and empirical back-filling as Recalculation.

I think where we are is this: every economist can tell a story of a sectoral recession in housing. No economist, from any school of macroeconomics, has a really convincing story of how that recession spread so widely.

One characteristic of this recession is that employment fell more dramatically than output. I think this requires the Garett Jones explanation, which is that the typical worker today is building organizational capital, not making widgets. This in turn begs the question of why so many organizations decided to cut back on building organizational capital at once.

One story you could tell is one of self-fulfilling expectations. Every executive says, "We are in for bad times, I need to cut costs in order to survive." They all behave that way, and you get a deep recession. I can offer a lot of anecdotal evidence in support of this story, and it may be right. But it implies a sort of psychological fragility to the economy that I find a bit hard to credit. It's bad enough to have to believe that our economic decision-makers can't figure out how to handle a little bit of deflation. It's even worse to believe that they are afraid of their own shadow.

If I had a convincing explanation for the depth of this recession, I would shout it from the rooftops. Instead, let me toss out a few ideas, in no particular order of importance or plausibility.

1. The huge transfer of wealth to failed banks sucked a lot of energy out of the economy. In other words, the bank bailouts that are credited with keeping things from getting worse are in fact what made things worse.

2. The bloated housing and financial sectors created broader distortions in the economy. If the value of New York City's exports of financial services falls, then that has all sorts of effects. The city's nontraded goods and services sector is adversely affected. Its imports from other parts of the U.S. and the rest of the world fall. And so on. All sorts of trading patterns need to change, and that requires considerable recalculation.

3. Part of the adjustment process in the economy involves physical relocation. The nature of the collapse in the housing market means that relocation costs go up, which reduces the economy's capacity to adjust.

4. Since 2000, the economy has been in an innovation slump. The human genome project yielded less immediate benefits than expected. Progress in computer and communications technology has become evolutionary, not revolutionary. Nanotechnology is far too immature to create major new business opportunities.

Only when an innovation reaches the point where its economic impact can be felt, as happened with personal computers and the Internet in the 1990's, will lots of new businesses be created. Remember that in 1987 Robert Solow quipped that "we see computers everywhere but in the productivity statistics." That soon changed. Today, one could argue that we see genome decoding and nanotech research everywhere but in the productivity statistics.

The recent innovation slump was disguised by the housing boom. That is, if you take away the housing boom, you would have seen a steady increase in unemployment, due to the lack of new business formation. Instead, the housing boom caused unemployment to fall, and the crash caused unemployment to shoot up.

5. We ran into a "limits-to-growth" problem with energy. Tightness in the oil market means that we have to convert to less oil-intensive patterns of consumption growth and productions. Just as in the 1970's, this creates big adjustment problems.

Of course, it is possible to have several of these problems at once.

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Elvin writes:

My simple guess is that leverage had a huge part. Both households, through their houses, and the financial sector--banks, GSEs, hedge funds, etc.--took on a lot of leverage. I think we have incomplete models of how leverage and "credit accelerators/decelerators" work.

Non-financial businesses were able to compete when credit was cheap, but with slightly tighter credit and a drop in demand, these marginal producers are wiped. All it takes in a highly leverage society is a small drop in assets to blow the business/household up.

Robert Johnson writes:

"One story you could tell is one of self-fulfilling expectations. Every executive says, "We are in for bad times, I need to cut costs in order to survive." They all behave that way, and you get a deep recession."

I'm no economists, but this is the theory that resonates best with my intuition. From my position in industry I certainly saw companies who were probably not in any real immediate danger panicking about the credit crunch in the fall of '08. The credit crunch focused attention on cash control, which inevitably translated very rapidly into layoffs (especially of people "building organizational capital" because they are easy to cut without hurting short term productive capacity). I personally have watched a few companies congratulate themselves on their quickly implemented cash saving policies (still in place in most cases), even as they put themselves in a position where they eventually dropped behind order fulfillment.

I think the economy is subject to a certain measure of mass hysteria. When an OEM panics over tight credit and reduces production as a means of cash control, that ripples through the entire supply chain.

No data to support it, but this is where I'd start looking.

baconbacon writes:

If you want to figure out the causes of a major, economy wide slump it would seem prudent to first rigorously look at the (very) few portions of the economy that could potentially have such broad effects. The logical place to start is with interest rates as they have such a broad effect on the economy, and yet interest rates are widely ignored as economists rush to find evidence for their own pet theories. Why is this?

Robert Johnson writes:

Bacon, you're kidding right? No one's talking about interest rates?

Anyway, I think this graph over at calculated risk is interesting and relevant to the discussion.

David writes:

Businesses are afraid of the new regulations and taxes they are facing and so don't want to hire. The big recalculation (now - not last year) is not out of housing and finance, but fear that the federal government is going to run too much of the economy.

Randy writes:

"self-fulfilling expectations"

Or maybe excuse theory. Rumours of recession give cover to employers who need a good reason to trim the fat. My employer dumped several people early, then turned right around and hired "better" people a couple of months later.

Norman writes:

I lean toward a version of the self-fulfilling expectations story. I don't think this requires that expectations be capricious, though. Imagine an economy in which individuals forecast future income levels and growth as a model average between a high-level, high-growth regime and a low-level, low-growth regime. Under most circumstances the probability of the latter is extremely remote, even given frequent small shocks to the economy.

However, if a big shock comes along that affects highly leveraged industries, this could produce a sudden jump in the probability of shifting to the low regime. This causes a shift in consumer and investor behavior, which shifts us more strongly toward the low regime. If the original shock is big enough, the feedback could drive us toward the low equilibrium.

In this view, there was essentially one benefit to the bailouts: they calmed expectations enough that we are no longer in the feedback loop. However, it could still take time for the perceived probability of the low regime to fall back to previous levels, and thus for consumer and investor behavior to return to their previous patterns.

I essentially see this as a nested model of expectations, in which expectations are rational for any given regime, but expectations about which regime we are likely to be in are adaptive. Not that I have a formal model to put forward at this time. I think a lot of work in macroeconomics in the near future will need to focus on improving our models of expectation formation.

Joe Calhoun writes:

I think there are in fact two distinct phases to the recession. There was the recalculation portion that Arnold has been talking about for some time now and there is the phase that was caused by the very public panic of Bernanke, Paulson and Bush. As Cochrane put it in the New Yorker interview:

"The market crashed, to which I would say, we had the events last September in which the President gets on television and says the financial markets are near collapse. On what planet do markets not crash after that?"

It wasn't just all stop in the financial markets; it was all stop in the real economy too. Regime uncertainty to the extreme. And I think you can blame the lackluster recovery on the same thing. Who knows what a new employee will cost?

So, if Bush & Co. hadn't panicked in such a public fashion, would we have had a nasty recession that is less than what we've gotten instead? I think so. If the Obama administration wasn't intent on enacting the entire platform of the Democratic party in one year, would the recovery be better? I think so.

E. Barandiaran writes:

As I said in a comment to one of your posts on the relocation story, there is huge literature on trade policy reform that addresses the many problems related to the reallocation of resources that this reform entails. Many GE models have attempted to assess the final allocation but there is also a literature that analyzes the dynamics of the reallocation process.

I cannot review the research on the trade policy reform implemented in Chile in the late 1970s, but I want to emphasize that one key element in explaining the slow recovery from the deep recession of 1975 was the uncertainty about government policies in general (it took 4 years to recover).

I believe that as your country is on the road to become a Banana Republic, uncertainty about government policies will slow down the recovery. Please don't underestimate the impact of the ineptitude and corruption of the Obama administration on the economy. And please don't tell me that Larry Summers, C. Romer, Bernanke and other great economists are close to Obama; at best, they can prevent the worse ideas of politicians to become policy, but that's not enough to eliminate uncertainty.

Elvin writes:

Joe Calhoun:

So, the bankruptcy of Lehman, the bailout of AIG the recievership of FNMA and FHLMC, the panic in money market funds would not have caused a less nasty recession if Bush et. al. simply said "It's all OK. Don't worry, folks? We don't need to do anything?"

You're kidding me, right? A calm, collected response like Bernancke's "subprime is contained" would only have kept unemployment below 8%, right?

genghis writes:

raising the minimum wage can't help. growing government can't help.

Ryan Vann writes:

Possibility 1 makes a lot of sense to me, and is something I haven't considered, 2 also resonates with me.

Ted Craig writes:

Deflation? Yeah, if you ignore fuel prices, which rose steadily last decade. That had a major impact on disposable incomes. Instead of looking for signs of deflation, we should consider the idea we suffered from stagflation for the past 10 years.
We had a consumer driven economy. It's time to start looking at what was happening with them.

Joe Calhoun writes:


We should have never gotten in the business of bailing out private firms. Bear was a mistake. I think that bailing out Fannie and Freddie were probably necessary because of the implied government guarantee and the potential fallout from foreign holders (primarily Asian).

I do not believe Lehman was the trigger for the crash. There was too much lag between that event and the market crash. The Lehman CDSs settled fine and caused little disruption. I'm not saying that Bush and Paulson should have lied about the situation but what they did made the situation worse. The Fed still had options that had not been used and if you look at it objectively, it is the Fed's QE announcement that marked the bottom of the market. That's what should have been done in the fall instead of the asinine TARP mess that left the market wondering what the hell was going to happen for weeks on end.

Bush, Bernanke and Paulson panicked and we got an all stop in the market and the economy. How could it have been worse? It could have stopped more? I think that's a hard argument to make. We got the all stop anyway but their way we also got all the moral hazard and corruption that came with TARP. We also got banks reporting huge profits and bonuses from using public capital to trade their way to solvency. They aren't lending and no one wants to borrow anyway so that isn't the source of whatever recovery we are in. Again, I ask, how could it have been worse?

Politicians - and you and a lot of other people - have a very low opinion of the ability of markets to sort this stuff out without the wise men of DC getting involved. I think you vastly underestimate the resiliency of the system.

I don't have any idea what the unemployment rate would be if we had chosen different policy options. And neither does anyone else. But I do know that a lot of the issues we are dealing with now would be more clear. Too big to fail? Well, if some big ones had failed (and I would argue that WAMU was pretty damn big) we'd know more about the consequences wouldn't we? As a country we've just made an assumption - well actually bank lobbyists probably convinced the Treasury, the Fed and Congress - that there is a systemic risk to allowing a large interconnected bank to fail. Do we have any evidence of that or is it just another example of the precautionary principle in action? I suspect the latter along with some well greased politicians.

Jim writes:

I don't know how to say this in economics language:

1) Every organization tends to over build over time. The longer the bull, the more 'fluff' can be cut that does not immediately if ever, need to be added back.

2) You can run 'stupid' or 'lean' for longer than people think, meaning you don't have enough people to do it quite right, or generate any ideas.

Elvin writes:

Joe Calhoun:

I actually agree with you on a lot of points. I just think we were going to have 10% unemployment whether we had TARP or not. Without TARP another 10 major banks go under (only JP Morgan and Goldman survive) and the payment system creaks by as a quarter of a million people in New York lose jobs in a fortnight. So we get 10% unemployment in March and not October. We get to blame 10% unemployment on Obama, not Bush. Such is life.

The problem with TARP is that we entrenched current management and practices and we increased government intervention. A good clean sweep would have been better.

BTW, another aspect of the seizure in the system was securities lending. It's not talked about alot, but the disaster that hit pension plans, endowments, and some mutual funds was shocking at the time. Even liquid securities (treasuries) were illiquid because you had pay the sec lending losses from lending them before you could sell them. One of my analysts wrote the infamous phrase "illiquid cash" to describe the problems. Sec lending is another example of how leveraged the system was.

Personally, I do think that the system was near a siezure point and the payment system was getting close to falling apart. At the very least, lots of money market funds would have lost 5% of their value, so there would have been a terrible run on them. As they were liquidated at fire prices (assuming you could get someone to buy the commercial paper backing them--good luck on that one in a crisis), the demand for cash would soar. People would take more money out of banks and at worst, it was not inconceivable to me that you may not have been able to get money out of your ATM at some point and credit cards wouldn't have been accepted. So although I don't and didn't like TARP, I can't blame the politicians for doing something. Bush et. al. were right to panic: there was a real mess out there and it was all on their shoulders. In retrospect, I can think of better plans (I would have liked a "bank holiday" that after a stress test either shut down illiquid banks through a recivership process or converted a debt into equity), but something had to done. Two weeks of turmoil wasn't enough to develop a reasonable plan.

So TARP at the end of the day loses $130 billion. That's 1% of GDP that we'll tax to get back, so I don't think it was a bad investment. What I don't like is that we didn't wipe out management at the same time.

Greg writes:

Arnold you seem to be making the mistake of thinking that people who are trading stocks and bidding up prices at a certain time are in any way affecting job creation. I will say it seems like stocks losing value fast negatively affects employment but the converse certainly has not been shown to be true. Trading already existing stocks is not investment its more like casino activity. Some folks are profiting but no one is expanding production because of it.

Im not sure how you can have any pushback on the evils of deflation. When people are in debt any drop in income makes servicing that debt harder and increases defaults. Its quite simple.

The only people that welcome deflation are those that are OWED money. Lend 1000 dollars now, five years later you get that same 1000 dollars back but it buys 1100 dollars worth of stuff. What a deal!

Most of the problems you cite highlight the private sectors inability to adequately employ our workers. Without the innovations the private sector will not hire because its not profitable. This is why we need a Jobs Guarantee program as described by Randall Wray

Adam writes:

Hypothesis: the housing bust is a major source of the 10% rate. Since the late 1970s, housing construction was a sponge soaking low skill workers. The long-term misallocation of capital to home building built not just homes, but retail giants like Lowe's and Home Depot. The retail side of the housing boom also gave workers the illusion of a decent wage in return for low skills. A steadily growing segment of the workforce saw no need to upgrade their general skills--swinging a hammer or running checkout was enough.

With the bust, there's no equivalent employment. The hammers aren't needed and checkout lanes are getting automated. At the lowest skill and wage levels, low skilled legal workers who necessitate all the government tax payments by employers get outbid for work by illegals who only require the nominal wage. Generous unemployment benefits reduce incentives to look for work and accept a lower wage. With all the 'friction', the process of adjustment and recalculation is long, bitter, and high cost for everyone involved.

bakho writes:

Maybe the news has not yet reached the coasts, but the Midwest has experienced a giant slump in auto production. Auto production always tanks when there is an oil shock. We had such a price shock in 2008. Demand for autos fell to one half the maximum production.

Even though there are fewer auto workers, there are a lot of parts and materials suppliers that are adversely affected. How does the economy react when a major manufacturing sector downsizes by half? This downsizing has a multiplier effect that ripples through the economy. When workers are laid off, businesses that provide service will lay off or close. We see many empty storefronts. State revenues collapse and the state further adds to the downward spiral by freezing wages and hiring, canceling projects laying off teachers and other workers and cutting funding for state programs such as education.

In the Midwest, this recession doesn't look all that different that 1974. The added problem with recovery is that BigAuto has been selling cars that people cannot afford. To improve affordability, payments were stretched to 5 and even 7 years. That means that people spend several years with cars that are underwater, worth less in trade in than the remaining payments. Even people who want a new car must wait. Plus the risk in making consumer loans has skyrocketed because of the collapse of housing wealth that was used for collateral.

Your point about genome, computer, and nanotech not ready for prime time is well taken, but WHY? In part, we had a decade of government policies that were supporting special interests wedded to the status quo. Instead of moving forward to support an alternative energy industry and improve the ability to deliver electricity, we pursued a failed war for oil in Iraq. The failure of our energy policy caused the oil shock, but it also has stymied the alternative energy industry and put the US way behind other countries.

We pursued a telecom policy that allowed powerful special interests to collect rents for access to the point where US broadband penetration per capita has plummeted.

We pursued a tax policy that gave more of the economy to wealthy investors that had too few domestic investment opportunities and pursued foreign investments that moved jobs overseas and created bubbles.

In the last decade, there has been NO NET JOB creation. The failure of Bush labor policy was masked by the housing bubble created by Fed policy in response to the 2001 recession. In the past decade we have not had fiscal policy that was target at job creation and expanding the middle class economy. Instead, we had a decade of underfunding infrastructure and massive handouts to crony special interests. Trickle down just doesn't work. The wealthy have a higher savings rate than the poor. The poorest spend everything they make so the money eventually ends up in the hands of the wealthy. If there is no attempt to feed the bottom of the economy, then the bottom will wilt and velocity and demand will collapse as we see in this recession.

Rune Lagman writes:

Income inequality is the root cause of the unemployment. The top 1% has increased their share of income from 10% in 1980 to 23% in 2008. The middle-class tried to keep up by borrowing, but that eventually had to stop.

As a result of the unequal income distribution, we are now going throw an adjustment where consumption's share of the economy will shrink from 70% to somewhere between 60% and 65%. Not only do we have to adjust to lower incomes, we also have to reduce the debt taken on by the middle-class. There is no accident income inequality was at it's peak in 1928 and yet again in 2008.

In addition, we have to deal with the rising demands on the worlds natural resources by the emerging market countries as they grow relatively wealthier. I.e., relatively higher energy, food and mineral prices.

In order to reduce unemployment, we need to reduce income inequality through tax-policy that favor middle and lower class incomes. Thus restoring (at least some of) consumption's share of the economy. We also need tax-policy that promote energy-independence, the proceeds distributed to middle and lower incomes. At current time, both of these seem politically impossible.

Economists are not clueless, plenty of economists have been telling us for years, Robert Reich, Paul Krugman, Joseph Stiglitz, to name a few.

This is nothing new, it's classical Keynes. We know the cause of the unemployment, it's the refusal to face up to the facts (like the author of this article) that's preventing us from working our way out of the situation.

Michael John writes:

Mr. Kling,

When you write: "No economist, from any school of macroeconomics, has a really convincing story of how that recession spread so widely."

Do you also include Thomas Palley? I don't think he should be included. Here are two of his recent papers:

"America’s Exhausted Paradigm: Macroeconomic Causes of the Financial Crisis and Great Recession."

Most commentary has therefore focused on market failure in the housing and credit markets. But what if the house price bubble developed because the economy needed a bubble to ensure continued growth? In that case the real cause of the crisis would be the economy’s underlying macroeconomic structure. A focus on the housing and credit markets would miss that.

"The Limits of Minsky's Financial Instability Hypothesis as an Explanation of the Crisis"

In this paper the author argues that the interpretation of the financial crisis as a Minsky crisis is misleading, as the processes identified in Minsky's financial instability hypothesis, even when playing a critical role in the crisis, are part of a larger economic drama involving the neoliberal growth model. Interpretation of the financial crisis as a purely financial crisis--in the spirit of a pure Minsky crisis--and the attendant policy prescription of simply fixing the financial system may, in fact, worsen stagnation.

Milton Recht writes:

Did the Fed really pop the dotcom bubble?

If you look at real and nominal home prices and price to rent ratios, you see that housing started to move above trend about 1997-98. When the Fed burst the dotcom bubble in 2000, housing was already in the early part of a bubble, yet not one of these three home price indicators shows a decline when the dotcom bubble burst.

What tool does the Fed have that allows it to target the dotcom price bubble, but not the house price bubble? Could the two assets have such different price elasticities to some Fed action?

Comparing the two asset prices would seem to support that the Fed's actions did not directly burst the dotcom bubble.

Dotcom cooled because either the Fed affected a part of the economy that hurt the dotcom businesses more, or it was just a coincidental occurrence and not a cause and effect.

jamie writes:

"1. The huge transfer of wealth to failed banks sucked a lot of energy out of the economy. In other words, the bank bailouts that are credited with keeping things from getting worse are in fact what made things worse."

Perhaps. This is as non-disprovable as the counterargument, given that we can't replay it ith different variables and see what happens.

But what else can we say about it? It assumes, at least on the margin, a zero-sum argument - that the money that went to banks could have done something else. What would that have been? Assuming "we" let BofA tank, and instead dropped that money to "us" (more random dividend-style checks, a la Bush?), what would have happened?

For me, at least, I would have done what I did with that last one, which is close to shoving it under the mattress. It would have ended up in _a_ bank's database, anyway. Even if we assume that half the country isn't so spendthrift as I am, it doesn't seem like there would be that much more market lubrication that Helicopter-Ben's operation. If we assume that money is fungible (something I'm becoming a bit less sure about, oddly), the it should not matter where it comes from, and we can assume that banks would still not be lending right now.

I'm also unsure that the operation was really zero-sum.

Also, also, the sucking-the-oxygen argument either completely ignores the informational payload of the money bomb, or assumes that it had a negative impact on "the market" (something that liquidation specialists tell us is not a monolithic entity).

travis writes:

Two points to note:

1) You could be asking the same question about the Great Depression.

2) Australia came through the current crisis pretty much unscathed.

I think both points support Scott Sumner's thesis: it is the job of the Fed to keep NGDP expectations on tract and when that starts to go seriously wrong, very bad things happen to unemployment. We had a *contraction* in NGDP, which is almost unheard of in the modern era. It wouldn't surprise me if companies in general laid off 5% of their labor force because of that. 5% + 5% (usual unemployment) = 10%

Harry Styron writes:

The huge investment in construction of residential and non-residential structures, and the infrastructure to support them, did not result in productive assets, but excess capacity that has high private and public maintenance costs as well as other costs. In addition, a huge investment was made in creating the enterprises to construct and sell all this stuff, for which we're getting little return.

In short, the real estate bubble was a lousy investment which misallocated resources away from things that would result in more productivity.

Mr. E writes:

By the time any stimulus had been spent, we were within .5% of the maximum unemployment forecast by the models used to justify the stimulus.

But Mr. Kling, you question the stimuls and not the the model of the recession. Isn't this simply a basic logical error?

Shouldn't you be questioning the model of the maximum recession unemployment?

And then - investing in secondary market equities is not investing in productive assets:

" Yes, I know the Keynesian story--the liquidity trap pulls savings out of productive assets and under the mattress. Did we observe that? No--at least not for long. Again, look at the recovery in the S&P 500."

Secondary equity markets are claims against existing productive assets and not investing in new productive assets. This is a massively important distinction. So this post-Keynesian would like to point out that the argument that deflation pulls savings out of investing in productive assets is still very much operative.

Keynes talked a huge amount about this very problem. People are too concerned about liquidity.

Then, back to the real question - why is the recession so deep? Keynes answered this one too, right? When you have a combination of asset deflation, leverage, and a demand for liquidity on the part of savers, you have large unemployment. The entire "unemployment is caused by wages rigid to changes" is a faulty Samuelson intrepretation of Keynes and not real Keynesian thought.

Not understanding this is why you cannot understand why the recession is so bad. But I will lay it out in pretty simple math for you. Please note you don't have to use Time series analysis or regression - only addition and subtraction.

We've lost roughly $20T in real estate wealth due to asset depreciation over the last 2 years. Of course, not all of these losses must be realized or netted. Only about 10% of the losses need to be realized.

If we take 2.0T out of the economy and demand payment, we simulataneously create a huge demand for liquidity and deflation. Also, we can estimate how much unemployment we would get from taking this much out of the economy using Okun's law.

Okuns law using a multiplier of 2.25 and base unemployment of 5% means that total unemployment should equal about 5% + 20/2.25 = 13.33 at the bottom of the cycle.

However, we've spent about 500B and are going to spend another 300B. So this will add about 3.5% to employment, so we should be at about 9.7% unemployment. Current unemployment is 10%

Blurtman writes:

While not an economic variable, recall that Americans know that they had a liar and fool as a recent president, which is bad enough to affect morale.

Americans know that they invaded a country that posed no threat to it, directly killing thousands of people including innocent civilians, and unleashing a hell that resulted in many more horrendous deaths.

Americans have seen their brave although misled soldiers get blown up with relatively crude bombs in Iraq and Afghanistan. The sight of the limbless and brain injured saddens everyone.

Not to mention the unpuinshed fraud of Wall Street.

While I cannot offer differential equations to quantify the effect of demoralization on the economy, I believe it has a very strong efect.

cip writes:

Prof Kling,

This is the first financial panic you ever heard of?

Jacob writes:

Dr. Kling,

Great collections of possible contributors to the recession. I definitely see reason 4 as well as "recalculation," but I've noticed a slight variation to this theory. I believe the focus should be on the underlying productivity.

Consider the following:

Let's say a few years down the road, hundreds of millions of dollars will have been poured into Twitter. Twitter will yet to have made any profits. Meanwhile, the business had been sold many times at ever escalating amounts. Somebody has to be caught holding the bag. Somebody has to lose all the capital that was poured into this money pit. When that does occur it's not like something special happened to trigger its non-value and demise. It was never worth anything in the first place. The reckoning had to take place at some point, and the later it occurred, the worse it is for the economy because more resources and productivity were expended on a worthless enterprise. (Perhaps Twitter will do fine. This isn't a prediction. It's an example.)

I think we can broaden this example for a lot of sectors over the past five or six years. Dumb mistakes were made by businesses, and dumb mistakes were made by the government (and arguably the Fed). The realization (in the accounting) of those mistakes, or false productivity, had to occur at some point, but the economic destruction had already occurred.

Greg writes:

One thing I've consistently seen on this site from the people who are interviewed, Russ and Mr Kling is a sort of derisive attitude to Keynes. He's treated as some sort of communist who had SOME good insights but in total really had bad prescriptions.

In his day the world was on a fixed exchange rate currency regime but he still understood the monopoly power of currency issuers and the responsibility they had to use that power for the better of the economy as a whole. We are acting as if the bond traders are the currency issuers when they are in fact self serving capitalist investors, as they should be. Bond traders should NOT make the decisions about the amount of money spent in our economy the currency issuer should. In todays world the options to the currency issuer are greater and the responsibilities are the same, maintain as close to full employment as possible. Chronic unemployment is a terrible waste of human capital and leads to very difficult social problems that COST all of society a lot.

That we have a bunch of academics who want to sit around and argue why we have so deep a recession with so many unemployed is becoming quite tedious. Keynes knew that falling spending (from whatever cause, often from increased savings) will always lead to falling incomes (my spending is your income) which leads to more fall in spending......... a deflationary spiral. With high private debt thrown in you have bank failures (from defaults and lower demand for credit) and bankruptcies. It really IS that simple.

Get the people who want to work a fricken job. If the private market cant or wont do it, let the government step in and find something for them to do, there's plenty of stuff that needs to be done. Heck hire everyone who wants to and pay them to take down all the unused houses and shopping malls. Those who say that is just make work by the govt will have to answer for the "make work" by the private sector that put those OBVIOUSLY un-demanded buildings up in the first place. All the objections to these programs are purely ideological and NOT economic.

Get folks a paycheck, let them be consumers and start paying off some debt again so we can get back to having an economy.
And deficit (and bond traders) be damned. Cheney was right deficits dont matter.

joebhed writes:

The debt-money system is broken.

baconbacon writes:

"Bacon, you're kidding right? No one's talking about interest rates?"

Robert Johnson-

No, I'm not kidding. Many people have mentioned interest rates and dismissed them offhand. Some people have discussed interest rates in the context of the past 10 years but this analysis is woefully incomplete. Interest rates since the early 1980s have been on a steady downward trend, but there is no (that I have found- and I read close to a dozen economics blogs regularly as well as numerous links from those blogs) discussion of this larger trend. Considering every school of economics- Keynesian, Friedmanite, Austrian- believes that expectations are extremely important for individual actors this is a very bizarre piece of the puzzle to overlook. If you borrowed money over a 30 year term in 1982 how many times could you have refinanced at a noticeably lower rate so far? What is the longest period you could have gone without being able to refinance at a lower rate? These are basic questions with profound implications for the economy. I'll put it in this way

Many students of history notice the generational collapses. We get 20, 30, 50 or 70 years past the previous crisis and another one explodes on us. This is normally attributed to the previous, experienced, generation dying off and the young bucks taking over and making the same mistakes their (grand)fathers made. As a contrarian I ask "what if the opposite is true?". What if these generational "lapses" are really symbolic of how long it takes to learn the new rules of the game?

Thanatos Savehn writes:

I'd go with 4.

Robotics? Not ready for primetime - learning is far harder than the AI people ever imagined.

Biotech? Epigenetics and the sudden realization that we are superorganisms in part controlled by microbes we didn't even know existed means that, for now, riddles like cancer and aging seem hopelessly complex.

Then there's the political angle. The government favors jobs that can be done by people with an IQ from 95 - 105 because that's where most voters are found. Yet the best paying jobs demand more horsepower. What are we going to do with millions of people who are able to put the same nut on the same bolt on the same assembly line for 25 years but nothing more? Nobody dares say.

Still, the next big thing will create vast weath and it'll trickle down as always. Yachts have nuts and bolts too.

wjd123 writes:

Arnold, I don't suspect that you have heard of the Abbot and Costello theory of unemployment. Most economists haven't because it's economic heresy: comparative advantage doesn't work in today's market environment.

It is from the school that believes that it is time for a new economics. An economics whose presuppositions are in sync with a changing environment. An economics whose every pronouncement doesn't appear to be some kind of fallacy of composition. An economics whose endeavor seem more designed to solve today's problems than to to save the status quo.

To begin with historical analogies don't get us anywhere. In the 1930s, outsourcing of people and of whole industries wasn't a problem. Macro presuppositions that we can export our way out of a recession as the dollar falls or Keynesian beliefs that we can spend our way out have to be examined in light of a changing environment.

It's not just a matter that China is beggaring every nation with its policies or fiscal stimulus is a very leaky sieve in today's globalism but the dividing up of jobs and money in advanced economies are way out of kilter. A rough measure of that tilt is our trade deficit.

Advanced economies that rely on comparative advantage find themselves in a world where jobs and money are divided up the Abbot and Costello way. One for you where Abbot gives Costello a dollar and one for me, two for you, where Abbot gives Costello another dollar, and one, two, for me. Three for you and one, two, three for me. The counting ends when Abbot has most the money and Costello has a puzzled look on his face.

Like Abbot's counting, in developed economies, all the money goes in one direction and jobs get short changed.

That's how developed economies in today's environment work. There are a few jobs at the top which pay well but don't bring enough support jobs with them because those jobs are exportable. Comparative advantage therefore doesn't work for developed countries.

In order to make free trade work we need a balance of trade, in order to make Keynes work we need jobs that are not exportable and the recirculating of money in a way that stimulates the American economy.

In today's trade environment, following the old belief in comparative advantage we end up needing a non-outsourceable bubble to protect jobs and a stimulus that stays at home in order to get our economy to function properly.

Having our economy dependent on a bubble is unstable because when it pops it takes too many other bubble dependent sectors with it.

In the end comparative advantage doesn't work but leads to risk prone economies and unstable societies.

The new economy, the one that the old text books don't address, indicates that we are destined to have a jobless recovery or a new bubble. The Fed can't stop it but tariffs can. Use them. Forget about what the text books say. Heresy will get us back to work.

mulp writes:

Name any decade in US history when there were as many back to back tax cuts. Name any decade when tax revenues were intentionally cut significantly, and when revenues fell be 25% measured by GDP.

When Reagan signed his tax cut in 1981, employment reversed from growth to loss - in his first six months, a half million jobs were created and in the 16 months after the tax cuts, 2.6 million jobs were lost. Then in late 1982 and multiple times in 1983, he signed tax hikes and following and during those big tax hikes, nearly 10 million jobs were created. Taxes were lower during the Reagan years than when Carter was president, but the job creation never matched the rate while Carter was president. And gas prices were lower in Reagan's second term, inflation was lower, and interest rates were lower. I say the lower taxes are the thing that explains the slower job growth.

In the 90s, both Bush and Clinton passed major tax hikes and the average growth rate while Clinton was president was higher for the eight years than for Reagan's eight years.

In 1999-2000, Federal tax revenue was over 20% of GDP; in 2009-2010 it is 25% lower at under 15% of GDP. The average tax revenue during the Bush years was significantly lower than during the Clinton years.

Net jobs created while Clinton was president was 23 million; while Bush was president about three million government jobs - if it weren't for bigger government, employment would have been flat. And that means a lower rate of employment.

Of course, a lot of the tax cuts shifted the tax burden to labor - labor income is taxed at far higher rates than pump and dump trading. The tax policy promotes doing everything possible to take a $1 of input and progressively selling it for higher and higher prices, stripping profits from fees with each sale. And all regulations limiing this were virtually eliminated so that for 5 cents you could leverage the purchase of a $1 asset, then sell it for $5, taking a $1 fee, the realizing a $3 capital gain, all for 5 cents invested. Only idiots work for a living in the US - the government is using tax policy to destroy labor and to promote more pump and dump.

Bill Woolsey writes:


I think you have a typo regarding Sumner. Don't you mean Y = expected MV? Nominal income equals expected money times velocity?

Anyway, the problem isn't too little inflation. It is nominal expenditure falling below its expected growth path. To the degree this actually causes lower inflation or even lower expected inflation, the impact on real output and employment is dampened. The problem is that actual inflation fails to fall enough (turn sufficiently negative) perhaps.

purple writes:

I think you're dead right about the innovation slump.

Twitter as an innovation is not going to employ many Americans or lead to an investment boom.

High wage countries are pretty much exclusively dependent on technological innovation. And as more countries become 'advanced' it means the time span before a market is cluttered is very short.

Elvin writes:

I'm not convinced we've had an innovation slump. My car is better. My cell phone is better; heck, my BlackBerry allows me to manage my office while I'm at my son's baseball game! With my wireless router I can read econlog in the backyard by the firepit or in the basement while I watch football on HD. My kids each want a laptop, which I paid about $2500 for in 1994, but will now cost less than $1,000/each (and is 10 time better). My new furnace is more efficient. Tivo and VCR isn't even close. The iPod blows the Walkman away. My kids hear a song and buy it three minutes later. I haven't bought a map in years because of my GPS device. I can look up their grades daily on-line.

And I haven't even touched upon industrial and business efficiencies, yet. We can drill deeper, the Dreamliner uses less fuel and is quieter, ...

What do you mean we have an innovation slump?

Paul writes:

The only problem I see with number 1 is that by and large the fund given to the TBTF banks were not financed in any direct way by taxes or the like, but were fiat money carrying only the future expectation of wealth transfer. To suggest that mere expectation could be responsible for the dramatic shift in the economy seems a bit thin. After all, mere expectation of future mortgage rate increases did little to slow the expansion in housing. Apologies for any misspellings.

egoist writes:

I see it as nothing more complicated than debt - everywhere at every level: houses, school bonds, biz-building(s), city hall buildings, stadiums, county bonds, state debt, metro trains selling assets off and renting them back and - of course - national debts. There is a mooch-factor that's infected this lost land, and has doomed us.

RG writes:

It's simple expectations. I speak with numerous small companies across varied industries on a regular basis. They all say the same simple practical thing. They know that taxes and regulation are increasing in a dramatic manner. New taxes are proposed every day. And they expect no end to the new proposals. Noone wants to hire in such an environment. If expectations were that costs would decrease going forward (e.g., tax cuts), hiring at the margin would start to increase. The administation is worse than tone deaf, it is economically ignorant. Argue keynsian vs. Monetarist theory all you want, but simple Adam Smith is how employment ultimately works. People will start hiring when they see an end to the taxing tyranny being promulgated by the legiative branch. That's what is driving the special election in Mass.

EconRob writes:

Globalism, failure to deal with.

Resource shock.

Prosperity comes from improvements in productivity - nothing else. Globalism shifts productivity offshore. The only counter is to increase domestic capital supply (and I do not mean debt), but policies to regulate capital reduced domestic capital availability (i.e. increased costs). Instead of we just put everything on the credit card.

While not a majority of our export/import imbalance, energy imports were a second drain on the domestic economy. While "green" may be good over the long term (century or millennium) short term the economy needs to keep resource expenditures domestic.

Nostradamus writes:

Energy is what keeps us from living in mud huts making sharp sticks. The high cost of energy is transferred to every product or service manufactured or provided. The lost jobs are not coming back because the industries that created those jobs have left. To create new jobs, a new industry needs to be created. It's time to bury America's ridiculous National Energy Policy (which has brought America to it's knees) and A) Harvest and refine Oil Shale into Shale Oil ( an estimated 2 TRILLION Barrels lay in the "Green River Deposit." Google that. For comparison, THE ENTIRE WORLD has used roughly 1 trillion barrels since the stuff was discovered 160 years ago). And B) The gasification and conversion of Coal into liquid hydrocarbon SynFuel. (The "Fischer–Tropsch process" was invented by the Germans 70-years ago. Google that to learn more. It helped fuel their Panzer and Luftwaffe Divisions. Germany has no Oil, and was under blockade after WW1). America has more BTU's of energy in coal than OPEC has in oil, and that's a fact. Presto. Millions of jobs created that can never be outsourced. Caterpillar, Westinghouse, Union Pacific Rail,GE, Dupont, name a company or industry not affected. Land Reclamation, a new industry paid for by taxing coal and Oil Shale mined at 50-cents a ton. Sales and Income Tax Revenues increase as "entitlement spending" decreases, reversing deficits. And finally, National Security is strengthened, no more wars over oil, politically or otherwise. (And we snicker as we watch 1) engergy costs go down, 2) people have more discretionary income to spend, 3)manufacturing return to take advantage of lower costs, and 4) the economies of every OPEC member implode). There, I just restored America to greatness. Are you grinning yet?

Paul writes:

"Swinging a hammer is low skill"

Why? What's so low skill working in February on iced second story rafters, assembling to the eighth of an inch? Or in the summer heat. Or building each home near custom, to local, state and federal codes? Building something with a minimum of maintenance that can last hundreds of years.

As opposed to what? Economics papers?

Which is in more demand?

So, you want to know what is wrong about this economy? If you want to work, repair, install programmable logic controllers and their software on pipelines, factories..most everywhere. You pay for your own schooling. However if you want to get your doctorate in "Queer Multi Cult Economics Theater", we'll subsidize your education and loan you the money by taxing working class tradesmen.


We have immense numbers of paper pushing, form filling, code writing, lawyer interpreting modern mandarins, private and public that layer on costs and delay projects.

bobby b writes:

No one is putting their assets out dangling in risky places right now because no one has the slightest idea what is going to happen next (or next, or next . . .) in the political arena.

We've gone beyond the normal uncertainties about what our government is going to do to/for us next - we're no longer worried about some rate being increased by this small percentage versus this other slightly larger percentage.

We're now faced with a government that brazenly co-opts entire industries and markets for the benefit of its supporting voters. We watch as our national legislative branch frantically attempts to hurry through an enormous restructuring of one entire segment of our economy in a way that is transparently both redistributive and venal because they know the public is very much against that restructuring. We've seen those same pols rush through an ungodly huge set of expenditures to save us all from some supposed lack of spending, and watched as almost all of that money was then channeled to their good close friends and relatives.

The money's gonna sit there in that hole until this all works itself out. Damned if I'm going to put dollars out on some table only to see B.O. come up with a quick reason why he should steal it and give it to other thieves.

David Dowdell writes:

I think you are very close to the truth with your analysis. I believe the economy always will be a reflection of the nations "state of mind" if you will. The reason this recession is so deep is because those who produce are living in a state of fear of being regulated and taxed to death or in fact of being taken over by the government. Very few business people are going to make any strong moves with the current government doing everything it can to make things worse. Producers are going to hold their cards close until some sanity returns to government. I can tell you, that as a businessman who has started and run many successful small businesses, I made decisions and financial moves to prepare for the democrats control of our government. None of these decisions were tilted towards expansion or investment. They were all defensive moves geared towards protecting what I had accomplished over the years from what I knew would be the insane economic policies of the democrats. After all, their platform really is just a hair shy of flat out communism.

Grabski writes:

you believe in macroeconometric models

Who believes in macroeconometric models. The Lucas Critique is alive and well, meaning that the sea change to the Left renders the models impotent.

jms writes:

The human genome project yielded less immediate benefits than expected.

Those benefits would fall in the health care industry, which is currently scheduled for demolition. Why would anyone invest money in that now?

The question I want to ask is -- Why should our country become wealthy? What sort of wealth are we producing that would justify the United States once becoming more wealthy and prosperous?

We have destroyed the manufacturing sector. Upwardly ratcheting environmental regulations and Chinese dumping make it virtually impossible to rebuild the manufacturing base any time soon.

A year ago I would say that we are producing wealth in the financial industry, but now the financial industry is in ruins. Parts of it destroyed, parts of it dysfunctional, and parts of it on permanent government (taxpayer) life support.

Ditto for the auto industry. GM and Chrysler are now loads on the economy, not parts of the engine of the economy.

I no longer think that the stock market is a valid metric for the economy. With so many of the big players government owned, and with so much TARP money moving secretly below the surface, I think that it is more likely than not that the current stock market rally is really just government manipulation -- government owned banks using government loaned money to churn the stock market, generate activity and prop up market prices.

Why would anyone get into the stock market who isn't already in on the fix?

I see no signs other than a deepening depression and government rhetoric and action diverging farther and farther from reality. These are very, very bad times and no one should fool themselves believing otherwise.

Don writes:

recession---part of a complex system that no one understands,....however that will not stop anyone from applying linear solutions to a nonlinear problem.

the Genome project--a lesson in how little is known.

New Tech,...(Blackberry,car, cellphone ect.)--different in degree not in kind,

swinging a hammer is low tech----well yeah.....until the next ice age, where chipping an axe or spear head will be back in vogue.

William Barrett on the misunderstanding of "future shock":

People are not shocked by technical novelty; they gobble it up like so
much cotton candy. And they are scarcely conscious of the way in which
they are transformed in the process. The shock .... comes from
encountering the residue of the old and immemorial that is still with
us -- the core of life that has not changed and that technology cannot
master, the old emotions and the old quandaries. (pp. 329-30)

We had imagined we were getting a new world, with all its exhilarations;
what could be more unsettling than to discover this world....... populated by our
same old selves?

hahaha--have a nice day-

ODY writes:

I think a very simple explanation is that many lack faith in the system.

That keeps money out of the game or moves money to areas that are safe, but less productive.

Alteast that is how I have behaved and been advising others to do so also.

Charlie writes:

Sarbanes-Oxley started us down this road.

David Aitken writes:

Politicians have been putting sand in the gears of our economy since 1935. Eventually everything grinds to a halt.

Brian Macker writes:

"There is no well-established theory that can explain how we got to 10 percent unemployment."

Is Austrian economics "well-established" because it's doing a very fine job of explaining why things are bad and getting worse.

For example, Austrian economics says that the bailouts, stimulis, propping up of GSEs, cash for clunkers, Greenspan put, and below market interest rates would make things worse. Plus all the other stupid policies. If you bail out market losers by stealing from winners what do you expect. Plus the insane central bank support for overleverage, and FDIC insurance. All these moral hazards, and arbitrary edicts, policies, and laws. Plus cap & trade threats.

They predicted that those policies were causing the Internet bubble that was bound to crash, in 2001-2002 they were the ones that said the continuation of the Greenspan put and the ridiculously low interest rates would result in an housiing bubble that would be bad, that the dollar would decline, that trade balance would worsen, etc.

If you know Austrian economics to any degree all this stuff is obvious.

I'm sick of the asinine proposals, when are both Keynesians and Monetarists going to realize they are incompetent?

JohnD writes:

One key thing to remember is that the recession in the U.S. has been relatively shallow compared to other nations. In GDP terms, this recession was bad, but not that bad. Based on the actual drop in GDP, unemployment should not be 10%, but a point or two lower. Unemployment has overshot primary because, unprecedented in U.S. history, most unemployed workers can now receive 79 weeks of benefits. Add to that a heavily subsidized COBRA healthcare policy and many unemployeed have little incentive to actively look for work, particularly if their spouse - in this recession, most likely a woman- is still working.

M12edit writes:

One question I think explains the unemployment portion:

Why would an employer hire anybody if they have absolutely no idea how much that employee is going to cost after Obama's wish list of new social spending is passed?

Havadolla writes:

Where are the jobs for those in the lower and middle class? As long as real estate values were rising, there were jobs in areas that could not be outsourced: construction, maintenance, mortgage brokerage, sales.

Those jobs are gone and the jobs these people could have had in manufacturing, customer service, and even some professions are sitting in India and China. Who are you going to sell your product or service to if your customer isn't working and his or her job is being done overseas. So, businessman and Wall Street wizard, sell your goods and services in India and China. What? They can't buy as much and they can't pay as much and they can't borrow as much? So very sorry.

One other note. The profession of "economist" has taken a huge hit. Why anyone listens to the economist profession at this point is a mystery.

Robert writes:

IANE (I am not an economist) however I am an engineer. It looks to me macro economists study minor variations in systems that are essentially in equilibrium. Back in the 70's the discussion was evolutionary operations in the manufacturing process. Think global warming modeling. Limitations of multivariate analysis.

I found that the people I interact with had a major outlook shift starting in 2007 when the Democrats took over the Congress. Now a days the discussion is how can I operate in a cash economy and "off the grid"? When this becomes wide spread in the economy, what does that do to the models?

From an ordinary man's point of view I find it unbelievable how many of the "elites", including academic economists, do not understand what is happening at the grass roots of the economy.

It all boils down to what are the attitudes Have they changed? How have they changed? Why? Start asking the 5 whys.

DocScience writes:

In 2008, I was a leader in a Fortune 500 R&D group preparing to enter new markets.

After Obama's election, in anticipation of increased regulatory pressures, higher taxation, and general difficulty of getting money for expansion at reasonable rates, the company pulled in its plans and fired 90% of the scientists and engineers to weather the storm made worse by bad medicine of the Democrats and their Keynesian thinking.

It's not an academic matter.

Andrew P writes:

Maybe the "recovery" of 2002-2007 was false, as the cash out refi just masked a continuing recession. The 2008 crash was the second dip, and once the stimulus runs out of gas, we are in for a third dip - down to end of Weimar Republic unemployment levels. The USA hardly manufactures anything anymore, and we are limited by energy resources. So, how much work in the USA creates things of real value? Most services can be dispensed with when times get tough. We are in for a very long, hard slog.

John Galt writes:

You need to get out more.

1. 30% of our economy does stuff nobody wants or needs:
Overpaid consultants, especially in financial services
Legal friction in the form of injury and patent lawsuits
Redundant and overlapping government regulatory and service agencies that inhibit entrepreneurial activity
2. Marginal economic growth is happening overseas.
The stock market reflects this growth, as US companies are truly multinational, but US unemployment persists
3. Fear of job market regulations
In my industry, healthcare, we took advantage of the recession to fire low performing workers. They ain't coming back, especially as we found that productivity rose after we pushed them out the door.
If even half of the Democrat agenda is passed I am not an employer but an adoption agency. My goal is therefore to minimize head count

fresno dan writes:

I read you quite a bit and enjoy your analysis. But I really think economists liken to Orwell's intellectual, who believe things no common man could be so stupid to believe.
Take a common man, who has a mortgage, a wife, 2.3 kids, a job, etcetera. But his spending has collapsed. The economists scratch their collective heads. O, what is missing???
Maybe the 100K he blew on a trip to Las Vegas???
It shouldn't be hard to figure out. LOSE trillions of dollars and you are poorer.

nohype writes:

Blurtman wrote: "While not an economic variable, recall that Americans know that they had a liar and fool as a recent president, which is bad enough to affect morale."

I will not argue with that. Instead I will add that many Americans long suspected and most now know that we have a liar and a fool as the current president, which is bad enough to affect morale. The housing and financial shocks of 2007 and 2008 started the recession, but during 2009 uncertainty about future taxes and regulations have prolonged and deepened it. The Obama administration has been adequate on the demand side, but it has acted as if there were no supply side. It seems not to comprehend that people respond to incentives.

carnegie writes:

Too much debt. When the housing prices plummeted the spending/credit stopped. Dominoes--businesses retrenched...

RebeccaH writes:

I'd love to say the Democrats and Obama (and Bush, by his capitulation to Congress) are to solely to blame, but we must take into consideration the advances in technology. Some day (not that far off), technological advances will overtake human numbers in production (as they have been doing for the last however many years). No one can predict the sociological changes (including the economy) that will happen then. At my age, it won't affect me much, but for the sake of my grandchildren, I'm cheering for a better world, where nobody has to take a soul-crushing mind-numbing job just to pay the rent.

mulp writes:

"In 2008, I was a leader in a Fortune 500 R&D group preparing to enter new markets.

"After Obama's election, in anticipation of increased regulatory pressures, higher taxation, and general difficulty of getting money for expansion at reasonable rates, the company pulled in its plans and fired 90% of the scientists and engineers to weather the storm made worse by bad medicine of the Democrats and their Keynesian thinking.

"It's not an academic matter."

Ok, roll back to August 1981 when the economy and job market had been growing slowly; Reagan signed his tax cut. Why did the economy turn down as a result, with 2.6 million jobs lost in the next 16 months?

Or go back to August 1993 when Clinton signed a massive tax hike on top of the massive Bush tax hike. Why did businesses then go on to create 12 million jobs before a pump and dump promoting tax cut was signed in August 1997? (When you pay lower taxes on short term capital gains, the incentives increase to speculate on buying an asset on credit in the hopes of a short term gain instead of wasting time actually making things by labor wage work).

In 2002 through 2005, the future was for conservative rule for decades and more deregulation and more tax cuts, so why didn't you expand hiring at the same rate you or your peers did under the crushing burden of Clinton's taxes and regulation a decade earlier?

mulp writes:

"I found that the people I interact with had a major outlook shift starting in 2007 when the Democrats took over the Congress. Now a days the discussion is how can I operate in a cash economy and "off the grid"? When this becomes wide spread in the economy, what does that do to the models?"

This makes it sound like the Democrats staged a military coup and deposed the existing government.

Either that, or you deal with the elites who had been pulling the strings in Washington to get government to serve their needs, and with the majority of the people not taking it any more, your business associates are trying to figure out the extralegal ways of exploitation now that they have lost control of the laws to legally exploit the American people.

mulp writes:

"One key thing to remember is that the recession in the U.S. has been relatively shallow compared to other nations. In GDP terms, this recession was bad, but not that bad. Based on the actual drop in GDP, unemployment should not be 10%, but a point or two lower. Unemployment has overshot primary because, unprecedented in U.S. history, most unemployed workers can now receive 79 weeks of benefits. Add to that a heavily subsidized COBRA healthcare policy and many unemployeed have little incentive to actively look for work, particularly if their spouse - in this recession, most likely a woman- is still working."

So, the reason employment has fallen by 7 million in the past few years is not the lack of jobs, but rather the refusal of people to fill the 7 million open jobs that the government has caused to be unfilled???

You are joking, right????

Tony writes:

My story is that the financial services sector got too large. Instead of channeling savings into useful investments, banks were finding new ways to move money around in a circle.

This was so lucrative, it pulled out talent from other areas. For nearly 20 years, the brightest minds weren't going into business or science, but rather learning how to move money in a circle.

Greg Ransom writes:

In Hayek the credit crush is part of the recalculation story.

Arnold writes:

""credit crunch" is not in the macroeconometric models or in the textbooks. If the main story of this recession is going to be "credit crunch," then it is going to require at least as much theoretical and empirical back-filling as Recalculation."

Richard W. Mooney writes:

I know that this is probably something that will seem to be a concept.... that is completely "ALIEN" to the vast this day and age....

But from where I am sitting, out here in a rural area ...smack dab in the middle of America's "heartland"...

What REALLY caused such a deep recession is a complete and total absense of "common sense".... on the part of those that are "supposed" to know what the heck is going on, in this country!!

Since, around the year 2000....there has been a continuous "outflow" of "small town" jobs, from this country.

Within a 50 mile radius of my home town...I can easily count 30-40 small "factories" that have closed due to "outsourcing" to other countries!

On Average, each of these factories provided good steady income for 200-300 individuals. Those indivduals have since "moved elsewhere" in an attempt to find jobs in more "urban" areas.

Although the decision to move those factories to other countries, may have had a tremendous effect on the "bottom line" of those particular companys ( And possibly earned the "chowderheaded" CEO that thought of it...a humongous bonus, in the process)...this was all part of a process that has had the exact opposite effect of a "Trickle down" economy!

To illustrate, my point.....If you can imagine the Economy as being a tall building....with "Wallstreet" occupying the "penthouse" suites....Large major corporations occupying the floors beneath them....etc, etc, etc....with "small town usa" occupying the "basement".....then its very easy to see what has taken place in the economy over the last 10+ years!

Imagine that as companies have made the decision to "outsource" production to other countries.....that as each company leaves....they take a brick out of the "foundation" of that "economic" building....and send it somewhere else.

The VERY first people that will feel the "effect" of those missing bricks...are the people living in the basement..good old "home town Usa".

For a while...they may be able to "patch" up the holes, as best they can and "fill in the gaps" to keep out the cold winter winds.

But even though they may "complain" to the "powers that be" living upstairs....ONLY the people in the basement show any REAL concern for the weakened condition of the foundation. ( Don't worry about those "holes" left by the outsourcing companies, they are told.."it's "better" for the economy....just think about all of the healthy "fresh air" those holes are giving the job markets in your area!" )

Eventually though....once enough bricks( Jobs) have been removed....the weight of the whole building ( economy)...on the foundation becomes to much....and cracks begin to form.

As more bricks ( Jobs) are lost.... more and bigger "cracks" begin to appear. Each time the "Effect" will become more noticable to the next level above!

( Small town loses jobs and factories...which causes small town business's to close...which leads to less products sold by wholesalers....less products sold leads to less products that need to be produced in the factories that are left in the more metropolitan areas...which leads to larger factories shutting down or cutting production...which leads to less money in the urban ares.....which leads to even larger retailers closing...more production cuts....etc, etc, etc)

Although it doesn't happen "overnight", eventually, all of those "Cracks", that started in the "foundation"....will find their way to the "top"....and begin to threaten the "stability" of the entire building.....which is exactly what happened about a year ago!

But...instead of acting quickly to REPAIR the damage that had been originally been done, by companies "Outsourcing" at the "Foundation" level of the economy.

The its "infinite wisdom"...decided that the best way to "fix" this problem...would be to "prop up" Wallstreet...on the "penthouse floor" keep it from falling!

So...that is where we are at, right now....."wallstreet and the financial sector" has essentially been "propped up" with all sorts of "Rube Goldberg" inspired "PROPS and SUPPORTS" and appears to have been "saved" least for now.

But unless something is done to actually repair the REAL problems we have....each level of the economy is still very much in danger and will continue to be...for a long time to come!

Don't believe me, ....just drag out those dusty old history books and take a look for yourself!

TRUE the "Great Depression" may have eventually been "Caused" by the collapse of "wallstreet"....but that was NOT where the real troubles began.

The REAL problems began...when the "local economy's began to crumble,....just like they did this "small town usa"! ( Depression era....small town economies failed because farmers had no "income" from their farms....which had the same effect on small communities back then... as the factory closings have in this day and age!)

Want to "Fix" the economy right now....and do it once and for all?

Start opening up those "small town" factories again.....

Give "entrepreneurs" every opportunity possible to succeed.....

Create jobs at the "grass roots" level and start doing something to reinforce the "foundation" that the whole economy rests on!

Accomplish that....and "Wall street" won't NEED any more "propping up"...and the whole economic structure will benefit from it!

But, then again....what do I know....I'm just an economic development coordinator, in a small rural town...sitting here for the last two years.... trying unsucessfully, to locate a "tenant" or a "buyer"....for a "virtually brand new"....multi-million dollar factory building.... that has been sitting "empty" since it was built for the last company that was there.

A company, order to boost the "bottom line"...decided to move its base of operations to "overseas" in 2001...leaving a very small rural town in Missouri with 300 unemployed workers!

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