About that recovery you ordered

“We have met the enemy and he is us,” Pogo used to say. Well, we’ve also now met the recovery, and he is ugly.

The Bureau of Economic Analysis reported today that U.S. real GDP grew at an annual rate of 2.4% during the second quarter. The latest GDP numbers bring our Econbrowser Recession Indicator Index for 2010:Q1 down to 5.4%. This index is based on a very simple pattern-recognition algorithm for characterizing economic recessions. It is not a prediction of where the economy is headed, but rather a backward-looking assessment of where the economy stood as of the first quarter, using today’s 2010:Q2 data release to help inform that assessment. University of Oregon Professor Jeremy Piger maintains a related index which has been at or below 1% for each month so far of 2010, while the most recent value calculated by U.C. Riverside Professor Marcelle Chauvet’s algorithm is 7.8%. All three approaches agree that the economy remains in a growth phase that began in the third quarter of last year. A subsequent economic downturn would be described as the beginning of a new recession rather than a continuation of the previous recession.



The plotted value for each date is based solely on information as it would have been publicly available and reported as of one quarter after the indicated date, with 2010:Q1 the last date shown on the graph. Shaded regions (with the exception of 2007:Q4-2009:Q2) represent dates of NBER recessions, which were not used in any way in constructing the index, and which were sometimes not reported until two years after the date. The most recent recession is shown on the graph as ending in 2009:Q2 as implied by the index; as of this writing the NBER has not yet assigned an end date for this recession.
rec_ind_jul_10.gif



But a pretty recovery it’s not. The economy has grown by 3.2% in real terms over the last year, about the average annual historical growth rate since World War II. But since recessions are characterized by below-average growth, expansions should typically exhibit above-average growth, and particularly in the first year of an expansion we often see very strong growth as a result of the positive contribution of inventory restocking in the initial stages of recovery. Inventories have done their part this time around as well, contributing 1.9 percentage points of that 3.2% growth over the last year. But that’s the problem– inventories have been essentially the sole factor driving the recovery so far.



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Imports were a huge drag on GDP in the second quarter. It is as if all the additional spending by U.S. consumers and firms went to buy imported goods and services, with no net positive contribution to the demand for domestic production. Added purchases by the federal government provided an important boost to the second quarter, though that seems unlikely to continue and faces headwinds from future spending cuts by state and local governments. Housing made a modest positive contribution to the second quarter, though Bill McBride expects residential fixed investment to decline in Q3 with expiration of the tax credit.

Exports and nonresidential fixed investment were relative bright spots. But could they be enough to carry the economy into a sustained recovery without inventories and fiscal stimulus? The most pessimistic participant at the June FOMC meeting was calling for 2.9% real GDP growth for 2010 as a whole.

But I’ll be relieved if we end up doing that well.

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21 thoughts on “About that recovery you ordered

  1. Bruce Hall

    … and it’s also good to remember that it takes more than a 3.2% bump up to offset a 3.2% decline. Math is hard.
    But it is not necessarily difficult to predict the course of this “recovery.” As long as the consumer sector remains suppressed [jobs, housing, real earnings], you can kiss a “normal” recovery goodbye.

  2. ISLM

    I’m encouraged by how well macroeconomists have emerged from this crisis, proud in the knowledge of their hard-won truths and triumphant in the predictive power of their craft.
    Indeed, so strong is the macroeconomics profession that this guy thinks that there are too few macroeconomists and insufficient public funds for macroeconomic research. Thank god he’s at a third-tier school and not in any position to influence monetary policy.

  3. Steven Kopits

    ‘This guy’ from ISLM above is actually V V Chari of the University of Minnesota and Federal Reserve Bank of Minneapolis, testifying to the Committee on Science and Technology, Subcommittee on Investigations and Oversight, U.S. House of Representatives last week.
    I think this is a fascinating document, well worth a posting in its own right. He raises a number of issues which I suspect would prompt a lively debate on the blog.

  4. Brian Quinn

    Actually, W.C. Varones, yes that is exactly it with no sarcasm included. People always say WWII brought about an end to the Great Depression without thinking through why that was. It was because it was truly epic levels of deficit spending.
    In truth, those sorts of deficits are not even required since so much of WWII spending was wasted on stuff that gone blown up and sank in the Pacific Ocean or smoldered in the fields of France , Italy, and the low countries.
    One interesting thing that I would say to Jim Hamilton is that the revisions confirmed what he discussed previously about the oil shock of 2008 contributing mightily to the recession. If you look at the revised Q3 2008 figures, they show an economy that reeled after that jolt much worse than we had previously supposed. Indeed, it is now clear that even in absence of the Lehman collapse we would have endured a severe recession.

  5. 2slugbaits

    JDH said: “Imports were a huge drag on GDP in the second quarter. It is as if all the additional spending by U.S. consumers and firms went to buy imported goods and services, with no net positive contribution to the demand for domestic production.”
    Very true. And yet another good reason for additional government spending rather than tax cuts. Tax cuts leak out through the marginal propensity to import, but government spending can be targeted towards domestic production…or at least it can in the first order effect, which is still pretty large.
    ILSM: I’m encouraged by how well macroeconomists have emerged from this crisis, proud in the knowledge of their hard-won truths and triumphant in the predictive power of their craft.
    Well, many economists were pretty much right on target. Many economists worried that the stimulus was enough to bring us up to trend growth, but not enough to bring down unemployment. And that’s exactly where we are. Not a surprise since it’s pretty much what Larry Summers had been advocating. Summers believes that recoveries should approach trend growth asymptotically from below. Summers was opposed to the idea of giving the economy a stimulative shock…his metaphor was always along the lines of priming a pump. Summers is a smart guy, but sometimes his sense of judgment is nothing short of godawful.

  6. 3h

    Add the increase of govt. debt added to fuel a “recovery”, bail out Wall St,. C4C, home buyer credits and it seems the effects from this spending is not much if not negative

  7. ISLM

    ‘This guy’ from ISLM above is actually V V Chari of the University of Minnesota and Federal Reserve Bank of Minneapolis, testifying to the Committee on Science and Technology, Subcommittee on Investigations and Oversight, U.S. House of Representatives last week.

    (Um, it’s called snark, which may have been more apparent if I had said “some” guy.) I agree that the testimony presented provides a fascinating insight into the state of modern macroeconomics. (I complement the Dems for holding hearings of this type. They are far more informative than anything being done by the financial crisis commission.)
    Solow was withering. Chari basically said that all is well but for the mysterious market failure that produces too few macroeconomists and too little DSGE modeling. He reminds me of the fusion physicists who promise that the energy elixir is just 20 years away, which they’ve been saying for the past for 30 years. All that’s need is a little more funding and a little more time.

  8. Tom T

    Jim, should we really expect this expansion to show above average growth? Some years ago, I heard one economist say that recessions are the result of overbuilding of inventory, while depresssions reflect the overbuilding of long term fixed assets. Doesn’t 2009 simply represent a new, lower set-point in US GDP, and we need to restart growth from there? I would think this is especially true since the huge overinvestment in real estate (in contrast to the overinvestment in broadband in the late 90s) isn’t likely to generate long term productivity improvements to support faster growth in the US economy.
    The real driver of recovery, it seems to me, is not a rebound in the housing markets, or the immediate return of the consumer, but the ability of businesses to convert lower capital, occupancy and labor costs, as well as post-recession capital expenditures, into growth from this new base. With all the headwinds out there, it shouldn’t surprise us if it takes a few more quarters for this to gain traction.

  9. RicardoZ

    The greatest indicator of bad economic times to come is the expected resignation of Peter Orszag as White House Budget Director. I want to admit that I was wrong. I wrote on this bloge that I thought the first resignation would be Christina Romer because she would be the first to realize the failure of the Obama economic policies. Instead it appears that it is her boss that is the first to realize what is coming.
    The replacement of economist Peter Orszag with political appointee Jack Lew will make staying much more difficult for Romer. I still believe that Romer is very uncomfortable with what she has been supporting, but I underestimated the depth of her political bias. But I will stay with my prediction. I believe that Romer is too good an economist to stomach what is going on for too much longer.

  10. colonelmoore

    Brian Quinn, wasn’t the big benefit of the spending in WW-II that it did not result in goods and services that could balance the dollars created? (As one example, the Manhattan Project, focused on creating the two atomic bombs, cost $23 billion in today’s dollars. Thank heavens that the atomic bombs were not consumed domestically!)
    In my amateur understanding, the major problem in the 1930s was deflation. If inflation means lots more dollars being created than could be spent on available goods and services, what better way to get out than to have a potlatch or a world war?
    Prior to the war, the wage and price controls were those of the NIRA, in which the government attempted to force both higher in order to stanch deflation. After the start of the war, wage and price controls were imposed to limit the inflation caused by spending on national defense.
    In the case of the present deficit spending, if it were used for a potlatch or a war it would be quite inflationary in the short term. Since we are not yet in deflation, it would be an attempt to cure an entirely different problem than we faced in the 1930s – early 40s.

  11. Anonymous

    colonelmoore First, a little nit to pick. The Manhattan Project actually built three bombs…the first was consumed in testing. ;-)
    It’s probably true that right now we’re experiencing disinflation rather than deflation; however, the risk of deflation is very real. We’re pretty close to the knife’s edge. What we don’t have is any plausible threat of inflation, but for some bizarre reason that seems to be the issue that a lot of pundits and politicians concentrate on. Maybe it’s because inflation is something that they can understand so they are inclined to see it everywhere. Some subconscious memory of stagflation in which low output was associated with high inflation. Who knows. But people do believe it. Minority Whip Rep. Eric Cantor (VA-R) actually put his money where his mouth was and made some rather large investments that bet on inflation. So I guess he actually believed the nonsense coming out of his mouth. According to the WSJ Cantor lost a boatload of money on the investment, but he still believes inflation is right around the corner.
    I think there’s really only one plausible scenario for inflation returning and that will be due to not passing another large stimulus program. Persistently high unemployment will permanently raise the level of structural unemployment, and this will permanently raise the NAIRU. But the Fed and politicians will be under a lot of pressure to push unemployment below that new NAIRU level of unemployment. The perfect recipe for inflation. That’s what happened in the 1970s and because of weak growth we’re headed for a permanently higher NAIRU. Good-bye NAIRU of 4%, hello NAIRU of 7%.

  12. Rich S

    ISLM, I had a good laugh from your comments about fusion energy always being 20 years away for the past 30 years. I started in fusion research (in engineering) in 1980, and my boss was fond of the 20 year story. It was also 20 years away when he started in the 50’s. As engineers, we always thought the main problem was the program was called plasma physics and not plasma engineering.
    Now, maybe if we can just get some of those engineers working in macroeconomics, results would be just around the corner.

  13. ppcm

    The deuterium pile was included in my childhood credulity,with a father being an atomic engineer and rocket scientist.The gap between atomic engineers and economists starts yawning when the former know,that the main implementation issue is a firewall and the later do not.

  14. The Rage

    “I think there’s really only one plausible scenario for inflation returning and that will be due to not passing another large stimulus program. Persistently high unemployment will permanently raise the level of structural unemployment, and this will permanently raise the NAIRU. But the Fed and politicians will be under a lot of pressure to push unemployment below that new NAIRU level of unemployment. The perfect recipe for inflation. That’s what happened in the 1970s and because of weak growth we’re headed for a permanently higher NAIRU. Good-bye NAIRU of 4%, hello NAIRU of 7%.”
    But you gotta a problem. The FED can’t push it below the “NAIRU”(whatever that means). They just can’t. In the 70’s, the boomers were surging growth rates and a BIG reason behind inflation. It eventually with the Oil shock, caused modest shortages, which the US wasn’t used too.
    We have the opposite problem today, hence inflation of any good speed is pratically impossible. I would be surprised if the confidence in the banking system lasts before they can become resolvent.

  15. Anonymous

    And if the GOP wins the House this November, we can expect an even worse recovery. Here’s a Washington Post interview with Rep. Paul Ryan (WI-R), who is supposed to be the GOP’s “go to” guy on economics. Totally clueless. He thinks raising interest rates will unleash investment. Ugh. Menzie should be embarrassed that this guy is from Wisconsin. But at least Menzie can take comfort in the fact that he didn’t go to school in Madison.
    http://voices.washingtonpost.com/ezra-klein/2010/07/what_would_republicans_do_for.html

  16. wolson

    Currently, the M2 is HUGE!
    See http://research.stlouisfed.org/fred2/series/M2
    Yet the money is not out on the street. With so much “fire” hanging around in the banks, I can not but believe that they are waiting for inflation and higher interest rates before putting fuel into the economy. Thus we either stagnate or inflate: which is it?

  17. 2slugbaits

    The Rage hence inflation of any good speed is pratically impossible.
    That was my point. In the real world the immediate risk of inflation is next to zilch. There is a long run risk, but that long run risk won’t emerge until the economy returns to what will then be “full employment.” Except “full employment” will be with a much higher unemployment rate. Because we are not pursuing aggressive fiscal policies today we are building in permanently higher unemployment and lower worker productivity tomorrow. At some point the Fed will regain traction and when they do there will be a lot of pressure to try and drive down the unemployment rate just as there was in the 70s. If there is a risk of inflation, it is a long run risk and due to an insufficiently aggressive fiscal policy today. This turns the GOP talking points on their head.

  18. Bryce

    “People always say WWII brought about an end to the Great Depression without thinking through why that was. It was because it was truly epic levels of deficit spending.”–Bryan Quinn
    One should be diffident in this conclusion. A major change that occurred with WWII was that the Roosevelt administration ceased attacking business with things like retained-profit taxes & actually made the unions cease their hostility as well. This was a huge revolution from what had been going on in 1939.

  19. kharris

    Um, no, one need not be diffident.
    The growth rate of the economy from 1934 through 1937, while Roosevelt was encouraging business to contribute to society through retained-profit taxes and balancing labor negotiating power by encouraging union activity, was some of the fastest ever seen. If we ignore that period of good growth and focus only on WWII, we can miss the fact that Roosevelt’s pre-war policies were stunningly successful.

  20. tim kemper

    um, you are crazy to compare today’s economy to 1934. now I know why economists are so clueless. if you try to “encourage union activity” , we will hire somewhere else. Have you not seen that PwC hired 11,000 people in India in one month? Others have done the same. Now I know why dems think you can just keep adding costs to employees and employers will keep paying. we will hire elsewhere. Have you heard of the “internet”? was that around in 1934?
    bye bye kensians!

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