The latest fad among economic forecasters is to talk about the growing probability of a double-dip recession. They have raised fears that the economy will again go spiraling downward at a point where it has hardly made up any of the ground lost in the last recession. This is indeed a scary prospect. However the data suggest that the double-dip gang is off the mark in raising these fears.
Before reviewing the evidence it is important to remember who these economic forecasters are. Economic forecasters are not workers like dishwashers and cab drivers who are held accountable for the quality of their work. They can be wrong every day about everything and face little risk to their career prospects.
Go back to 2006 or 2007 and see what your most widely quoted forecasters had to say about the economy. Almost none of them noticed the $8tn housing bubble that was on the verge of collapsing and wrecking the economy. With very few exceptions, the word from the forecasters was that we had clear skies ahead.
If you thought that missing the biggest downturn in 80 years would be a strike against your record, then you don’t understand economic forecasting. There is no reason to believe that forecasters are any more knowledgeable about the economy today than they were four or five years ago.
Further decline unlikely
A recession means that the economy is actually shrinking. Generally the economy has gone into recession when the Fed raised interest rates to slow the economy in order to bring down inflation. The normal story is that higher interest rates lead to reduced purchases of interest sensitive items, most importantly cars and houses. Most post-war recessions were kicked off when car sales and house sales and new construction plummeted.
There seems to be little risk of a substantial decline in either car sales or house sales and construction, primarily because the levels are already so low. Car sales are currently running at a bit below a 13 million annual rate. By comparison, they averaged well over 16 million annually in the years before the recession.
It’s difficult to envision the sort of big dip in sales that can tip off a recession. Car sales are not likely to fall below a 10 million annual pace.
It is the same story with housing. In the years leading up to the crash, the country was building close to 1.9 million housing units a year. In recent months we have been building homes at a rate of fewer than 600,000 a year. How much lower would anyone think this number could go?
In short, we simply don’t have the basis for the typical recession in the post-World War II era. Both car sales and housing construction are already so low that they don’t have much room to fall.
Looking at the other categories of GDP, it is difficult to see the basis for the negative growth implied by a recession. Consumption of course is the biggest part of the story, comprising 70 per cent of GDP. We have seen slow growth in consumption through the first half of 2011 and it is difficult to see why that would not continue. The economy added 117,000 jobs in July. This is weak, but nonetheless positive.
Wages are roughly keeping pace with inflation. They fell behind a bit in the first half of 2011 because of the surge in energy prices, however with energy prices falling in the past two months; workers will see some boost to their real wage in the second half of 2011.
Equipment and software investment has been growing at a rate of between five and ten per cent. Since orders are typically made well in advance of actual investment, there is no evidence in the order data that suggests this number will turn negative. The government sector is shrinking, but only at a 1.0-2.0 per cent annual rate for a sector that comprises 20 per cent of GDP.
In short, looking at the issue more closely, it is hard to construct the double-dip story. The one exception would be if a collapse of the euro led to a Lehman-type financial freeze-up. However, this would require a degree of blundering that would be difficult to envision even from the European Central Bank.
However, the fact that a double-dip is not likely does not mean that we have good economic news on the horizon. All the signs point to several years of weak growth. At best the economy is growing at the 2.5 per cent rate needed to keep pace with the growth of the labour force, and it may be growing more slowly. This would mean that the unemployment rate will rise from its current 9.1 per cent rate.
This is in fact a truly awful picture. After severe downturns in the 1970s and 1980s, the economy came roaring back, growing at seven to eight per cent annual rates in peak quarters. This is the sort of growth that is necessary to quickly bring the unemployment rate down to more tolerable levels.
Unfortunately, these sorts of growth rates are nowhere on the horizon. This is why the double-dip story is so pernicious. If a double-dip is treated as a realistic scenario then even the slow growth that we are likely to see looks good by comparison. Instead of being outraged over our leaders’ failure to produce respectable growth we end up applauding them for avoiding a recession.
We can't allow the bar for success to be set so ridiculously low. We need real growth; avoiding a double-dip is nothing to brag about.
Dean Baker is co-director of the Center for Economic and Policy Research in Washington, DC.