Reinhart & Rogoff: Expect a prolonged slump
Terrific piece in the WSJ by Carmen Reinhart and Kenneth Rogoff on the economic situation.
We’ve previously discussed their seminal work, 5 Historical Economic Crises and the U.S., and it has been very instructive as to how we got into — and how we get out of — financial crises
Here is a quick excerpt:
“Financial crises, even very deep ones, do not last forever. Really. In fact, negative growth episodes typically subside in just under two years. If one accepts the NBER’s judgment that the recession began in December 2007, then the U.S. economy should stop contracting toward the end of 2009. Of course, if one dates the start of the real recession from September 2008, as many on Wall Street do, the case for an end in 2009 is less compelling.”
Given the depth of crisis, and the severity of the economic downturn, I care less about starting dates to calculate an end date, than actual measurable economic improvement. The recession will show signs of ending when Housing stabilizes, employment layoffs peak (it will lag the recovery), industrial production improves, and spending begins to normalize. Watch those data points.
Back to R&R:
“On other fronts the news is similarly grim, although perhaps not out of bounds of market expectations. In the typical severe financial crisis, the real (inflation-adjusted) price of housing tends to decline 36%, with the duration of peak to trough lasting five to six years. Given that U.S. housing prices peaked at the end of 2005, this means that the bottom won’t come before the end of 2010, with real housing prices falling perhaps another 8%-10% from current levels.
Equity prices tend to bottom out somewhat more quickly, taking only three and a half years from peak to trough — dropping an average of 55% in real terms, a mark the S&P has already touched. However, given that most stock indices peaked only around mid-2007, equity prices could still take a couple more years for a sustained rebound, at least by historical benchmarks.
Turning to unemployment, where the new administration is concentrating its focus, pain seems likely to worsen for a minimum of two more years. Over past crises, the duration of the period of rising unemployment averaged nearly five years, with a mean increase in the unemployment rate of seven percentage points, which would bring the U.S. to double digits.
Interestingly, unemployment is a category where rich countries, with their high levels of wage insurance and stronger worker protections, tend to experience larger problems after financial crises than do emerging markets. Emerging market economies do have deeper output falls after their banking crises, but the parallels in other areas such as housing prices are quite strong.
Perhaps the most stunning message from crisis history is the simply staggering rise in government debt most countries experience. Central government debt tends to rise over 85% in real terms during the first three years after a banking crisis. This would mean another $8 trillion or $9 trillion in the case of the U.S.
Interestingly, the main reason why debt explodes is not the much ballyhooed cost of bailing out the financial system, painful as that may be. Instead, the real culprit is the inevitable collapse of tax revenues that comes as countries sink into deep and prolonged recession. Aggressive countercyclical fiscal policies also play a role, as we are about to witness in spades here in the U.S. with the passage of a more than $800 billion stimulus bill.”
Good stuff from the guys who correctly identified how other crises end . . .
>
Previously:
5 Historical Economic Crises and the U.S. (February 9th, 2008)
http://www.ritholtz.com/blog/2008/02/5-historical-economic-crises-and-the-us/
The Aftermath of Financial Crises (January 24th, 2009)
http://www.ritholtz.com/blog/2009/01/the-aftermath-of-financial-crises/
Sources:
What Other Financial Crises Tell Us
CARMEN M. REINHART and KENNETH S. ROGOFF
WSJ, FEBRUARY 3, 2009
http://online.wsj.com/article/SB123362438683541945.html
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February 3rd, 2009 at 9:33 am
In other words …
News Flash! Experts say things will be bad for a while longer. No end in sight today. There probably won’t be an end in sight tomorrow or Friday, either. BTW, it’s a global crisis. Scholarly reasons support this amazing and unique insight. Statistical averages add the appearance of predictive elements.
February 3rd, 2009 at 9:39 am
Unfortunately, I don’t think there is a playbook for what we’re faced with. All of these attempts to look at a few data points are pointless. Not only are past recessions statistically irrelevant because we have so few to look at, but this is a totally different animal from all the others.
February 3rd, 2009 at 9:57 am
BR: depends what you mean by slump. Their piece predicts moving to positive growth by late 2009 or mid 2010 depending on when you believe the recession started. Then they predict a prolonged period of slower growth but don’t define it, but then average GDP growth over the past seven years has only been around 2% so it’s all relative. There’s little to disagree with in their broad conclusions although the comments about bank nationalisation are bit murky.
February 3rd, 2009 at 10:03 am
What if Kondratieff was correct? There’s a little CNBC inside us all, so we disdain gloomy forecasts much preferring head in the sand optimism or narrow think. But — the existence of the “long (business) cycle” is well documented, so this D-style downturn very well could indicate a “Kondratieff Winter.” We don’t see much written about Kondratieff cycles and even less about the big “what if?” What if a Long Wave converges with, say, a Spenglerian 2,000 year cycle? Is Rome rhyming us?
February 3rd, 2009 at 10:04 am
Yeah, dead hobo, yeah.
On average, huh? well uh, like what happens if um, this isn’t an ‘average recession’? Not too long ago, and indeed in many quarters still, the comparison of interest is to the 2001 recession, or maybe the 1992 recession. Now, according to these guys, we should be expecting ‘the average’ — which never occurs if I recall my probability and statistics correctly (set of measure zero for the know it alls).
Frankly the piece comes off like the kind of ‘tell the powerful what they want to hear’, and ‘mollify the plebes to keep the panic staved off for another day’, kind of piece that is routine in american communication of all forms. What it boils down to is ‘there there little thing, don’t you fret none, daddy’s got it all figured out’… (now where am I gonna hide this loot?).
BR’s insights seemed spot on. How about some actual data guys, from like, this actual ‘event’ (shall we say?)?
February 3rd, 2009 at 10:11 am
Nice post. One nit tho:
In the typical severe financial crisis, the real (inflation-adjusted) price of housing tends to decline 36%, with the duration of peak to trough lasting five to six years. Given that U.S. housing prices peaked at the end of 2005, this means that the bottom won’t come before the end of 2010, with real housing prices falling perhaps another 8%-10% from current levels.
I find it odd that they expect a record bubble in housing to decline by approximately the amount it has in the past — when the malinvestment was in other sectors.
February 3rd, 2009 at 10:12 am
While this article does not detail comparisons to Japan’s experience starting in the early ’90′s, it draws from Japan’s experience.
What I don’t get–in all the genuflecting regarding Japan’s experience with their own housing/financial system meltdown–why no mention of the demography?
Japan is in a severe demographic decline, with a rapidly aging and dying population, and a below-replacement-level birth rate. Its post-war population growth peak dove-tails nicely with its “lost decade”, which is now rapidly turning into “decades”. How can a population in decline support an expanding economy?
What of the United States? How much of this economic malaise is due to our own demography? The US, ex-immigration, is just barely reproducing at a replacement level, and the native population is, like Japan, rapidly aging. The leastest generation (the baby boomers) is finally retiring and dying, and there is nothing behind them to take their place.
For some reason, economists seem to want to ignore biology, but it seems to me that everything starts and ends with the simple biological imperatives faced by all living organisms, of which populations of humans are a subset. Organisms and populations of organisms have life cycles of birth, growth, stasis and decline. It seems Japan’s is in decline. The US WASPs are at stasis, at best.
Japan is insular, barely allowing any immigration. If the US wants to avoid Japan’s fate, we would do well to reject her nativism. It seems counter-intuitive at this time of rising unemployment, but long-term, allowing for more immigration is the best bail-out of the housing and financial industries our government could devise.
February 3rd, 2009 at 10:22 am
We’re in the middle of a seminal event that will blow those “averages” out of the water. It will take a while for most “economists” (who have still not come to grips with how wrong most of them have been) to come to this conclusion and most will do so only after the fact.
February 3rd, 2009 at 10:23 am
Stoneybrooks Said:
February 3rd, 2009 at 10:03 am
What if Kondratieff was correct?
reply:
Good question. Why don’t you study his ideas so that you know them so well you own them. It will take a lot of effort because all TA is complicated. This ‘complication’ is mostly mathy and adds to the illusion of precision. Then toss in actual statistics and make them fact oriented by referring to actual events. Then infer predestiny … because all predictive TA implies our fates are with the numbers, not ourselves. They also require that similar events have similar outcomes, and external influences have little or no effect. Just assume then away or work around them somehow. Or at least TA requires true believers to think like this.
Now, substitute ‘Economics’ for ‘TA’ above and you have two identical barking dogs. Only one appears to be more astrology based than the other. Guess which one.
February 3rd, 2009 at 10:28 am
@dead hobo: I was making the same comparison to Astrology yesterday with a friend except I think Nancy Reagan’s charts would be more useful in predicting the outcome of this mess.
February 3rd, 2009 at 10:30 am
Where’s Omarr when we need him most?
February 3rd, 2009 at 10:49 am
Curmudgeon:
I agree. Americans think that there is some inherent virtue in our country while our prosperity is more likely due to the continual influx of new, energetic groups as the wealthier become fat and lazy. The Romans did something similar by co-opting the migrating barbarians and managed to survive an extra several hundred years in the West that way. We should not care so much about how many people are qualified for the DAR.
Just from a selfish standpoint, an increasing population is the best way to solve the Social Security problem.
February 3rd, 2009 at 10:51 am
“Too keen an eye for pattern will find it anywhere.” ~ T.L. Fine
February 3rd, 2009 at 10:53 am
Anyone see Mr. Mortgage just now on CNBC?
Says there is a huge shadow inventory of homes owned by the banks but not on the market. Real inventory is close to a couple of years’ worth. Also Jumbo and Alt-A loans are where the defaults are currently rising and are back up to numbers seen last summer so inventory is likely to increase.
He jokingly said he was finally able to proclaim “Subprime is contained.”
February 3rd, 2009 at 10:55 am
Curmudgeaon & Nola:
Biology is destiny.
February 3rd, 2009 at 10:59 am
California, goes broke, halts $3.5 billion in payments. “People are going to be hurt starting today,” said Hallye Jordan, speaking on behalf of the state Controller. “There’s no money.”
February 3rd, 2009 at 11:03 am
allowing for more immigration is the best bail-out of the housing and financial industries our government could devise
————————
3 problems:
1. Goes against protectionnism that is intensifying.
2. Immigrants will be boatloads of muslims… not too sure how open US is to that.
3. Takes a generation before you see the real merits of immigration in today’s world.
February 3rd, 2009 at 11:06 am
Says there is a huge shadow inventory of homes owned by the banks but not on the market. Real inventory is close to a couple of years’ worth. Also Jumbo and Alt-A loans are where the defaults are currently rising and are back up to numbers seen last summer so inventory is likely to increase
————
At exactly the time thousands of Boomers will be starting to sell their second homes because they are getting older and maintaining 2 homes is too much work.
February 3rd, 2009 at 11:12 am
Bloomberg reports nearly 20 million vacant bank-owned homes.
http://bloomberg.com/apps/news?pid=20601087&sid=aKufqJK9j1cY&refer=home
February 3rd, 2009 at 11:13 am
IBM To North American Employees: To Keep Your Job, Move To India (IBM)
Eric Krangel | February 3, 2009 8:48 AM
http://www.alleyinsider.com/2009/2/ibm-to-north-american-employees-to-keep-your-job-move-to-india-ibm
Recent announcements of mass layoffs have created new scrutiny around the H-1B visa program, which brings foreign tech workers (mostly from India) to the US for work (at below-market wages, critics say). But IBM (IBM) is going with a novel tack: Instead of bringing cheap Indian workers to America, the company is demanding its American workers move to cheap India and get paid India-standard wages.
A better option than being laid off? IBM has been quietly eliminating thousands of jobs over the past few weeks.
February 3rd, 2009 at 11:14 am
JohnnyVee Says:
February 3rd, 2009 at 10:55 am
Curmudgeaon & Nola:
Biology is destiny.
reply:
Exactly my point. Yet we hire economists to run the world that only know how to print money and manipulate interest rates, and even those prescriptions are based on an era when demography was much different.
February 3rd, 2009 at 11:18 am
Now multiply that unemployment number by 2 and you get the real unemployment rate. Slump, schump.
I smells like Great Depression II to me.
February 3rd, 2009 at 11:38 am
I used to live in the UK in the seventies when there was an elderly Scottish actor around who had the catchphrase “We’rrrre aaallllll dooooomed.” He could get a job here. Economic recovery is somewhat dependant on stopping the bleeding in the housing market but it’s not dependant on a big housing recovery. Housing prices trod water for much of the 90′s in most of the country which was generally booming. If you take CA which experienced the economic downturn in 1991/92 about 18 months behind the rest of the country, and I was in the thick of it, the state was booming again by 1996 with even the housing market starting to recover and they had huge inventories there after the downturn. I’m certainly not an optimist, but the doom and gloom is being somewhat oversold. Obviously it depends on keeping the banking system stabilized and the govt counter cyclical spending but if these happen Rogoff’s scenario of exiting the recession by the end of 2009 and maybe a few years of slow growth, but growth nonetheless, seems entirely plausible.
February 3rd, 2009 at 11:44 am
@ottovbvs: I respectfully disagree. How can you compare what’s happening now to that time or any other time period for that matter? What we’re seeing now bears little (actually no) resemblance to that time period.
February 3rd, 2009 at 11:44 am
I’m certainly not an optimist, but the doom and gloom is being somewhat oversold
———
I guess if you lose a lot of money and end up moving in with your kids, you end up babysitting instead of playing golf somewhere in Florida or Arizona.
It’s true, ending up like that is not THAT bad.
February 3rd, 2009 at 12:15 pm
So watching the Super Bowl I see a “Cash 4 Gold” commercial starring Ed McMahon and MC Hammer…
and I couldn’t help think: We must be nearing another top in Gold.
- AT.
February 3rd, 2009 at 1:03 pm
@ottovbvs – we had a lot less debt back then too. 260 times as compared to our 350 times GDP. Eventually you reach a tipping point, no one knows until you start going down. Sorta like a ponzi scheme. Everyone is happy until the checks stop arriving.
@AT – Did you also notice that they both have gone through bankruptcy and would not have much of their own gold to sell.
A lot of the current approaches are like applying a asper creme to a boil to ease the pain. Meanwhile the boil keeps growing and goes septic.
February 3rd, 2009 at 1:35 pm
Is that terrific analysis?
Why do experts look at tea leaves rather than facts? Why are they looking at how far housing usually falls, rather than looking at the metrics that have to return to normal before housing is reasonably priced? People have to be able to afford a house – look at wage growth vs. home price growth, and look at affordability ratios. People have to buy rather than rent – look at the ratio of the cost of buying vs. the cost of renting. Why are these experts not aware that there are concrete measures to look at rather than glorified sports statistics? The Steelers won the Superbowl – what has that portended in the past for the housing market?
February 3rd, 2009 at 1:49 pm
@AT – If gold was near a top, they’d be on the air telling folks to buy gold. That there is money out there looking to buy gold now indicates to me there is serious expectation that it will be going (perhaps much) higher.
February 3rd, 2009 at 1:55 pm
QUESTION FOR BARRY
Do R&R have any history on what happens to the country’s currency? Obviously, with the huge increase in debt, I would expect the currency to crater. I wonder if any/many other countries they’ve studied had as big a debt/GDP ratio as the US had when this crisis began?
February 3rd, 2009 at 2:07 pm
Mannwich Says:
February 3rd, 2009 at 11:44 am
@ottovbvs: I respectfully disagree. How can you compare what’s happening now to that time or any other time period for that matter? What we’re seeing now bears little (actually no) resemblance to that time period.
You may have noted I said I lived in Britain in the 70′s. Now they had economic problems. Of course no situation is exactly like another. For example back in the early nineties Clinton couldn’t get a two bit stimulus plan passed, about 30 billion as I remember, now we’re about to pass a 900 billion injection into the economy, interest rates are at zero, mortgage rates are going to go to the low to mid fours and the Fed are also printing money. The notion that all of this is going no effect is absurd. You and others may think or hope we’re going to have GD II but with respect I don’t think so. It won’t be painless but when it’s all over this is going to look much more like the early 80′s than the early 30′s although the causes are very different.
February 3rd, 2009 at 2:21 pm
@ottovbvs: I guess you haven’t read most of my posts in recent weeks and months. I’m WORRIED that GD II is upon us but I certainly don’t hope that it happens. Why would I hope for that? I not only care about this country but I care about my own personal situation and business (which sucks to holy hell right now) as well as my wife’s company/job, both of which are on the fritz as well, so please give it rest. I AM protecting myself for such a scenario though. I’d be stupid not to at this point. It never ceases to amaze me that people who speak honestly/openly about the situation and reality as they are get branded a “doom and gloomer”. If you prefer fantasy-land and smoke being blown up your colon, go watch Goldilocks on CNBC. I, however, prefer to live in/face reality and prepare accordingly.
February 3rd, 2009 at 2:33 pm
I think it’s all been said here, alls I can add is some worn out sayings about going to hell in a bucket or how to enjoy being raped, but you get the idea.
February 3rd, 2009 at 2:55 pm
@ km4
“(IBM) is demanding its American workers move to cheap India and get paid India-standard wages.”
hmmmm.
Does India have an equivalent to our H-1B visa?
If these IBMers could sell their homes, should they have any equity left in them, could that get them re-positioned in a similar home, renting or buying, in India?
February 3rd, 2009 at 3:28 pm
That sure was a long description of what the recession is going to be like. They should have just said this: “The recession is going to be bad and last a long time.”
February 3rd, 2009 at 3:31 pm
@batmando
No idea…I do know that IBM now has more employees in India than USA….my takeaway with these layoffs is that IBM trying to pull off some slick PR and not attract as much as negativity like layoffs at other companies and try to keep their stock price up.
February 3rd, 2009 at 3:40 pm
@km4
sorry, my questions were rather tongue-in-cheek rhetorical, as in whereas 100s, 1000s, 10,000s of Indians would come here for jobs, not many of us would uproot ourselves to move there for a job, even if we could get equity out of our homes and IBM were willing to let us follow our jobs to India at Indian salaries.
February 3rd, 2009 at 4:48 pm
Mannwich Says:
February 3rd, 2009 at 2:21 pm
@ottovbvs: I guess you haven’t read most of my posts in recent weeks and months.
Indeed I have old man. They have been omnipresent after all. Nor do I think Kudlow is anything other than a preposterous shill but there is absolutely no way we are in or likely to be in GD II so I don’t propose to stock up on seed potatoes or amo. The banking system has essentially been stabilized, unemployment is probably going to go to around 10% and will take a time to come back, the market seems to have found a bottom at around 8000 and absent a banking meltdown will probably stay there for at least a year, but were not over a cliff just yet. Your entitled to your view and I’m entitled to mine I guess.
February 3rd, 2009 at 6:31 pm
batmando acknowledged and wholeheartedly agree
February 3rd, 2009 at 7:24 pm
@ottovbvs: I really do hope you’re right, believe me. This is one case where I’d much rather be wrong. If you are right, I’ll be more than happy to admit as much.
February 4th, 2009 at 12:24 am
Man, am I late to this party…
I agree with several comments about real home prices coming down by more than R&R suggest. I’m calling a ~20% fall from current prices in real terms, and not reaching the valley (again in real terms) until 2013 give or take a year. And yes, I’m basing my entire forecast from eyeballing graphs at Calculated Risk.
February 4th, 2009 at 1:23 am
I wanna buy in Oak-town. I heard Too-Short’s neighbor moved out.