We may be in for a long slide. But there are also reasons to think the economy could rebound quickly.
FROM THE WALL STREET JOURNAL | DECEMBER 26, 2008
The recent economic news has been dismal, and it's now almost universally assumed things will get worse before they get better. Conventional wisdom also dictates that this recession will be longer, deeper and cause more long-term pain than any financial crisis since the Great Depression.
Yet, less than two years ago, conventional wisdom dictated that the housing bubble would be painful but that global economic growth would remain stable. That assertion was proved dramatically incorrect. Why then is there so much conviction in today's forecasts of a dire future?
Predictions about the rate of unemployment by the end of 2009 are based on how high that rate went during and after other recessions, and how steep those recessions were compared to today. Forecasts of GDP growth are grounded in the nature of past contractions and how long it took the system to begin expanding again. But none of these past patterns are necessarily a useful guide to the circumstances of today. The way events have unfolded over the past few months simply has no precedent.
It's common to hear comparisons to the Great Depression, when economies around the globe shrank precipitously, or to the 1970s, when an oil shock gave way to steep contraction of GDP growth in the developed world and a concomitant collapse in energy prices. But those occurred over the course of years. What happened since the collapse of Lehman on Sept. 15 was a global, synchronous cessation of all but nondiscretionary economic activity in the wake of the near-collapse of global credit markets. And it happened over the course of weeks, not years. Data from October and November show shrinkage of 10%, 20% and often considerably more in corporate earnings, car sales, home prices, commodities and a host of other areas. But analysts and strategists now take this as the "new normal" and are projecting into 2009 and beyond as if it were.
True, this global halt is the dark side of the information technologies and globalization that have created so much wealth and generated so much activity in the past 20 years. The frictionless, instantaneous flow of capital is possible only because of the Internet and electronic exchanges. The supply chain for industrial metals, from copper to iron ore, has gone from being regional and fragmented to global and unified. Semiconductors have become one global industry with pricing and inventories determined based on aggregate world-wide demand. Few industries are local, and almost everything is linked.
In good times, that meant credit expanded and activity magnified geometrically. China for one has undergone more transformation in 20 years than most countries have seen in 100. But when the system was infected with toxic assets, the effects spread everywhere and fast. The collapse of Lehman led to fewer cars being sold in China in a matter of weeks, and the decline of Dubai real-estate prices to boot.
And yet, if things came to a halt more quickly than ever before, they could also restart more quickly than ever before. This is not to say they will, only that the possibility is more than marginal. And there are signs things are not everywhere as bad as conventional wisdom suggests.
First, we haven't seen war, revolution, the collapse of states and governments or massive demonstrations sweeping the globe. Crowds have demonstrated in China, Greece and Thailand -- for reasons sometimes related to the economic crunch and sometimes not. Pakistan is teetering for multiple reasons -- of which economics is only one. But major economic crises in the 20th century almost always led to those types of major breaks, especially during the 1930s. While no one can say whether they will come in the months ahead, for the time being we should be remarking on how relatively stable things are in light of what has happened.
Second, consumers in many parts of the world are in relatively good shape. That statement might strike many as absurd, given the mantra of "consumers have been living beyond their means." But it's not just the third of American households that have no mortgage, or the 50% savings rate in China, or the still massive wealth accumulation in the Gulf region, Brazil and Russia. It's that the credit system, even at its most promiscuous, didn't allow consumers to take on the obscene leverage that financial institutions did. Millions of people who shouldn't have been lent money were, either in mortgages or through credit cards. But they couldn't be levered 40-to-1 as investment banks and funds were.
People have also reacted swiftly to the current problems, paying down debt and paring back purchases out of prudence or necessity. That's a short-term drag on economic activity, but it will leave consumer balance sheets in good shape going forward. Low energy prices and zero inflation will boost spending power. Even if unemployment reaches 9% or more, consumer reserves in the U.S. and world-wide are deeper than commentary would suggest. Household net worth in the U.S. is down from its highs but is still about $45 trillion. As the credit system eases, historically low interest rates also augur debt refinancing and constructive access to credit for those with good histories and for small business creation in the year ahead. Entrepreneurs often thrive when the system is cracking.
In addition, corporations generally have very clean balance sheets with little debt and lots of cash, unlike the downturns in 2002 and in the 1980s. And government has more creative ways to spend, which both the current Federal Reserve and the incoming Obama administration intend to do.
The last months of 2008 will go down as one of the most severe economic reversals to date, and on a global scale. But it is foolish to assume that this period provides a viable guide to what lies ahead.
The rush to declare the future bleak has obscured the fact that no one knows the outcome of an unprecedented event. No one. The worst course in the face of uncertainty is blind faith in conventional wisdom and past patterns. The best is to stay humble in the face of the unknown, creative and unideological about solutions, and open to the possibility that as quickly as things turned sour they can reverse.