It is far too early to render any sort of considered verdict on the economic events of 2010. Judgments about what was economic progress and what was loss, which decisions were prudent and which were foolish will depend on how events unfold in the years ahead. But that doesn’t keep pundits from rendering snap judgments.
So here are mine: 2010 will go down as the “phony recession” interlude in a multi-year economic debacle that still has years to run.
History buffs will recognize the allusion to the “Phony War,” the half-year of virtually no conflict on Germany’s western front following its invasion of Poland in September 1939. That latency ended in May 1940 when German forces crushed the French and British armies opposing them. The war dragged on another five years.
Even pessimists like me, however, need to recognize that, considering some common indicators, 2010 was not a disastrous year. As of the third quarter, the value of goods and services produced, adjusted for inflation, was up 3.2 percent over the same period a year earlier. Inflation itself was just over 1 percent as of November. A million more people have jobs now than a year ago.
The U.S. dollar now buys 10 percent more Euros than at the end of 2009. The Dow is up 10 percent, the Nasdaq more than 18 percent. Surveys show improved confidence for both households and businesses. Corporate profits hit an all-time high in 2010. Wall Street companies made such profits that they reportedly have allocated $90 billion for end-of-year bonuses.
Yes, unemployment remains at 9.8 percent. And yes, the total number of people with jobs is 7.4 million fewer than at Christmas 2007, even though the population and potential labor force have grown.
To put this in perspective, the “misery index,” the sum of the inflation and unemployment rates with which Ronald Reagan taunted Jimmy Carter, remains lower than it was during five of the eight years the Gipper was in office. Some now view that era as a golden one for the economy. The misery index also is lower now than it was for any year of the Ford or Carter administrations.
So, on the numbers, it would be correct to trumpet 2010 as a “year of recovery” even if this met with popular scorn. And whatever the numbers, we should all hope this recovery continues. But the odds are not good.
First, despite high reported profits and high bonuses, many major financial institutions remain shaky, with dodgy assets and as-yet-unrecognized liabilities scattered here, there and everywhere.
Moreover, the economic and political power of the very largest financial firms, including Goldman Sachs and Citigroup, is greater than ever. Two years ago, we reacted to a crisis posed by the potential failure of firms thought “too big to fail without scuttling the economy” by increasing the size and market share of those very firms.
The unprecedented rescue engineered by the Federal Reserve and Treasury in the waning months of the Bush administration may have saved us from falling into an economic abyss, but it also reinforced the idea that big financial companies never will be allowed to fail. Because investors now see these institutions as low-risk because of an implied government guarantee, they now can raise money, either through borrowing or by gathering deposits, at substantially lower cost than smaller institutions.
This ongoing implicit subsidy of some $40 billion per year is the true scandal of the “bailouts,” not the TARP or Fed loans that largely are being repaid. And it is doubly scandalous because the financial sector remains fundamentally as fragile as it was four years ago. We still have a handful of firms that dominate the sector; the failure of any of them could crush the economy.
The exposure in 2010 of the euro’s weakness is another reason for pessimism. This is a train wreck in extreme slow motion, but a wreck nevertheless. Some Americans feel some satisfaction in the confirmation that Europe’s finances were not as virginal as leaders like Angela Merkel or Nicolas Sarkozy smugly implied just a few years ago. But make no mistake. If the Euro system blows up, it will not damage the economies of just the countries involved; it will hurt the global economy. Our nation will not emerge unscathed.
The greatest reason for pessimism, however, lies on the fiscal side. Given the scale of the financial crisis, large budget deficits in fiscal years 2009 through 2011 were understandable. Raising taxes and cutting spending in a recession is not prudent. But we went into this from a bad position.
The national debt relative to GDP fell continuously from the end of World War II through the Carter administration. But using the broader measure of “gross debt,” which includes all federal borrowing, including from the Social Security trust funds, it more than doubled relative terms from 1981 to 1995, rising from 33 percent of GDP to 67 percent. From that point, it fell modestly for six years, to 57 percent in FY 2001. But then with renewed tax cuts and post-9/11 military operations, it again reached 67 percent of GDP before the financial crisis broke out. That means we are on much thinner ice than if we were at the debt levels that prevailed in the 1960s, 1970s or even the late 1990s.
There are other economic clouds on the horizon. The sustainability of China’s boom certainly is one, but the political deadlock that obscures any realistic hope of deficit reduction even if the economy grows is enough to disturb my sleep at night.
© 2010 Edward Lotterman
Chanarambie Consulting, Inc.