midtowng's blog

Why the economy isn't recovering

There has been a lot of talk about a double-dip recession recently by people like Paul Krugman and Nouriel Roubini, how to define it, and what it means. What is missing from these discussions is the most obvious question of all: why won't the economy recover?
Capitalism is supposed to be self-correcting - or so we've been told - and a recession like the one we've had is supposed to be that reset button. So why aren't businesses hiring?
I'm going to try to answer that question in the simplest way possible.

There are two primary reasons why the economy isn't recovering, one reason is cyclical, the other is secular.

Stimulus vs. Austerity

The most heated debate in Washington these days involves deficits and unemployment. There are lots of heated rhetoric, finger-pointing, and hyperbole.
What there isn't is a surplus of actual facts.

For instance, this headline reads "U.S. should cut deficit to spur recovery, IMF says". It implies that cutting the deficit would automatically increase economic growth.
That sounds good to me. The problem is that the IMF never actually says that. In fact, the article spends most of its time warning about a drop in economic growth.

The headline was misleading, as is just about everything said in this debate.

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Chart-worshipers, part-swappers, and inequality

The whispers on Wall Street lately have been the feared "double-dip".
There is a much louder chorus of people proclaiming that we are only looking at a "slow-down". Of course they were the same people who were telling us as recently as April that we were in a "V-shaped" recovery.

Generally speaking, Liz Ann Sonders agrees.
"I'm amazed people still say it's not a 'V'-shaped recovery, which to means they're simply not looking at the charts," says Charles Schwab's chief investment strategist...

Ah, yes. The charts. I have several issues with people who say things like this.

Austerity and Class War

The Republican's filibuster of the "tax extenders" bill will have severe economic consequences.
Moody's is predicting the loss of 200,000 jobs. Nomura Securities says it will knock 0.4% off of the GDP.
A good 2 million unemployed families will have their last financial lifeline cut by the second week of July. The suffering of these families is about to increase many fold.

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In midst of the outcry from the struggling working class, came this statement from Sen. Debbie Stabenow (D-Mich.):

"It is very clear that the Republicans in the Senate want this economy to fail. They see that things are beginning to turn around.... In cynical political terms, it doesn't serve them in terms of their election interests if things are beginning to turn around."

Now I like conspiracy theories more than most, maybe even too much, but I also recognize that describing a political opponent in 2-dimensional terms with evil intent is usually an indication of something missing from your theory.

What is missing here is the concept of class interests.

State budget crisis getting critical

The 2011 fiscal year for 46 states begins in 10 days. In many cases it is a countdown to financial doom.
Despite what you may have heard from conservative sources, state and local government have been cutting and cutting. 231,000 state and local government jobs have vanished since August 2008 - 22,000 in just the past month. Most of those jobs were at the local level, such as police, firefighters, and school teachers.

The fat has already been trimmed. The muscle has been cut into. There is nothing left to cut but bone.
At least 19 states are getting the saws ready, because knives won't cut bone.

According to Mark Zandi, the chief economist at Moody’s, states are facing a budget gap of $180 billion next year. The shortfall could lead to the destruction of 900,000 jobs at the state level, an employment source that is often thought of as an economic safety net.

Up to 300,000 of those laid off will be school teachers, and some estimate the total number of government workers to be let go in the 1-to-2 million range.

The Black Swans of Europe

The financial news from Europe is getting increasingly distressing.
A new EU report warns that economic conditions in Portugal and Spain could "result in a high ‘snowball’ effect on the government debt.”
French financial group AXA says "there is a fatal flaw in the system and no clear way out." They are predicting the Eurozone to break in half or completely disintegrate in the next 18 months.
Over 13% of Europe's investors are betting on a Black Monday-style collapse in stock prices (think 1987).

Greek contagion spreading to Spain

Discussion of the economic crisis in Europe has been largely confined to Greece and how it effects the Euro. All that changed this week.
It all started with the Spanish banks at the start of the week.

CajaMurcia, Caja Granada, Sa Nostra, and Caixa are joining together in a SIP (System of Integrated Protection), which will combine bank reserves and result in a firm worth €100 billion, according to Cotizalia.
This comes after yesterday's announcement that four banks, Cajastur, Caja de Ahorros del Mediterráneo, Caja Extremadura, and Caja Cantabria were merging under a similar agreement.
All of this started with the weekend's €530 million bailout of CajaSur, and is sure to continue as Spain tries to sure up its banking sector under IMF pressure.

Sudden mergers of major banks, following a major bank bailout, is very suspicious. The markets noticed, and two days later the Spain's central bank was forced to act.

Shrinking money supply and collapsing housing market

"By allowing persistent declines in the money supply and in the price level, the Federal Reserve of the late 1920s and 1930s greatly destabilized the U.S. economy and the economies of many other nations as well.
- Federal Reserve Governor, Ben Bernanke, 2004

Ben Bernanke, Nobel Prize winner Milton Friedman, and most other economists out there agree that the reason the Great Depression was so deep and destructive was that the Federal Reserve failed to keep the money supply from shrinking. I'm a little more skeptical, but I agree that it would be impossible for an economy to grow without a growing supply of money in a debt-based monetary system.
That's why this news article should be extremely distressing.

The stock of money fell from $14.2 trillion to $13.9 trillion in the three months to April, amounting to an annual rate of contraction of 9.6pc. The assets of insitutional money market funds fell at a 37pc rate, the sharpest drop ever.
"It’s frightening," said Professor Tim Congdon from International Monetary Research. "The plunge in M3 has no precedent since the Great Depression. The dominant reason for this is that regulators across the world are pressing banks to raise capital asset ratios and to shrink their risk assets. This is why the US is not recovering properly," he said.

As our political and financial leaders are using every tool at their disposal to jump-start the economy, there are fewer and fewer dollars in circulation. That's not a prescription for a growing economy. It's a prescription for economic disaster.

Rethinking the Political Economy

One of the most misused and abused terms in language today is "free market".
The definition of a free market is business governed by supply and demand, and not restrained by government regulation or subsidy.
This definition is often used in conjunction with environmental regulation and minimum wage laws, but almost never with trade between firms and corporations. Which is the problem, because without government protections this "free market" wouldn't exist.

The Ouzo Effect Redux

When the stock market plunged 1,000 point in half of an hour on Thursday, the immediate rumors were of a "fat finger" trader who punched in $16 billion instead of $16 million. It's a disturbing idea, that a single trader could cause such financial destruction, but its better than the alternative - that the stock market plunge happened while the markets were functioning the way they were supposed to.

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