Monday, October 6, 2008

Things are certainly bad... but they're not that bad

I recently tried to allay fears (for those few people who actually held them) that particle physics experiments at the Large Hadron Collider would inadvertently cause the end of the world. Well, it seems that we've found the economic equivalent of the Large Hadron Collider fear: the start of another Great Depression.

According to a poll by CNN, 60% of Americans view the prospect of a depression "likely". This view contrasts sharply with that of most economists, including those quoted in the CNN article:
"We've been in a recession all year and it's going to get worse," said Anirvan Banerji, director of research for the Economic Cycle Research Institute. "We're going from a relatively mild recession to a more painful recession. But we're a long, long way from a depression."
Most people use the term "recession" generally, to describe a weak economy. Conversely, economists tend to use terms like "recession" and "depression" sparingly, and only when the situation meets specific criteria. A recession, for example, is defined as "two consecutive quarters of falling GDP". This is why many economists said we weren't in a recession for most of the past year.

Depressions, of course, are much worse. While recessions typically last between 6 and 18 months, depressions last for several years. The Great Depression, for example, was characterized by severe declines in economic performance:
"During the Depression, unemployment was 25% and wages (for those who still had jobs) fell 42%. Total U.S. economic output fell from $103 to $55 billion and world trade plummeted 65% as measured in dollars."
Additionally, bank failures lead to millions of people losing their savings and widespread homelessness. Fortunately, that experience contrasts sharply with today. Several banks have failed (IndyMac, WaMu, Wachovia, etc), but their deposits are insured by the FDIC, which has helped facilitate buyouts of these failed institutions by solvent companies. As a result, customers didn't lose their deposits. Similarly, unemployment is currently around 6% and most "worst case scenario" forecasts have it topping out in the 10-12% range. I don't want to minimize the actual suffering that this has and will continue to cause. But it's important to recognize the distance between this crisis and the Great Depression. (For more on this, check out this piece by Robert Samuelson).

Why is there such a disconnect between economists and the general public? One reason probably has to do with terminology. When economists say we won't have a depression, they're usually referring to the fact that 25% unemployment and mass poverty are unlikely, not that things aren't (or won't be) bad.

But another reason is the way the debate has been cast. As Dean Baker notes, the Bush administration made dire predictions (largely unchallenged by the media) of what would happen if the bailout package wasn't passed:

"Remember way back to last week when it was going to be the end of the world if Congress didn't pass the bailout package? Remember the Washington Post's account in which Treasury Secretary Henry Paulson told President Bush, 'there is no Plan B.'

Well, it looks like the Fed has discovered a Plan B. It turns out that the Fed can buy commercial paper directly from non-financial corporations needing credit to maintain operations. This will keep the credit markets working even if the zombie banks aren't up to the task. In other words, the threat of a complete meltdown in the absence of a bailout was nonsense and the media once again got taken for a ride by the Bush administration."

One of these days people are going to stop believing this administration when it says there will be doom if we don't expand its powers.

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