[p2p-research] Anemic and Deflationary Recovery

[Ryan]

  Sent to you by Ryan via Google Reader: Anemic and Deflationary
Recovery via Early Warning by Stuart Staniford on 7/12/10

Buried in this post by Invictus over at the Big Picture, is the above
amazing graph, showing final sales of domestic product following
various economic peaks immediately prior to recessions. This is in real
(ie inflation adjusted) terms, and I double-checked a couple of the
curves myself from the raw data since I was having a little trouble
believing it. Obviously, one thing going on here is that US economic
growth has generally not been as strong in the last couple of decades
as it used to be back in the 50s and 60s.

But the larger issue is that basically there is no real recovery
following the great recession.

Paul Krugman also has a very interesting post looking at what the
inflation data looks like if you don't use the year-over-year changes
normally used (which are a lagging indicator during turning points),
but instead look at the month-over-month changes (annualized), and just
fit a trend-line to them to cancel out noise. For one particular
inflation measurement, he gets:

Not a pretty sight.

So this is deleveraging at work. And of course deflation is the worst
possible thing to happen when you are trying to deleverage, as it makes
the real value of debt steadily greater over time, making it even more
difficult to repay.

Krugman's snarky comment at the end of the post inspired me to go
reread Ben Bernanke's famous 2002 speech Deflation: Making Sure "It"
Doesn't Happen Here. In it, he argues that there are always ways for
the central bank to inject money into the economy and prevent
deflation. In discussing why Japan was nonetheless unable to prevent
deflation from occurring, Bernanke said:
First, as you know, Japan's economy faces some significant barriers to
growth besides deflation, including massive financial problems in the
banking and corporate sectors and a large overhang of government debt.
Plausibly, private-sector financial problems have muted the effects of
the monetary policies that have been tried in Japan, even as the heavy
overhang of government debt has made Japanese policymakers more
reluctant to use aggressive fiscal policies (for evidence see, for
example, Posen, 1998). Fortunately, the U.S. economy does not share
these problems, at least not to anything like the same degree,
suggesting that anti-deflationary monetary and fiscal policies would be
more potent here than they have been in Japan.

Second, and more important, I believe that, when all is said and done,
the failure to end deflation in Japan does not necessarily reflect any
technical infeasibility of achieving that goal. Rather, it is a
byproduct of a longstanding political debate about how best to address
Japan's overall economic problems. As the Japanese certainly realize,
both restoring banks and corporations to solvency and implementing
significant structural change are necessary for Japan's long-run
economic health. But in the short run, comprehensive economic reform
will likely impose large costs on many, for example, in the form of
unemployment or bankruptcy. As a natural result, politicians,
economists, businesspeople, and the general public in Japan have
sharply disagreed about competing proposals for reform. In the
resulting political deadlock, strong policy actions are discouraged,
and cooperation among policymakers is difficult to achieve.So far, both
factors seem to be just as operative in the US in 2010 as they were in
Japan in 2002. It will be interesting to see if policy-makers are able
to mount a materially better response as the situation grinds on.
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