Macro Corner 2011
Drifting Along…Going Sideways
Hello once again as I greet you from hot and steamy North Carolina. Not only is the heat inescapable, but so is the feeling of drift. The economic currents slowly push the stream toward the sea and yet lead us nowhere for no good reason. You row your boat and pull the oars and the dock is no further away than when you launched the boat. It seems we are caught in the frozen years and perhaps even in the middle of a Japanese “lost decade”. In times like these a little historical perspective is just the thing we need to try and understand not necessarily why we are here (much has been said regarding that) or where we are going (that’s hard to know), but rather how long it may take to get there.
To this end there is a remarkable book published in 2009 titled This Time is Different by Reinhart and Rogoff. This masterpiece of historical economic analysis takes a sample of 800 years of financial and economic data and examines trends that occurred after every financial crisis we have had during that time period. Note the sarcasm in the title. Every boom and bubble has people repeating the same mantras: “all the old rules no longer apply”, “this is a new world with different fundamental principles of valuation”, “this time is different!” But it never is. The only thing new in the world is the history you forgot or never knew in the first place. All asset bubbles fed by leverage and cheap credit end up splattered on the wall of economic history... every single one without exception. And the story is always the same in someone’s sick macroeconomic replay of Groundhog Day… leverage + asset bubbles + believing “this time is different” = SPLAT. Hey but why fret. It is going to happen again, trust me. It is only a question of when.
Anyway, the findings of Rhinehart and Rogoff are juicy gems. Their research reveals:
1. In the aftermath of financial crises there is a 35.5% average decrease in real housing prices with an average duration of 6 years. So want to know when housing might recover? Probably not before 2013 if then, on average of course.
2. In the aftermath of financial crises there is a 55.9% decrease in real equity prices with an average duration of 3.4 years.
3. In the aftermath of financial crises there is a 7% average increase in the unemployment rate with an average duration of 4.8 years. We just about made this and I would bet we beat that duration.
4. Real public debt increases 86% in the three years following the crisis.
5. When the privately held government debt-to-GDP ratio crosses the 90% threshold, there is a reduction, on average, of 1% in the long-run trend growth rate of GDP of that country. This statistic should make you lose sleep at night. We are fast approaching this important benchmark.
So I guess the upshot is we are not out of the woods and have years to go to get out of the fever swamp we went through in 2008. Just remember, if we lose 1% on our long-run growth trend, there is not a chance in this world we will meet all the promises we have made over the next 50 years…and even less chance your children will have a better economic life than you. Let’s swear off asset bubbles and leverage. That would be a great start.
Have a great day,
Dr. Doom, I mean Dr. Parker.