Download The Next Great Depression? Not Likely

The Current Economy:
From an Economic
Historian’s
Perspective
Price Fishback
University of Arizona
Copyright, Price Fishback, April 26, 2012.
1
Spectacular Meltdown Last Fall
• in the Financial Sector in 2007-2008
– Stock Market Halved in Value
– Wall Street Investment Banks are gone or are now
Commercial Banks
– Large slug of toxic assets on books of financial
institutions
• Towers of MBSs, CDOs, CDSs built on mortgages, with
houses as collateral
Copyright, Price Fishback, April 26, 2012.
2
Constant References to
the Great Depression
• Worst Financial Crisis Since the Great
Depression
• Worst Downturn since the Depression
– Still Questionable
• Here is Why This is Not the Next Great
Depression
Copyright, Price Fishback, April 26, 2012.
3
Modern Unemployment Rates
• Since December 2007
• Unemployment Rate has risen from 4.9 to
around 9.7 percent in July
• Before Thinking About the Great Depression
Consider the Late 1970s and Early 1980s
Copyright, Price Fishback, April 26, 2012.
4
Unemployment Rate, 1948-2011
12
Fed Chair Volker Wrings Inflation
Out of System
10
8
6
4
2
0
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
unemployment rate
Copyright, Price Fishback, April 26, 2012.
5
The Great Depression
Unemployment Rate, 1929-1940
30
Peak above 25 percent
Percent of Labor Force
25
20
15
10
Above 10 percent Every Year in 1930s
5
0
1929
The Unemployment Rate in U.S. above 10 % only
one other year in U.S. History
1930
1931
1932
1933
1934
1935
1936
1937
1938
1939
1940
Year
Copyright, Price Fishback, April 26, 2012.
6
Employment Rate
65
64
63
62
61
60
59
58
57
56
55
54
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
Employment Rate
Copyright, Price Fishback, April 26, 2012.
7
Growth Rate in Real GDP by Quarter
5
4
3
2
1
0
1946-07-17
1954-10-03
1962-12-20
1971-03-08
1979-05-25
1987-08-11
1995-10-28
2004-01-14
2012-04-01
-1
-2
-3
-4
Since 1984 three of the five longest periods without a recession
In American Economic History
Growth Rate in Real GDP
Copyright, Price Fishback, April 26, 2012.
8
Real GDP in 1958 Dollars
240
220
1958 Dollars
200
180
160
140
Produced 30 % Less in 1933 than in 1929
120
100
1929
1930
1931
1932
1933
1934
1935
1936
1937
1938
1939
1940
Year
Copyright, Price Fishback, April 26, 2012.
9
1932 and 1933 GDP Output Loss Equivalent to
Shutting Down Production West of Mississippi
Copyright, Price Fishback, April 26, 2012.
10
Real GDP Per Capita, 1948-2011
50000
45000
40000
35000
30000
25000
20000
15000
10000
5000
0
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
Real GDP per cap
Copyright, Price Fishback, April 26, 2012.
11
CPI Inflation Rate
25.0
Nasty
Inflation
Late 70s,
Early 80s
20.0
15.0
10.0
5.0
0.0
Terrible
Deflation
in 1930s
Hurts Borrowers
-5.0
-10.0
-15.0
1910
1920
1930
1940
1950
1960
1970
Copyright, Price Fishback, April 26, 2012.
1980
1990
2000
2010
12
Compare to late 1970s early 1980s
Civilian Unemployment Rate, Inflation, and Misery Index, 19652006
Huge Success
25.0
Inflation rate around 3 percent
Misery Index
Percent
20.0
15.0
Unemployment Rate
10.0
5.0
0.0
1960
Inflation Rate
1965
1970
1975
1980
1985
Year
1990
Copyright, Price Fishback, April 26, 2012.
1995
2000
2005
2010
13
Is Stock Drop Similar?
• November 2007 through February 2009 Cut in
Half.
– Has Recovered to 90% of peak
• Stock Market Dropped by Half between
October 1929 and October 1930 – 12 months
• Unlike Today
– In the 1930s, Market Dropped to 11% of the 1929
peak in the middle of 1932.
– Corporate Profits were negative for U.S
Copyright,
Price Fishback, April 26, 2012.
14
– Net Investment
negative
Dow Jones Ind. Avg. Past 10 Years
www.bigcharts.com
Copyright, Price Fishback, April 26, 2012.
15
1920-1940
http://stockcharts.com/charts/historical/djia1900.html
Rise is even
Bigger than it
Looks because
Of the log scale
Copyright, Price Fishback, April 26, 2012.
16
Peaks and Troughs in S&P 500 Stock Index
1957-2011
Date
Months
Date of
Date of
Prior Peak
Trough
Peak Value
7/15/1957 10/22/1957
49.13
12/12/1961 6/26/1962
72.64
2/9/1966 10/7/1966
94.06
11/29/1968 5/26/1970 108.37
1/11/1973 10/3/1974 120.24
9/21/1976
3/6/1978 107.83
11/28/1980 8/12/1982 140.52
8/25/1987 12/14/1987 336.77
7/17/1998 10/8/1998 1186.75
3/14/2000 10/9/2002 1527.46
10/9/2007
3/9/2009 1565.15
Trough
Value
38.98
52.32
73.20
69.29
62.28
86.90
102.42
223.92
959.44
776.76
676.53
Percent
Drop
-20.7
-28.0
-22.2
-36.1
-48.2
-19.4
-27.1
-33.5
-19.2
-49.1
-56.8
Copyright, Price Fishback, April 26, 2012.
Reached to Reach
Peak
Next
Again
Peak
9/16/1958
11
9/3/1963
15
5/4/1967
7
4/15/1972
23
7/17/1980
79
8/15/1979
17
11/3/1982
3
7/26/1989
20
11/23/1998 1.5
5/30/2007
43
Now 1400
17
Bank Failures and Fed Response
in 1930s
• Bank Failures
• 1920-1929 Average of 630 banks a year failed
– Small unit banks lost about 0.7 % of deposits
• 1930-1933 Lost 7,200 banks
• Much bigger banks,
• Major bank runs.
• FED Response
• Ineffective discount rate cut--due to deflation
• Waited until 1932 for large purchase of bonds
Copyright, Price Fishback, April 26, 2012.
18
Comparison
• During Great Depression, It took the Federal
Reserve
– 3 years
– a rise in unemployment to over 20 percent
– and a decline in annual output of 25 percent
– before the emergency moves were made?
• Fed Chair Bernanke is a Student of the
Depression.
• What have he, Paulson, and Geithner Done?
Copyright, Price Fishback, April 26, 2012.
19
Bernanke Policy
A federal funds rate near zero
FED has Flooded the System with Cash
FED and Treasury have taken ownership stakes
in banks and AIG
Guarantees on Bear Stearns and in many other
places.
This happened all before the unemployment
rate made it to 7 percent.
Copyright, Price Fishback, April 26, 2012.
20
Experimentation?
• Uncertainty Delays Long-Run Decisions
• 1929 Crash and current Crash strong negative
effect on
• Purchases of autos, houses, other consumer durables
• Investments in new plant and equipment
• Serious problems with Constant Policy Change
in 1930s
– Higgs, Shlaes
Copyright, Price Fishback, April 26, 2012.
21
INFLATION WORRIES FLOOD OF FED ASSETS
Federal Reserve Assets (Uses of Funds)
$ billions
2,400
2,200
Agency & MBS
Lending to Nonbanks Credit Mkts
2,000
Short-term Lending to Financials
1,800
Treasuries
Misc.
1,600
1,400
1,200
1,000
800
600
400
200
Dec-07
Feb-08
Apr-08
Source: Federal Reserve Board
Jun-08
Aug-08
Oct-08
Dec-08
Copyright, Price Fishback, April 26, 2012.
Feb-09
Apr-09
Jun-09
22
Auto Bailout Today/RFC Railroad
Bailouts in 1930s
• RFC gave loans to some RRs, while some went
into bankruptcy
• Guess which ones spent more on maintenance
and improvements in capital stock
Copyright, Price Fishback, April 26, 2012.
23
Challenges for the Future
•
•
•
•
•
•
Search for Security
Gigantic Budget Deficit
Will the Stimulus Work?
Controlling Inflation
Social Security and Medicare
Health Care Issues
Copyright, Price Fishback, April 26, 2012.
24
Surplus/Deficit as Percent of GDP
6.0
4.0
2.0
0.0
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
-2.0
-4.0
-6.0
-8.0
-10.0
-12.0
Surplus/Deficit as Percent of GDP
Side Note: New Deal
was
not
Keynesian
nor was WWII
Copyright,
Price
Fishback,
April 26, 2012.
25
Federal Debt as Percentage of GDP
100
90
80
70
60
50
40
30
20
10
0
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
Federal Debt as Percentage of GDP
Copyright, Price Fishback, April 26, 2012.
26
Keynesian Deficit Multipliers
• Pre 1970s– Samuelson Text – 2 or 3.
– Federal Deficit of $1, Real GDP up 2 or 3.
• Backlash from Friedman. Crowding out of
Private Investment and Employment.
• Majority of Economists these Days would put
multiplier between 0.5 and 1.5
• Christina Romer, Chair of Presidents CEA and Mark
Zandi at Moodys.com around 1.5
• Robert Barro at Harvard around 0.8, long run zero.
Copyright, Price Fishback, April 26, 2012.
27
New Deal Multiplier
• Fishback-Kachanovskaya Study of State
Income and Net Federal Spending in 19331939
• Expect the largest multiplier in the Great
Depression because unemployment over 14%
• Do Not Find a Robust Number
• Range is 0.03 to 1.76 depending on
assumptions (all are reasonable).
Copyright, Price Fishback, April 26, 2012.
28
Social Security Worries
• Pay-as-you-Go System
– Current Tax Revenues Fund Soc. Sec. pensions
– Have also been funding other govt. programs
– With Soc. Sec. Tax collections, deficit much bigger.
– Same True of Medicare collections
Copyright, Price Fishback, April 26, 2012.
29
Iron Law of Pay-Go
tax rate = Benefit Rate/Wage Rate * Recipients/Working Pop.
•
•
•
•
Currently tax rate is = .12
Benefit Rate/Wage Rate is 0.4
Recipients/Working Population is 0.28
Still an annual surplus.
–
t = .12 > 0.4 * 0.28
• 2030 Recipients/Working Population is 0.4
– Current tax rate = .12 Less than (0.4) * (0.4) = 0.16
Copyright, Price Fishback, April 26, 2012.
30
Solutions
• tax rate = Benefit Rate/Wage Rate * Recipients/Working Pop.
• Solutions
– Raise tax rate to 0.16 (8% worker/ 8% employer)
• History of doing this (original 1%/1% now 5.5%/5.5%)
– Lower Benefit Rate
• Done in 1970s
– Lower number of Recipients by raising retirement age
• Rise from 65 to 67.
• Lowers lifetime benefits
– Raise Working Population
• Increase immigration
Copyright, Price Fishback, April 26, 2012.
31
Medicare Problem
• People even more worried about the
Medicare problem because of the great
uncertainty about containing health costs
Copyright, Price Fishback, April 26, 2012.
32
Does the Rest of the World Spend
More on Social Welfare
• Social Welfare Spending
– Health, unemployment, poverty relief, disability
pay, retirement, etc.
• Comparison to the Nordic Countries
– Third Way
• Different Philosophies
– Nordic Universal
– U.S. Safety Net
Copyright, Price Fishback, April 26, 2012.
33
45
Standard Picture
Gross Public Social Welfare Spending as a
Percent Relative to GDP,
1993-2003
40
Sweden
35
Denmark
Norway
Finland
30
25
Denmark
Finland
Norway
20
United
States
15
Sweden
United States
10
5
0
1993
1995
1997
1999
2001
Copyright, Price Fishback, April 26, 2012.
2003
2005
34
Net Public Social Welfare Spending as
Percentage Relative to GDP,
1993-2003
45
40
35
30
Denmark
25
Finland
Norway
20
USA
15
10
5
0
1993
Sweden
United States
Subtract out 28 percent tax on Benefits and
Over 20 percent consumption tax for Nordic
US only 5 and 7 (respectively) than add tax subsidies in U.S.
EITC,
Nordic Fall
toward
US. 2001
1995
1997
1999
2003
2005
Copyright, Price Fishback, April 26, 2012.
35
Net Public and Private Social Welfare
Spending as Percent Relative to GDP,
1993-2003
45
40
35
30
USA
25
Denmark
Finland
Norway
20
Sweden
United States
15
10
After Add Net Private U.S. Jumps to Middle
and by 2003 is higher than all but Sweden
5
0
1993
1995
1997
1999
2001
Copyright, Price Fishback, April 26, 2012.
2003
2005
36
Per Capita NET PUBLIC Social Welfare
Spending in 1990 GK Dollars Purchasing
Power Parity, 1993-2003
8,000
7,000
6,000
USA
5,000
Denmark
Finland
4,000
Norway
Sweden
3,000
2,000
1,000
0
1993
United States
As U.S. Real GDP is higher, Per Capita Net
Public Spending in U.S. rises within $800
of Sweden's, even with Denmark
1995
1997
1999
2001
Copyright, Price Fishback, April 26, 2012.
2003
2005
37
Net Public and Private Social Welfares
Spending Per Capita in 1990 KG Dollars
Purchasing Power Parity, 1993-2003
USA
8,000
7,000
6,000
5,000
Denmark
Finland
4,000
Norway
Sweden
3,000
2,000
1,000
0
1993
United States
Add in Private Spending and U.S. Per Capita
Spending is Above All of the Nordic
Countries
1995
1997
1999
2001
Copyright, Price Fishback, April 26, 2012.
2003
2005
38
Estimate of Income per Equivalent Person in
Households at the 10th Percentile and
the 90th Percentile in 2000 U.S. Dollars, PPP
10th
Percentile
90th
Percentile
Finland
9,300
27,100
Sweden
9,300
27,600
United States
9,500
51,300
Copyright, Price Fishback, April 26, 2012.
39
Problem for U.S. Arises in the Average
for the HHs in Bottom 10 %
• U.S. average is $5,800 in 2005
• Nordic Average is $8,000 in Finland to $12,000
in Norway.
Copyright, Price Fishback, April 26, 2012.
40
Holes in the Safety Net
• Surprisingly large share of eligible not getting
benefits
– Why?
– Is it lousy information flow from government?
– Is it difficult barriers to eligibility?
– Is it choice by eligible not to collect?
Copyright, Price Fishback, April 26, 2012.
41
The Health Safety Net
– Personal Insurance
– Employer-Based Insurance
• No taxes on health insurance
– Medicare for the Elderly
– Medicaid for the Poor
– Child Health Insurance Program (CHIP) for the
Near Poor
– Direct Payment for Health Services
– Hospital and Doctor Charity Care
– Emergency Room
Copyright, Price Fishback, April 26, 2012.
42
Facts About Health Care
•
•
•
•
•
U.S. spent 15.8% of GDP on Health Care
Other countries
French spent 11, Swiss spent 10.8, Ger. 10.5
UK 8.5, Sweden 9.1, Finland 8.3
U.S. PUBLIC expenditures on Health Care were
7.1 % of GDP (45% of the 15.8% figure)
– We spend almost as much on poor and elderly as
rest of world spends on
Copyright, Price Fishback, April 26, 2012.
43
US Spends a Lot for Elderly
Ratio of Health Care Expenditures by Age
Group Relate to ages 50-64 in 2002
Hagist and Kotlikoff, “Who’s Going Broke”, 2005
Copyright, Price Fishback, April 26, 2012.
44
Who Are the Uninsured?
• Employment Policy Institute Study by June
O’Neill and Dave O’Neill of Baruch College
• 47 million (16% of pop) uninsured by anybody
• Elderly almost all covered by medicare
• Children access at 200% of federal poverty line in AZ
• Focus on 18-64 38 million uninsured
– Roughly 16 million have incomes > 2.5 times
poverty line
– Described as voluntarily uninsured
Copyright, Price Fishback, April 26, 2012.
http://www.epionline.org/studies/oneill_06-2009.pdf
45
Look at “Involuntary Uninsured”
• 21.6 million with less than 2.5 times poverty
level are uninsured.
• Of those
– 55 percent in households with no kids
– 42.4 % White, 34.7% Hispanic, 16.6% black
– 51.7 % 18-34, 22% 35-44
– 38 % did not work in prior year
– 58 % family income less than $20,000.
– Less Educated
Copyright, Price Fishback, April 26, 2012.
46
State Variation in 2006
• States with highest percentage of uninsured
among people with incomes < 2.5 fed pov.
Line
• NM 20, TX 18.4, OK 18.3, MS 18.3, AR 17.7
• LA 16.4, AZ 15.9, FL 15.8 AL 15.3
• States with lowest %
• MN 6.6, VT 5.6, HA 6.9, CT 5.9, MA 6.4
Copyright, Price Fishback, April 26, 2012.
47
Effects on Probability of Having
Insurance Holding All Else Constant
– Rise in health premium of $1000
• lowers the probability of insurance by 32% for
unmarrieds with no children
• Lowers probability by only 2.7 % for marrieds with
children
– Hispanics
• with children 10 % less likely than white non-Hispanics
to have insurance
• without children 13 percent less likely
Copyright, Price Fishback, April 26, 2012.
48
Fundamentals of Insurance
• Insurance works best when pool known risks
that are similar and independent of each
other
• Mutual arrangement of everyone in room.
• If risks not known, works less well
Copyright, Price Fishback, April 26, 2012.
49
Insurance Problems
• Adverse selection
• End up with large share of high risks
• Moral Hazard More protection allows people
to take more risks
Copyright, Price Fishback, April 26, 2012.
50
Reforms
• Development of Universal Coverage in Other
countries very Path Dependent
• Britain National Health care came out of WWII shift to
National Hospital
• Netherlands employer private-insurer based.
Copyright, Price Fishback, April 26, 2012.
51
Problems
• Problems stem from Asset Value Problems.
• Large Share of Troubled Assets Based on
Mortgages
– Assets because flow of payments
• House itself is collateral
– Backed by the value of the House
Copyright, Price Fishback, April 26, 2012.
52
Housing Problems
• Problems stem from Asset Value Problems.
• Large Share of Trouble Assets Based on
Mortgages
– Assets because flow of payments
• House itself is collateral
– Backed by the value of the House
Copyright, Price Fishback, April 26, 2012.
53
Housing Prices More than Doubled in Major Markets
, 2000 to 2006. Have fallen back to 150% of 2000 peak
Case-Shiller Housing Price Index, 10 Cities Through June 2009
250.00
200.00
150.00
100.00
50.00
0.00
March 1986 December 1988
September 1991 June 1994
March 1997 December 1999
September 2002 May 2005 February 2008
Copyright, Price Fishback, April 26, 2012.
54
WSJ
11/12/08
Copyright, Price Fishback, April 26, 2012.
55
Key Assets Involved
• All were attempts to Spread Risk and Minimize
it.
– Mortgage Backed Securities (MBS)
• Just like a stock fund
• Own a whole group of mortgages
– Collateralized Debt Obligation (CDO)
• Fund made up of MBSs
– Credit Default Swaps (CDS)
• Insurance on the CDOs
Copyright, Price Fishback, April 26, 2012.
56
AIG Credit Default Swap
• Goldman owns a CDO and pays insurance
premium to AIG to cover CDO
• If bunch of mortgages default and MBS and
CDO fall sharply in value, AIG pays Goldman
and takes over CDO
Copyright, Price Fishback, April 26, 2012.
57
Posting Collateral for CDS
• The Big Risk that AIG never Expected with
respect to Credit Default Swap
• If AIG’s market value falls, CDS requires that
they post collateral to prove that they can
cover the CDS.
– AIG was so big, no one ever thought that they
would ever have to post collateral
•
Copyright, Price Fishback, April 26, 2012.
58
The Perfect Storm
• Plenty of Blame to Go Around
• Stock Bust early 2000s led People to Invest in
Housing as Asset
• Greenspan interest cuts than rises
• Increase in Federal Government pressures on
Freddie Mac and Fannie Mae to purchase
subprime loans
– subprimes from 5 to 20 percent of market
Copyright, Price Fishback, April 26, 2012.
59
The Perfect Storm
• Plenty of Blame to Go Around
• Stock Bust early 2000s led People to Invest in
Housing as Asset
• Greenspan interest cuts than rises
• Increase in Federal Government pressures on
Freddie Mac and Fannie Mae to purchase
subprime loans
– subprimes from 5 to 20 percent of market
Copyright, Price Fishback, April 26, 2012.
60
How Did We Get There?
• Change in lending standards
• Ratings Agencies Overly Optimistic
• Accounting Rules for Regulatory Purposes
– Shifts in Valuing Assets
• Move from Book Value to Mark to Market
Copyright, Price Fishback, April 26, 2012.
61
Was the Problem Deregulation?
• NO.
• Nearly all of this occurred in Regulated
Markets.
• Fannie and Freddie heavily regulated
• did they control the regulator?
• Credit Default Swaps and CDOs were never
regulated
– Calls for CDSs and CDOs to be traded on
exchanges might be good idea
Copyright, Price Fishback, April 26, 2012.
62
Was the Problem Deregulation?
• Repeal of Glass Steagall divided between
investment banks and banks?
• Did more to save situation than make it worse.
Copyright, Price Fishback, April 26, 2012.
63