Thursday, July 15, 2010

The Lost Decade?

I am not sure how the American as a whole view our economic prospects for this decade. But, they should be considering a Lost Decade as a "very real" possibility. The "non-media" forecasts that I see basically has the economy flat out to 2013 - 2015. The old growth engines are not there, namely, housing and consumer spending. From

The risk of a double-dip recession is getting a lot of attention, but even that grim prediction could prove a little too optimistic.

Disappointing job reports, weakness in housing and consumer spending and problems in world financial markets have raised concerns about the U.S. economy stalling out later this year. Now some economists are starting to talk about an even worse fate: a prolonged period of very weak growth, a so-called "lost decade." Comment

"The probability of a lost decade is significantly greater than a double dip," said Sung Won Sohn, economics professor at Cal State University Channel Islands.

"We don't have too many engines of growth functioning right now -- housing, consumer spending, exports are all sputtering. I have a hard time seeing where we can get 3% economic growth back."

A lost decade, or something like it, could feel like a never-ending recession to many Americans, as the economy does not grow fast enough to recoup lost jobs, and investments like homes and stocks continue to lose value.

The most famous lost decade occurred in Japan in the 1990s. From 1992 through 1999, the Japanese economy grew by less than 1% a year. It has yet to fully recover from the economic weakness and falling prices it suffered during that period.

There are a number of similarities between conditions in Japan in the 1990's and the United States today. Japan had a real estate bubble inflate and then burst, resulting in banks choked with bad loans on their balance sheets and a cutback in lending.

The Bank of Japan did what it could to spur the economy, including cutting its key interest rate to near 0% and pumping money into the economy through asset purchases, just as the Federal Reserve has done over the last two years. But those steps had limited effectiveness.

And Japan suffered through bouts of deflation, in which falling prices caused businesses to cut production and employment, a scenario all too familiar to U.S. workers.

Deflation has been relatively rare in U.S. history, with no significant examples since the Great Depression. But with inflation nearly non-existent, some Federal Reserve policymakers said at their June meeting that they were worried about the threat of deflation.

Sohn puts the chance of a prolonged period of weak growth as high as 40%, with the chance of a double dip only 20%-25%.

"If I had a choice I would much rather have a double dip and be done with it. A lost decade is much more dangerous, economically, socially and politically," said Sohn.

The growth produced during U.S. recoveries has been trending lower over the last 40 years or more, according to Lakshman Achuthan, managing director of Economic Cycle Research Institute. He believes underlying changes in the economy will cause that trend to continue.

Achuthan said he's worried that with increased volatility, recessions are likely to become more frequent, causing the economy to lose more ground in upcoming recessions than it is able to recover from during growth periods.

"That's how you lose a decade," he said. "You get stuck in an era when you spend more time in recession than expansion."

James Hamilton, professor of economics, University of California San Diego, said much of past economic growth was built upon unsustainable deficit spending, by both governments and households. Huge, persistent trade deficits also provided a drag on the U.S. economy. It will require some painful structural changes to free the economy from those constraints.

"The pattern for growth we had been relying upon was unsustainable," he said. "These are long-term challenges." While he believes a double-dip recession will be avoided, weak growth is the best we can hope for, at least in the next few years.

Plenty of economists believe there are significant differences between Japan in the 1990s and the United States today, and that another lost decade is unlikely. They point to Japan's shrinking population compared to the growing U.S. population, as well as Japan's dependence on exports, rather than internal consumption, to drive the economy.

"You can draw some parallels, but while history can rhyme, it rarely repeats," said Carl Riccadonna, senior U.S. economist for Deutsche Bank. But while he doesn't expect a U.S. lost decade, even Riccadonna is not expecting strong growth.

"We're definitely looking at a subpar recovery," he said.