Musings on the Economy

In the spring of this year, it seemed certain the economy was entering a recession. Oddly enough, based on the definition of a recession as two consecutive calendar quarters with shrinking GNP, we still are not in a recession.

Another definition sees a recession as a reduction in the amount of business activity in the economy, based on measures like employment, industrial production, real income and wholesale-retail sales. A recession starts as business activity reaches a peak and starts to fall and ends when business activity bottoms out and begins to rise. Using this definition, recessions last on average about a year.

Now, in the current economic drama, recession seems sure – using either definition. Employment is down; unemployment is up. Industrial production is down; wholesale and retail sales are down. Food and fuel prices have risen sharply, driving down real income.

There are some interesting good signs, though, even during the drama. The dollar is stronger. It has risen some 17% over the last two and a half months. Looking at the economy, that is a surprise. It seems it should have fallen further during that time. Apparently, compared to national economies around the world though, ours is better than most, giving strength to the dollar. If other economies are worse than ours are, they must be very bad. With the weak dollar, exports rose. As the dollar strengthens, they will fall. With a stronger dollar, the real cost of a barrel of petroleum is lower. Fuel costs are lower and may go down even more.

The critical issue in the current economic drama is credit. No one wants to lend money, especially banks to other banks. Without bank-to-bank short-term loans, credit availability dries up. The Fed yesterday intervened by buying commercial paper, never before done. Then the Fed, joined by the larger industrialized nations in the world, reduced interest rates. In the US, the federal funds rate dropped half a point. Mr. Bernake and friends are creative geniuses – he seems to have something new every day. The result, along with interest rate cuts worldwide, may stem the tide of the drama. If only (and how many times have you heard,”if only”) we get a few days of calming, these and other measures will begin to defuse the drama. I personally believe that the many measures and rescues of the Federal Reserve and the US Treasury will keep the economy from falling into a depression - defined as a severe economic downturn lasting several years.

Speaking of depressions, the Great Depression of 1929 lasted ten years, ending only when the outbreak in Europe of World War II began demanding greater output from our mines and factories. We certainly do not want that. Overburdened with a national debt far into the trillions, surviving a depression would become problematic.