Recession Watch-1

March 8, 2009

Having taught through three previous recessions, there are several observations common to all of them. First, as the economy contracts, investors and the public over-react. Every piece of bad news, from falling employment, output and profit  to personal stories of distress, is greeted with shock and surprise.  Talk of depression is always present. The media make sure that we know about everything that went wrong yesterday. The blogs in total add only volume and rarely any insight not already considered. Of course, we are in this mess precisely because the herd always over-reacts. If one loan was good, two would be even better!

While it might be surprising that a recession has been set off, it is of course absurd to be surprised that when an economy starts to shrink, the process of contraction goes on for some time. Economies have both forward and downward momentum, recessions often taking a year or more to run their course.  Since this is near the start of the US recession, and at the start of the Canadian recession, nothing that is happening now is particularly surprising. The lack of historical knowledge removes any chance of insightful perspective.

Second, the reporting of economic statistics will be typically flawed. The media does not like complications because they apparently stress the limited attention span of their readers/viewers/listeners.  So they use only a few data points.  Context and meaning are often absent. And historic comparisons are often butchered.  For example, the number of job losses is often described as bigger than since year X.  But the comparison is based on number of job losses, not the percentage change in employment. The actual distress in the overall economy can only be captured in the percentage, not the total.  A loss of a thousand jobs in an employment base of a hundred thousand is devastating. In a base of a million, it is trivial.  To provide interpretative context is not to treat the unemployment with a lack of respect.  Anyone who really wishes to be well informed [and to detect the ending of the recession before others] has no choice but to go to the statistical agencies directly.

Third, the pundits and “experts” will announce that the actions of the central bankers and governments are not working, that they are failing to stop the decline of the economy. You are told that the Fed has”lost its power” and governments do not know what to do, or are incapable of doing what is necessary.  The only problem is that this is always said and it always idiotic at this stage. Of course, the stimulus packages have not worked yet in the US, Canada or elsewhere. The money is only just being spent. The size of modern economies dictates that the effect will delayed and gather force slowly. It cannot be otherwise.  Of course, this contradicts the modern preference for instant answers.

Moreover, the textbooks have long argued that monetary policy has a particularly slow effect when it is stimulative, rather than restrictive. Confidence can be quickly eroded, but not quickly restored.  This is well established in accepted scholarship. With the financial industry still a mess, confidence has been very badly eroded.  So still no surprises.

We should also keep in mind that the immediate goal is to stop the descent of the economy, not to “turn it around.” That comes later. First, stop the economy from contracting. Then start the economy growing – recovering to previous levels of production.

Some analysts have said that that the “failure” of the Fed and the recent US stimulus package has been proven by the failure of the stock market to react positively, that is to rise. Given everything that has happened, are we really to believe that stock prices are the source of true guidance? The stock market was right to drive US bank stocks into orbit on the back of subprime loans, was it?

The recession is now underway.  That is now old news. 2009 is a lost year. The alert person is now focused on finding career and investment opportunities in the midst of the predictable wreckage. And the really intersting story is what happens after the recession ends. This period will indeed have some surprises.  More on that later.