How Can the Economy Recover?

Doug Mills/The New York Times/Redux
President Barack Obama speaking with local residents in Albuquerque, New Mexico, about the need for education to ensure long-term economic prosperity, September 28, 2010

Many recent books and articles by economists and policy analysts ask how the US can recover rapidly from the worst economic crisis since the 1930s. They usually merely assume that the ideal objective is to return to the stable economic growth that preceded the crisis of 2007 and 2008. The underlying assumption is that once adjustments are made, the economy will continue again much along the path it had for a quarter-century.

This optimism isn’t at all warranted. The recession that began in late 2007 was declared over in mid-2009 by the National Bureau of Economic Research, which keeps track of business cycles. But nearly fifteen months later, the unemployment rate remains at 9.6 percent, leaving nearly 15 million Americans out of work. Another 11.5 million, some 7.5 percent of the population who are ready and willing to work, have given up looking for a job or are working part-time because they can’t find a full-time job. The nation’s Gross Domestic Product is growing so slowly that it has not yet reached its prerecession level. By this point in the recovery from all of the nine previous recessions since the end of World War II, GDP had attained its former peak.

What makes this recovery different is clear. Consumers have record levels of debt compared to income and some $12 trillion in losses on their houses and financial investments. They are not going to spend money as they usually do—perhaps not for a long time. A damaged financial system is also not lending significantly, partly because business clients aren’t seeking loans unless they directly generate more sales, and consumer demand is low. Business investment, propelled by piles of cash on the balance sheets, is nevertheless slowing after rising strongly from low levels for the past year.

The economy could slide back into an outright recession again. A fragile financial system could also again be pushed to the brink by a new round of mortgage and other defaults. Fortunately, the number of jobs in October rose by 159,000, breaking a trend of even more modest job creation. More jobs will mean more income and perhaps rising consumer confidence. A “double dip” recession may well have been avoided, but as the Economic Policy Institute points out, the economy will have to produce 300,000 jobs a month, twice a many as this October, for several years to return to the unemployment rate of 5 percent in December 2007. Economists at Goldman Sachs calculate that if historical precedents apply, it would require four years of GDP growth of 4 percent a year, after inflation, to return us to full employment. Many economists believe the nation cannot attain that rate.

The US economy is…

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