1982 Was Worse?

Here’s an excellent article in today’s New York Times by David Leohardt about the comparison between our current economic mess and the infamous 1981/82 downturn: Economic Scene – The Economy Is Bad, but 1982 Was Worse I recommend it because we need to keep perspective as we throw around words to describe the current problems.

Statistically some of the measures we use to describe an economy were much worse back in 1981/82 than they are now. For instance, Leonhardt has done some useful legwork to show the comparisons between the two periods in terms of employment. In raw terms that recession appears to be worse than this one, at least so far.

What I think needs more highlighting is the dramatic nature of the intervening period.

The entire Reagan era comes between the 1981/82 downturn and today. Ronald Reagan was elected in part because of the gloom that rapidly pervaded after the second oil shock of 1979. Jimmy Carter fumbled the response to Iran and then tried to be sober about the real world implications of an oil based economy like that of the US when faced with fanatic regimes such as the one that had taken over in Iran. The election that brought Reagan to power was very much a choice between the earnest but gloomy advice of Carter against the perky and patriotic flag waving of Ronald Reagan. Naturally the optimistic view won.

The problem is that the Reagan vision was an illusion. His series of right wing epithets about government being the problem and so on allowed the public to avoid confrontation with the deeper movements going on in the world economy. Carter had been right: America needed to restructure itself to be less dependent on oil. It had to recognize that the era of poor worldwide competition was over. Instead the public was sold a free market doctrine as a gloss over these underlying problems. The right wingers thought that freeing markets would naturally allow America to overcome its problems. Under locally constrained circumstances they are correct. What they forgot is that capitalism is an engine of wealth generation that is global, not just local. It seeks to go where the most wealth can be made. That is not simply here. Other people make stuff too. Plus some of them have the oil.

Both the optimism and the right wing ideology was built on a false premise: that the American per-eminence of the 1950′ and 1960’s was a result of some inherent American economic genius that had to be re-energized and set free from government control. The idea was that this freeing would then return America to the fast paced growth of the post war decades and all would be well with the world once more. In other words: the 1970’s were an aberration caused at least in part by the enlargement of government safety nets and regulation that stifled America’s innate economic prowess. As if no one else could harness a capitalist engine of their own.

I remember arguing against this view at business school back in 1978 and 1979. It was wrong then and has been proven to be wrong since.

Why is this relevant to Leonhardt’s article?

For the same reason that today’s recession feels worse than the 1981/82 downturn.

There are deep global shifts going on that inhibit the extent of upturn on the other side of this recession. The gloss of the dot.com bubble and the real estate bubbles hid the shift going on in the world economic order. The entire Reagan era was built upon sand. The wealth of the Reagan, Clinton and Bush years has been shown to be largely false. The foundation was an unsustainable run up in asset values, but the returns on those assets never kept up enough to sustain the respective bubbles. Further: foreigners learned how to compete. American products became obsolete in many crucial fields, notably automobiles. Foreign workers were willing to work for less than the wages Americans paid themselves for doing the exact same work. Yet adjustments were not being made deliberately to guide America painlessly into the new world because the free market ideology that pervaded Washington, in both parties, prevented intervention or spending on re-training.

So even as wealth seemed to pile up in the 1990’s and 2000’s the tell tale signs of rot were there: in particular wages flattened out. Inflating home prices became the average Americans best access to the American dream. Not rising wages, but asset inflation. Yes that’s right: our best source of funding to support consumption growth was inflation. Second mortgages released cash from those home values so the consumption binge that has characterized the American economy for 60 years could continue. But the binge was now paid for by writing ever larger IOU’s, not through higher productivity which is the sustainable source of wealth.

This does not mean American workers didn’t escalate productivity. They did. Except that increase in productivity went to profits, not wages, and to maintaining competitive advantage in the face of foreign competition.

American workers were running in place, but felt as if they were advancing.

So when the wheels came off and reality was revealed the gloom descended more rapidly than the statistics Leonhardt discusses indicate should have happened. The public suddenly woke up to face the shocking thought that the entire Reagan era was an illusion and that hard choices had been avoided along the way. The binge was over. The recovery will have to be old fashioned: long, hard, and built on concrete.

That’s nothing to be frightened of, but it is a shock. Hence the sometimes hyperbolic reaction to the current economic mess.

So the short response to Leonhardt: we are going through an unusual confluence of a downcycle [1981/82 was such a downcycle] and a structural adjustment such as we haven’t seen for almost a century. The short cycle and the long cycle are occurring at the same time.

Bummer.