Recoveries generally don’t die of old age. So what’s going to kill ours? Five economists call it like they see it
by Max Cea Salon Aug 12, 2018
Since June, 2009, the pit of one of the biggest recessions in American history, the U.S. economy has been growing, slowly but steadily. That’s just over nine years of uninterrupted growth. If the good times roll for another year — and most economists expect they will — this expansionary period will go down as the longest ever in American history, surpassing the 120-month-long period during the ‘90s tech boom. But don’t be so quick to pop bubbly and send the confetti raining down. There’s precedence for unprecedented growth: It always ends. The economy, of course, moves in cycles.
And no matter how you slice it, it would seem there’s only so much more climbing before a fall. But what will set off a downturn? How bad will it be? And when will it actually happen? To answer these questions and more, Salon consulted with five economists, three of whom (Peter Schiff, Steve Keen and Dean Baker) predicted the 2008 financial crisis before it hit.
Dean Baker is a Senior Economist with expertise in housing and consumer prices
What Will Happen: A recession caused by the Fed over-reacting to a temporary uptick in the inflation rate.
How this will transpire: There are two ways we get recessions. The first and more common is that the Fed raises interest rates too much (ostensibly because of concerns about inflation) and throws the economy into recession. The other is a bubble burst. The latter happened in 2001 with the stock bubble bursting and the 2008-09 recession with the housing bubble.
I don’t see a bubble bursting recession on the horizon because I don’t see any bubbles large enough to sink the economy when they burst. (We have bubbles, like Bitcoin and Tesla stock, but nothing terrible will happen to the economy when they burst.).
This leaves the Fed. I think [Chairman of the Federal Reserve Jerome] Powell has been cautious with his rate hikes and will likely continue to be. Nonetheless, inflation data is erratic and it is virtually inevitable that we will see some periods of higher inflation in the not too distant future. This should in principle not be too severe.
When: Let me cast a vote for 2020.
What government should do: The best way to deal with a downturn is to have good automatic stabilizers in place. These are items like unemployment insurance and other transfer programs that automatically increase when we go into a recession and people lose their jobs. Unfortunately, we have been going the other way, with many states cutting back unemployment insurance and other benefits.
David Blanchflower is a Dartmouth Labor Economist with an expertise in wages and unemployment
What will happen: [Predicting a future recession] is pretty darn hard to work out. It depends on what the signals are, and it depends what people do. In a way, the financial market shock that was coming [in 2008] shouldn’t have been a surprise. We saw it in 1929. Keynes warned about the long, dragging conditions of semi-slump. And we’ve seen the slow recovery driven by the fiscal authorities go into austerity, keeping fiscal policy too tight.
The worry might well be that this is a shallow turn, but if the policymakers fight like ferrets in a sack, that might make things worse. Bernanke was asked [with regards to the 2008 recession], “What would unemployment have been if the US hadn’t acted?” It went to 10 percent, and he said it would’ve been 25 percent if the Fed hadn’t acted. So the issue is not so much what do I think it’ll look like. It’s, what’s the response of the policymakers to the downturn? Do they make it work? Do they dampen it? Do they see it before it’s coming? My suspicion is it’s probably going to be a relatively shallow [dip], but it’s probably going to be made worse by the fact that the policymakers will look like blinded lunatics.
Why: I think the arguments you have to make are that this is now the second longest recovery ever. I think by next spring it will be the longest ever. Recoveries generally don’t die of old age. They die because of misplaced actions by the Fed and rising oil prices. Obviously, the stimulus that was put in place in the U.S. at the late stage of a recovery has given a boost. And then the Fed are cranking it back. The other thing is that there’s a lot of evidence that the U.K. and Europe and elsewhere — that these economies are slowing.
How this will transpire: My work suggests, in a series of recent papers and various contributions that I’ve made, that particularly Western economies are a very long way from full employment. And the number is likely in the mid-twos, not in the mid-fours. So the actions by the Central Bank, in the U.S. especially, but also this week in the U.K., to raise rates are mistakes. There is no wage pressure, there is no inflation, there’s no basis in the data to do that. And that’s what generates recessions.
The reality is the central banks will miss the turning point. So that’s likely the problem. The turning point is hard to forecast. Basically everyone missed it [in 2008]. So I think the reasons to raise rates by the Fed are completely incoherent. But I understand that they’re trying to counter the impact of the fiscal stimulus. But there is no inflation, so why are you raising rates? Obviously the GDP [Gross Domestic Product] numbers are pretty positive, but there’s very little data to suggest that you should raise rates. Raising rates will slow the economy, and that’s what will put it into recession.
The other elephant in the room is the trade wars in places where we’re seeing tariffs being put on. That’s clearly an issue — in steel and commodities and elsewhere. But the places where you see tariffs being put on are going to have an impact. The obvious thing is: What is the Fed going to do as these commodity prices rise? We see Harley Davidson prices rise and we see car prices, tin cans, Coke, everything. What’s going to happen in these sectors? Sectors exposed to the tariffs look like the obvious place we’re going to see concern. Manufacturing is going to have an impact because of the rise in input prices.
When: I don’t think that recovery can continue forever, and I would put the prospect of a recession in the next two years at about two thirds.
Wildcards: [A trade war] raises levels of uncertainty — for investors, for firms. And then it generates the rise in prices. And it’s like if you raise the price of steel, we’re seeing that steel companies are not allowing variations where people can buy foreign steel. So that raises the price of steel, and that raises the prices of cars and other things. And then companies decide, “Well, screw it. We’re going to go produce outside the U.S.”
So that has an impact on prices, on output, on jobs. So is this something that’s long-lasting or not? Is Trump just playing this as a game or is it truly an expansion of protectionism? We don’t exactly know, but none of it looks good. It’s like Brexit. My thing with Brexit is the only thing to worry about is how bad it’ll be. It’ll be some degree of bad; there is zero prospect that anything positive will come in economic terms.
What government should be doing: The first thing you’d want to make sure is that you have a congress that knows what it’s doing. We look back at 2008 and the craziness that went on about whether you should rescue banks and so on. So that’ll be the first thing. Prepare to step in and rescue banks and put in a fiscal stimulus. But also the congress has to prepare itself for the possibility of two things which it hasn’t done.
It has to basically allow the possibility that the Fed could go negative, as the Bank of Japan has done and the Swiss Central Bank and others have done. And second, it’s going to have to think about whether the Fed is going to be able to buy things other than stuff insured by N.B.S.’s and treasuries, remembering that other central banks that they’re competing with are buying corporate bonds each year and other stuff.
What government shouldn’t be doing: Trump is taking a swipe at the independence of the Central Bank, and that’s causing issues as well. The independence of the Central Bank is kind of crucial. Regarding it as an enemy is a big issue. The question is: What are the voting members of the bank going to do? Are they going to just say, “We’re going to do our own thing and stand against you”? Ultimately in the  recession what had to happen was the Central Bank and the Treasury Secretary and the President had to work together.
If you look back, George Bush essentially had to work with Ben Bernanke and Timothy Geithner and [former Treasury Secretary] Henry Paulson. So the prospect of this [administration and the Fed] actually working together looks worrisome. I actually think Trump is right that the Fed should not be raising rates. But still, you want them all on the same page.
Steve Keen is a Professor of Economics at Kingston University with a focus on analyzing capitalism as a monetary system
What will happen: I expect a boom before a slump, and a pretty messy economic performance overall. And I expect a small downturn rather than a 2008 crash.
Why: The countries that I think can’t avoid a crisis — Canada and Australia — aren’t a huge part of the global economy. China is the biggest economy facing a credit crunch, but its huge level of government spending is already softening the blow. Other countries in line for a credit crunch — South Korea, perhaps Singapore, Belgium, Norway, Sweden and a few others — have large trade surpluses, which can counter the effect of a credit slowdown.
But it will mean a fall in export demand for the countries like the U.S. and U.K. that had a crisis in 2008, so overall I think it will lead to a reduced global economic growth rate. But nothing to compare to the impact of 2007/08.
How this will transpire: Trump’s tax cuts, even though they’re going to the wrong people to stimulate the economy strongly (the rich don’t spend anywhere near as much of any change in their incomes as the poor), will still stimulate it a bit. So there’s a boost from government spending.
Credit, which is the most volatile source of demand, is running at about 6 percent of GDP now. That’s way below the peak before the 2008 crisis (15 percent of GDP), but it’s solidly positive. It was substantially negative during the 2008 recession, which is why the recession was so deep and prolonged.
Employment still hasn’t returned to pre-crisis levels, but it is steadily rising and at some point workers are going to be scarce. Only after we reach that point will wages rise, since workers have no bargaining power these days. But when we do [reach that point], employers will bid up wages and that could give a short, sharp spike to inflation.
Trump’s tariffs won’t add anything like as much inflation as mainstream economists warn, because only about 10 percent of any increase is actually passed on. But there will be an impact on inflation from them.
The Federal Reserve will likely respond to rising inflation by putting up interest rates, without being aware of the danger that this might cut demand from credit substantially (they don’t think that credit has any impact on aggregate demand). But they will, since debt servicing costs will hit very high levels since private debt is still over 150 percent of GDP and rising. This fall in credit demand in response to rising interest rates is what I think will trigger the next recession.
When: This will all take time to play out, but I think we could quite possibly have a recession in 2020, which Trump could quite legitimately blame on the Federal Reserve.
Steven Kyle is an Associate Economics Professor at Cornell University
What will happen: A normal sequence of events would be interest rates go up, they pull back on investments, inventories start piling up, then we start to have a downturn. The economy always has inertia in whichever direction it’s going, so once you start a downturn it starts to feed on itself to some extent. At which point, the Federal Reserve will reverse course and start dropping interest rates again.
But we better hope that we don’t get to that point at least for a little while, because right now the Federal Reserve doesn’t have very far to drop interest rates before they run out of anywhere to go, because we’re not that far above zero right now. So the Fed’s capacity to counteract it is limited by how many interest rate cuts they can do.
Disastrous downturns are often the result of implosions in financial markets, and it’s not obvious that that’s cooking right now. There are no signs of that.
Why: On the labor market, we’ve seen unemployment now at 4 percent [it dipped to 3.9 percent in July]. It was as low as 3.8 percent, and it’s sort of been bouncing around at that level. There was a day years ago when that would’ve been considered way overheated for the economy. It’s not right now. We don’t see wage inflation picking up, so it is somewhat of a puzzle for economists: How much slack is there in the labor market? Having said that, at 4 percent unemployment, we’ve got to be somewhere near full employment, not far anyway.
Another big thing is that the Federal Reserve is very much in the mode of raising interest rates. They are raising it by a quarter of a point each time. They’re on course to do at least four of those this year. And they are also in a guessing game, figuring out how fast to go, when to stop, so on and so forth. But the more they raise them, the more likely it is that eventually we will reach the peak and tip over into a downturn.
Another area where I’m starting to see mixed signals now is the housing market. We all know that’s what crashed us back in ’08 and ’09 . . . And I’ve got to say, there’s no reason to think that it’s not somewhat strong right now. Usually, residential housing construction is the leading indicator, and then commercial real estate follows that by a year and 18 months. And we haven’t really seen a downturn, but we’re starting to see signs from some markets that houses are sitting on the market longer than they used to. The frenzied “buy it as soon as you see it” mode is not happening like it used to in some places.
But, on the other hand, the fact that we didn’t have any building going on for quite a few years, or at some normal level, after the recession hit means it’s unlikely there’ll be a backlog. So you could flip a coin. But the fact that we’re seeing any mixed signals at all is a change from what we’ve been seeing for the last, I don’t know, four or five years.
When: I hope to god we have a downturn when Donald Trump goes up for reelection. The political models say that rate of change is highly correlated to throwing out an incumbent. Not that I hope for people to lose jobs, but I sure do hope for all our sake’s we get rid of that guy.
Certainly we’re not going to see a turnaround this year. It’s possible next year. And it gets more likely thereafter.
The normal “turnarounds” are caused by the Federal Reserve raising interest rates, or the usual inventory story of inventory building up. And we’re not seeing that to any great degree yet. That’s why I’m saying not this year, possibly next year, and becoming more likely after that.
Wildcards: Everything I said is all the stuff that’s predictable — it’s in these data. The other thing is things that come out of left field.
And who knows what the hell that might be? I will say this: The markets don’t like uncertainty. And Mr. Trump is an uncertainty generator on a daily basis. Let me take off my obvious partisan leanings for a minute. Trump’s own advisers will tell you they’re sometimes puzzled at what policy is, and they don’t know what he’s thinking.
In ’08 and ’09 at the moment the crisis hit, George Bush and [Henry] Paulson as Treasury Secretary and Ben Bernanke in charge of the Federal Reserve, they all did exactly what they had to do. And there were a variety of choices, depending on whether you were a Democrat or a Republican. But that it needed to be attacked was never in doubt; they did [that]. They acted quickly.
But I have my doubts about the people in the White House now. Would they even recognize that something needed to be done? Would they know what it was? I’m not worried about the Fed. Jerome Powell is a smart guy and a steady person as far as anyone can tell. But [Secretary of Treasury] Steven Mnuchin? I don’t have confidence in that guy.
And [Director of the National Economic Council] Larry Kudlow, he’s almost a cartoon of an economist.
And Trump doesn’t know anything about anything as far as I can tell. So if quick action were needed, would they do it? I don’t have confidence. And I bet nobody else does either, including our various trading partners.
Today we have Mr. Trump threatening government shutdowns. That’s a scary thing. The man doesn’t seem to understand that that’s a very bad thing. And we’ve had this before. It causes all kinds of disruptions and costs that are entirely avoidable. So even just talking about is another risk that we don’t need to have.
And then, as tariffs stand right now, we’re talking about relatively small potatoes compared to the economy — we’ve targeted a few things, [our trading partners have] targeted a few things in retaliation. But if it mushrooms beyond that, it could be a very bad thing.
What government shouldn’t be doing: Well, what we shouldn’t have done is have a massive stimulus when we’re on an upswing, as they just did with the massive tax cut bill earlier this year. This was not the time to do that. The time to do a stimulus is when you’re sinking and the economy needs it. I and many other economists were almost screaming for like five years after ’09 that we needed a stimulus and we should do it in something productive like fixing our roads, our bridges, our ports, our airports.
Peter Schiff is an economist, financial broker/dealer, author, frequent guest on national news, and host of the Peter Schiff Show podcast.
What Will Happen: I think we’re bound for something a lot worse than a recession. We’re going to continue what we began in 2008.
Why: [The 2008 meltdown] was interrupted by the Fed and the government — by the bailouts and the stimulus and all that. But those programs did not solve the problems that created the crisis. They actually compounded the problems. The tradeoff was they were able to postpone some of the consequences of the problems to a later date. And that’s where we’re headed, to that later date.
The reason that we had a crisis is that the Federal Reserve had kept interest rates too low for too long leading up to the financial crisis of ’08. The result of that was a misallocation of resources, an over-investment in housing, not enough savings, not enough capital investment, too large trade deficits. We just inflated this bubble.
And when the market tried to correct all that and we had a recession, we didn’t allow the correction process to complete itself, which would’ve been a bigger decline in real estate prices and stock prices, a lot more bankruptcies, and a lot more resources freed up to move to where they needed to be, meaning away from housing, away from banking, into capital spending, into manufacturing, into real goods production and things like that; it would’ve meant Americans really rebuilding their savings and not buying stuff with credit cards and making due with their old cars instead of taking out loans to buy more expensive newer cars, and more people going to trade school instead of borrowing money to get philosophy degrees.
A lot of these bubbles were facilitated by the Fed slashing rates to zero percent and propping up a lot of institutions that should’ve failed. We should’ve allowed Fay and Freddie to go bankrupt completely, not just go under government control; they should’ve been completely eliminated from the marketplace.
We should’ve returned to a free market in housing, meaning that people buy houses that they can afford, not based on a government guarantee where the government enables people to buy houses they can’t afford. So a lot of changes for the good would’ve taken place, but for the stimulus and the bailouts and everything that we did to try and blow air back in the bubble.
How this will transpire: If you go back in time, I’m surprised at the length of time that we were able to buy. I’m surprised we’ve made it this far. But that’s not a good thing. The longer we delay, the bigger the problems become. And so, what we’re going to go through economically is going to be far worse as far as being painful to endure for the people than it would’ve been had it happened five years ago or three years ago or whatever.
And the longer we succeed in delaying it, the worse it gets. Because it can’t be delayed indefinitely. It can be delayed, but nobody can really say for how long. One thing that is sure is the longer we delay, the worse it’s going to be.
I think the attention is going to focus back to the US again. I think the U.S. is in worse shape than Europe. I think we’re in worse shape than Japan, not that Europe and Japan are not in trouble, they are. But I just think we’re in more trouble. As inflation really starts to overwhelm the world — right now, the central bankers are still acting as if we’re around 2 percent, when I’m sure we’re much more than that — but at some point all these official inflation measures are going to be reading 3 percent, 4 percent, 5 percent.
And the central banks around the world are going to have to raise interest rates. And that’s when there’s really a disaster, because we can’t afford the higher interest rates. We can barely afford the higher interest rates we have now, and we’re at 2 percent. I mean, look what’s happening with the housing market, look what’s happening with the auto market. Despite all this hoopla about a booming U.S. economy, all the signs are pointing to a recession around the corner anyway. And that’s with interest rates still at ridiculously low levels. We’re not even close to normal.
Wildcards: There are a lot of bubbles. The bond market is a bubble. The stock market, housing market. the whole U.S. economy, really, is one gigantic bubble. Ironically, the trigger could end up being our own actions. I mean, the trade war could end up doing it. One of the things that’s been keeping the bubble going is China’s willingness to supply us with consumer goods at a low cost and lend us the money to buy it.
The massive trade deficits with China are one of the reasons that we’ve been able to kick the can down the road. So to the extent that we actually forced the Chinese to do what they should’ve done a long time ago, we can accelerate the collapse, which in the long run I suppose is going to be good, although politically it could be a disaster. That’s what I’m really worried about, because if we have this massive crash while Trump is president, he ain’t going to be president in 2021, and it’s probably going to be a socialist, and he’s probably going to have a socialist congress. So we could do a lot of damage.
What government should be doing: The United States should be doing a lot of things differently, but we’re not going to. What we should be doing is instead of waiting for the crisis to be pushed on us by factors beyond our control, we ought to take control of it ourselves, like a controlled burn instead of a forest fire. So we should be slashing government spending now; we should be allowing the Fed to allow interest rates to find a real level, which is much, much higher than they are now; and then we’re going to have to deal with the bankruptcies.
We’re going to have to deal with a decline in the stock market, the bond market. We’re going to have to deal with a lot of defaults, [and] a lot of debtors are going to go broke. It’s going to be a painful process even if we bring it on ourselves. But if we wait for the crisis to happen on its own because it’s imposed on us by the world, it’s just going to be worse.
What government shouldn’t be doing: When I wrote my book predicting the 2008 financial crisis, I also wrote that the government would react to that crisis by doing the wrong thing, that they would cut rates and print a lot of money. And I thought that they were going to try and reflate the bubbles in housing and the stock market. I did not believe that they would succeed. I thought their attempt to reflate the bubble would fail, because I thought a dollar crisis would prevent it. But that never happened. A lot of things happened to keep the dollar going up. And so, instead of just attempting to reflate the bubbles, they actually succeeded. They actually were able to blow an even bigger bubble than the one that popped in ’08.
Now the economy is more screwed up than ever before. So the correction is going to be much worse. And this time, there’s just no way that they can try to reflate the bubble. It’s going to be impossible. The dollar will just be completely destroyed if the Fed goes for QE4 [a fourth round of quantitative easing]. If they take rates down to zero again and then launch QE4, that’s it. Now, I do think that that’s what they’re going to do, so it’s going to be a real mess. So we could do a lot of damage.
It’s very ironic, hearing “We’re going to punish China. We’re going to get China.” [Laughs.] You talk about biting the hand that feeds you. The trade deficits are a huge problem. I’ve been warning about it for years, but they’re really the consequence of the problem. The problem is that our economy is producing these trade deficits.
The problem is that we’re accumulating massive debt to our trading partners. But the reality is we can’t pay our trading partners back, so they’re the suckers. Because we’re just going to default or inflate and give them worthless money. But when we give them worthless money, that means that our money is worthless too. If the dollar crashes and you have hyperinflation, the U.S. will suffer far more than our creditors, who ended up getting screwed on what they loaned us.