Experts Weigh In on the Shape and Size of This Recession

by: William Patalon III

Back in December, with the U.S. recession in its 12th month – and showing no signs of abating – Money Morning Contributing Editor Martin Hutchinson warned that an “L”-shaped recession was very possible.

The U.S. recession is now in its 15th month, and many economists now expect the downturn to last until 2010 – if not longer. In fact, some economists now say the U.S. malaise could easily evolve into the virulent “L-shaped” downturn that Hutchinson predicted – a development that would guarantee both the maximum pain and the slowest recovery, experts say.

“I said in December that the recession could be ‘bloody-L shaped.’ With the huge deficits, that now looks the most likely outcome – and believe me when I say that it will be very bloody,” Hutchinson said this week. “The economy will bottom quite soon, but every time it tries to emerge, the drags of the federal deficit, the huge bank bailouts and the huge money creation will drag it back.”

Noted Hutchinson: “It won’t get all that much deeper – it’s not 1929-33 – but my estimated emergence date is about 2013. The economy will remain essentially flat till then, although wobbles may make [it look like a “W-shaped” recovery] –until you realize there are more than two bends in the ‘W’.”

Nouriel Roubini, the professor with York University’s Stern School of Business who predicted the current financial and economic crises, wrote in the March 1 edition of The New York Times that the recession could last a total of 36 months. The U.S. slump – instead of following a typical “U” shaped rebound – “may turn into a more virulent L-shaped near depression,” he wrote.

Reports Keep Getting Worse

U.S. gross domestic product (GDP) contracted at a 6.2% annual pace in the fourth quarter of 2008, the U.S. Commerce Department reported Feb. 27. That’s the biggest drop since 1982, and was far more than analysts had anticipated, Money Morning reported.

The government had earlier estimated the drop in fourth-quarter GDP at 3.8%. The subsequent revision of 2.4 percentage points was almost five times as large as the average adjustment. Global trade, which contributed a 0.1% gain in the advance report, actually subtracted half a percentage point from growth last quarter, indicative of the truly worldwide nature of the current financial crisis.

Most of the major components contributed to the much larger decrease in real GDP in the fourth quarter than in the third,” the Commerce Department said. “The largest contributors were a downturn in exports and a much larger decrease in equipment and software.”

The U.S. economy lost 651,000 jobs in February, the fourth month in a row where job losses were right around the 600,000 mark. The unemployment rate rocketed to 8.1%, its highest level in more than 25 years. The U.S. economy has now shed 4.4 million jobs since the recession began in December 2007, with more than half coming in the last four months.

Thanks to a seemingly unending stream of bad news or disappointing economic reports, the Standard & Poor’s 500 Index has sold off sharply and trades at or near 12-year lows.

"This is what falling off a cliff looks like," Lawrence Mishel, president of the Economic Policy Institute, told [For a complete analysis of the February employment report, check out this story, which appears elsewhere in today’s issue of Money Morning].

Optimism in Short Supply

Because the U.S. economic landscape is so dour right now, economists say there could easily be another two to four years of malaise.

“I find it quite easy to imagine two consecutive years of contraction,” Harvard University financial historian Niall Ferguson, a financial historian at Harvard University, said in one of 11 assessments by economists that appeared in The Times. “I don’t rule out two more lean years after that,” he said. Bloomberg News summarized the assessments in an article last week.

Although the burst of the housing bubble, the U.S. financial system morass, global trade problems and soaring joblessness are all key contributors, the drop-off in consumer spending is the key culprit, since it accounts for 70% of the country’s economic activity.

Because U.S. consumers are in such bad shape financially – and are obviously both angry and scared – any “whiffs of growth [this year] are likely to herald a false dawn,” Morgan Stanley Asia Chairman Stephen Roach told The Times, noting that he doesn’t expect to see the economy begin to actually expand again until late 2010 or early 2011.

And when the recovery does begin, it will likely be weak – if not downright anemic.

For one thing, history shows that – after a severe banking crisis – an economic system typically takes as long as four years to return to its prior personal income peak, says University of Maryland Economist Carmen Reinhart.

George Cooper, author of “The Origin of Financial Crises: Central Banks, Credit Bubbles and the Efficient Market Fallacy,” said that while the recession – as technically defined – could be over by the end of 2010, “the broader credit cycle will likely remain a significant drag on economic activity well into the next decade.”

Some Bright Spots?

There are some optimists – including former U.S. Federal Reserve insiders Alan Blinder and William Poole. Both Blinder, the former central bank vice chairman, and Poole, the former president of the St. Louis Fed, are both on record predicting an upturn in the economy late this year.

Blinder, a Princeton University economics professor, said that “housing must hit bottom at some point,” Bloomberg reported. When that happens, house-hunters could come out in droves, said Eric E. Schmidt, the chairman and chief executive officer of search giant Google Inc. (NASDAQ:GOOG).

“Americans love a bargain,” so the economy will get a boost from consumers jumping in to take advantage of once-in-a-lifetime buying opportunities, Schmidt said.

James Grant, editor of Grant’s Interest Rate Observer, agrees that falling housing prices will jump-start growth. But he’s just not willing to predict when that will happen.

“Today’s low prices, painful though they may be, are the market’s own shovel-ready stimulus,” Grant wrote in his Times Op-Ed piece. “Before you know it, the stock market, and the residential real-estate market, too, will be on their way back up again — just don’t ask when.”

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