The combination of lingering high unemployment, record high consumer and business debt leverage, record federal budget deficits, and ongoing budget challenges in numerous states and municipalities creates a vexing chicken-and-egg problem for sustained economic recovery. The result will likely be years of gross domestic product growth in the low single digits.
In the downward leg of a recession, debt growth and government spending are generally important measures to halt economic decline and jumpstart the recovery cycle. The acceleration of debt growth has been a major driver in most post-recession recoveries as the nation essentially borrows its way back to economic growth. Once the effects of debt growth and government spending take hold, employment growth generally ensues and takes over to support a self-sustaining growth phase. As a result, employment generally tends to be a lagging indicator.
This recession creates a challenge more difficult than usual. Private-sector debt is just off historical peaks - measured by debt to GDP - after contracting for the first time in over 50 years. Household debt has pulled back by $243 billion over the past year and business debt declined by $81 billion. This $324 billion year-over-year decline may represent the start of a secular trend that would turn private-sector debt growth from a recovery driver to a recovery drag.
Federal-government debt, in contrast, has ballooned by $1.74 trillion over the past four quarters, more than compensating for the shrinking private sector thus far. But the public appetite for further growth may be limited. With the federal government facing record budget deficits and concerns about debt levels coming to the forefront in Washington, it would appear stimulus dollars are likely to ramp down, rather than up, going forward.
The potential for stagnant or contracting levels of total debt presents significant concerns about the viability of debt growth as a mechanism for growth. A key question is whether efforts to date have produced any material benefits that can lead into self-sustaining recovery. Most economic indicators suggest stimulus efforts have helped to reverse GDP contraction and form a cycle bottom. But while the worst may be behind us, the data suggest challenges remain. Putting inventory rebuilds and government incentive-driven spending aside, it would appear that traction in key areas of the private sector have been limited. If the largest part of the stimulus is behind us, then traction should become evident in employment and personal income in reasonably short order. If not, then the recovery may become quite protracted as employment, spending, and GDP await each other for growth.
While the much-watched unemployment continuing claims number has been drifting down since July, the actual number of persons receiving unemployment checks recently surpassed 12 million for the first time ever. The primary drivers of the downward trend have been seasonal adjustment factors and the elimination from the data of persons collecting benefits for more than 26 weeks.
The magnitude of job loss through this recession, in percentage terms, has been substantially higher than any since World War II, making the jobs recovery challenge formidable. Compounding the problem is the fact that the pace of jobs recovery in our increasingly consumer-driven economy has been slowing through each recession of the past 40 years. If the pace of job creation mirrors the jobs recovery of 1991, then it would take three more years for employment to recover to 2007 levels. At the 2001 pace, it would take more than four years.
Personal income statistics appear to tell a positive story despite employment declines, with income reportedly up 1.5 percent in 2009 vs. 2007 levels. However, this has been driven by government social payments rising 22.9 percent and personal taxes falling 25.7 percent, while private wages declined 3.2 percent.
The historical relationship between employment, productivity, and GDP growth is extremely strong over the medium term. In general, GDP growth equals employment growth plus productivity growth. In the shorter term, the data can diverge, with debt growth being a substantial contributor to year-over-year mismatches and being particularly important around recessions.
Despite employment's reputation as a lagging indicator, growth is strong. We succeeded in generating positive GDP growth in the second half of 2009 through Herculean efforts by the Fed, Treasury, and historically unparalleled stimulus efforts. But if none of these prove themselves to have resulted in sustainable jobs creation, our recovery may be slow and protracted.
