Worst Economic Downturn since the Great Depression?

It has been the worst financial crisis since the Great Depression. I am now going to stick my neck out and say it will probably be the worst downturn since the Great Depression.

Calculated Risk:

Calculated Risk: Retail Sales Collapse in October: The Census Bureau reports that retail sales collapsed in October:

The U.S. Census Bureau announced today that advance estimates of U.S. retail and food services sales for October, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $363.7 billion, a decrease of 2.8 percent from the previous month and 4.1 percent below October 2007. Total sales for the August through October 2008 period were down 1.3 percent from the same period a year ago. Retail trade sales were down 3.1 percent from September 2008 and were 5.0 percent below last year.

The following graph shows the year-over-year change in nominal and real retail sales since 1993. To calculate the real change, the monthly PCE price index from the BEA was used (October PCE prices were estimated based on the increases for the last 3 months)... [R]eal retail sales declined by 8.8% (on a YoY basis). This is the largest YoY decline since the Census Bureau started keeping data. Retail sales are a key portion of consumer spending and real retail sales have fallen off a cliff.

Paul Krugman is considerably more optimistic:

Depression Economics Returns: The economic news, in case you haven’t noticed, keeps getting worse. Bad as it is, however... we probably won’t see the unemployment rate match its post-Depression peak of 10.7 percent, reached in 1982 (although I wish I was sure about that).

We are already, however, well into the realm of what I call depression economics... in which the usual tools of economic policy... have lost all traction. When depression economics prevails... virtue becomes vice, caution is risky and prudence is folly.... [W]ith no possibility of further interest rate cuts, there’s nothing to stop the economy’s downward momentum. Rising unemployment will lead to further cuts in consumer spending, which Best Buy warned this week has already suffered a “seismic” decline. Weak consumer spending will lead to cutbacks in business investment plans. And the weakening economy will lead to more job cuts, provoking a further cycle of contraction.

To pull us out of this downward spiral, the federal government will have to provide economic stimulus in the form of higher spending and greater aid to those in distress — and the stimulus plan won’t come soon enough or be strong enough unless politicians and economic officials are able to transcend several conventional prejudices. One of these prejudices is the fear of red ink. In normal times, it’s good to worry about the budget deficit — and fiscal responsibility is a virtue we’ll need to relearn as soon as this crisis is past. When depression economics prevails, however, this virtue becomes a vice.... Another prejudice is the belief that policy should move cautiously.... Under current conditions, however, caution is risky.... Finally, in normal times modesty and prudence in policy goals are good things. Under current conditions, however, it’s much better to err on the side of doing too much than on the side of doing too little....

The Obama administration will almost certainly take office in the face of an economy looking even worse than it does now.... My own back-of-the-envelope calculations say that the package should be huge, on the order of $600 billion. So the question becomes, will the Obama people dare to propose something on that scale? Let’s hope that the answer to that question is yes... it would be very dangerous to give in to conventional notions of prudence.

Comments

[bigTom]

It seems to me that with an aggressive stimulatory response we are entering into a race. Will the economy recover to the point that stimulus is no longer needed, before the level of public debt becomes ruinous? What if this is an L shaped slowdown, and some nontrivial level of stimulus is needed for a significant period of time. Could our system survive that?

[M. Green]

I hope Obama listens to him. It's times like these where you wish Paul Krugman had spent a little less time bashing Obama during the campaign,.

[MattYoung]

"the stimulus plan won’t come soon enough or be strong enough unless politicians and economic officials are able to transcend several conventional prejudices."

One prejudice is that government cannot impair its ability to guarantee many other revenue streams. The stimulus that Krugman speaks about is a wad of money designed to guide us to a reorganization of our revenue streams.

He wants to aid those in distress, but these are increasingly state and county government bet makers who are in real trouble. How much should we invest in state and county bet making politicians?

[MattYoung]

Example problem

"The Philadelphia pension system lost more than $650 million in the first nine months of the year. Last week, Nutter announced Philadelphia would be laying off city employees, cutting salaries, closing most of its swimming pools and shutting nearly a dozen library branches to cope with a $108 million shortfall this year caused by lower business and real estate tax revenue. The deficit could grow to a total of $1 billion over five years."

This is not a problem of borrowing from the future to pay the present, it is a matter of borrowing from the future to pay the future, in other words, it is simply an accounting change with no effective result.

Government cannot guarantee government guarantees, except by applying a government guarantee to the government guarantee. They end up with the same hedge problem the private sector ended up with.

The problem, ultimately, is not Krugman's list of prejudices, but our new ability to compute the relative cost of insurance on our own consumption pattern with greater accuracy. Twenty years ago, there was more uncertainty in these guarantees, now with much less uncertainty, consumers reject many of the deals by ceasing to consume.

[Kelly]

MattYoung; I think you've got it covered. I'm seeing more and more collapse here in the local government. But with our local politics I don't know that I'd hand over a wad of cash and hope for the best. But without it, we're dead.
So damned if you do and damned if you don't?

[charlie bird]

I used to forecast auto sales at gm research.
a couple of points. seasoanlly adj ann rate in Oct was comparable to the bottom of the 74-75 recession and it is quite likely that this is not the bottom for auto sales as folks as the gen populace is just accepting that we are in arecession .
there is a nonlinear effect in demand for consumer durables, economietric models consistenly underpredict peaks and overpredict troughs. I don't kow enough to knowwhther this is psychological of rational economic behavior. but controlling for income level, cars purchased new per household falls during recession when holding inflation adjusted income constant.
in really sever recession theaverage ago of vehicles traded in actually rises as the tail of the distribution falls away either those buyers are holding thier cars or moving from being new car buyers to being used car buyers.
givne the number of years of 17+ million new vehicles the stock of serviceable vehicles are still quite high and pent up demand ( a fiction that theauto industry long has held) is not likely to generate a quick rebound. all of this willlikely hold eevn if credit becomes available and there is no thrat of bankruptcy.
Since I don't crunch these numbers anymore I'm am now relying more onintuition when I say that I think thisw recession will fall between the 74-75 downturn and the great depression. A lot closer to the former as it would be hard to makes as many bad policy decisions now as then. my guess is we infalte our way outof this as that lets homeowners crawl out from debt in the qway that is the least psychologically painful . (I'm thinking along the lines of the behavioral economists when argue that the pain from losses is much greater than the pleasure from gains.
But what do I know I'm just a mathematician who used to do game theory