U.S. Growth Will Be Slower than Usual from Deep Recessions

Published on December 14, 2009

In 2010, the U.S. economy will see a “modest” increase of 2.3 percent in real GDP, inflation of about 2 percent rising near the end of the year, and a drop in unemployment from 10 percent to 9.4 percent, said Steven Davis, William H. Abbott Professor of International Business and Economics.

“Growth prospects for the U.S. economy are fairly weak over the next decade,” Davis said during Business Forecast 2010 at The American Club in Singapore on December 14.

Davis also projected:

• The target Federal Reserve fund rate will rise to 1 percent by the end of 2010.

• Housing prices will continue to fall in urban and coastal areas and remain flat more generally throughout the United States.

• Business will add 1.5 million in payroll jobs.

“To put that last number in perspective, remember that payroll employment has declined by more than 7 million jobs since the start of the recession,” he said.

Davis’s projections are lower than other typical recoveries for such large recessions because:

• After severe banking or financial crises, economies throughout the world tend to experience long stagnation or weak recovery.

• Abundant evidence exists of weakness in consumer spending and consumer spending plans.

• Businesses are reluctant to invest or hire extensively anytime soon.

• In no other time period have there been so many legislative and policy initiatives on the U.S. government agenda that have potentially profound implications for business performance and which types of investments will be profitable or not in the years ahead.

He pointed to the a few dozen major banking or financial crises around the world in recent decades. About 75 percent of the time, the affected economy remained below trend in growth for several years after the crisis, Davis said. “That’s not proof of anything, but it does suggest that unlike the usual pattern in which deep recessions are followed by strong recoveries, deep recessions associated with financial crises tend to be associated with long periods of slow growth.”

One weakness in the data for those crises is that most of them occurred in emerging economies, Davis said. The closest comparison to the recent U.S. crisis is Japan’s crises during the early 1990s and again in 1997, he said.

During the 1970s and 1980s, Japan’s relatively advanced economy grew an average of 3.9 percent a year, but since 1992 that average has been 1.1 percent, Davis said. “This is interesting to me because it says there is nothing inevitable about 3 percent average growth forever in a mature economy at the economic frontier,” he said.

Real U.S. GDP growth of 2.5 percent is reasonable to expect in 2010, said Bernard Yeung, MBA ’81, PhD ’84, dean and Stephen Riady Distinguished Professor in Finance and Strategic Management at the National University of Singapore Business School. The global crisis was “terrible” but governments have learned to respond with massive fiscal injections without excessive protectionism, Yeung said.

“All in all, we suffered for about 1.5 years, but there is no more free fall and the recovery is here,” he said. “Nonetheless, hard times are really waiting for us. The picture is not rosy. Unless we find some way to surge aggregate demand, this may be a fairly jobless recovery.” For that reason, Yeung projected unemployment of about 9.6 percent in the United States in 2010.

Meanwhile, the unwinding of fiscal stimulus brings the risk of higher taxes and inflation throughout the world, he said. “Most governments face a challenging exit plan,” Yeung said. “The Chinese put it this way: ‘It’s like you’re riding a tiger and you don’t know if it will eat you when you get off its back.’”

Yeung expressed concern about hopes that long-term economic recovery will be Asia-centric when Asia still has many long-term problems, including an aging population, environmental pressures, and eventual health care issues similar to those of the United States. “Growing income disparity and social unrest are real,” he said. “You may not hear a lot about it, but if you go to, say, China or some parts of India, you can feel it.”

Unusually high savings rates in China and Japan reflect poor corporate governance and capital markets that are not functioning well, Yeung said. To keep currency values down, those countries have acquired huge amounts of foreign exchange reserves, injecting enormous capital into the United States, he said. Altogether Asia is putting $1.5 trillion a year in the United States, where in contrast the savings rate is 5 to 8 percent at best, Yeung said.

“The world is nuts with this flood of savings,” he said. “This really overwhelms the U.S. capital market. This macro-imbalance revealed a U.S. structural problem. We don’t need to open the wounds of the U.S. financial crisis. But just because the United States scored an ‘F’ doesn’t mean China scored an ‘A.’”

                                                                                                                                Phil Rockrohr