The Next Recession

Perhaps it’s too early to think about what the next recession will be like – it seems like just yesterday that we were in the last economic slowdown. But while people may disagree about when the next recession will strike, the odds of another recession happening at some point are 100%. (Personally, I’m guessing sooner rather than later.)

Thomas Palley ruminates on the likelihood that the next recession will be deeper than the last one:

After having been wrong once, it’s either brave or foolish to make a second prediction that the next recession will be deep and difficult to escape. But the facts point to it being just that—despite the optimism of the Federal Reserve. This is because the economic factors that helped escape the last recession have been largely exhausted, and will not be available to fight the next recession.

His argument rests primarily on two major contentions:

1. Fiscal policy will be of little help in getting the economy out of the next recession, since budget deficits are already very high.
2. Monetary policy will also be of little help, since the primary channels through which lower interest rates helped to sustain the economy the last time around – by giving consumers lots of extra cash to spend due to mortgage refinancing and rising home values – won’t be available in the next recession due to a slowing housing market and already-low interest rates on most mortgages.

For the most part I agree with Palley’s assessment of the situation. In fact, reason #1 is one of my biggest concerns about the fact that the Republican Congress and President seem to have no inkling of how to balance the budget, even when the economy is relatively strong as it is today. Due to their fiscal mismanagement, the US economy will enter the next recession with little available fiscal ammunition.

There does still remain a possible channel for policy to help ameliorate the next recession, however: low interest rates could stimulate a boom in business spending. Business investment never really enjoyed the strong post-recession surge that is typical of most economic recoveries – the present expansion has been unambiguously led by consumer spending, not businesses. So one could argue that maybe after the next recession we’ll be due for a good boom in investment.

Regardless, I think it’s safe to conclude at least one thing: the next recovery, whenever it happens, will look very different from this one.

Kash