Paul Krugman: L-ish Economic Prospects

Paul Krugman says if Barack Obama wins the election, one of his first priorities should be to push through a stimulus plan that is “bigger, better, and more sustained than the one Congress passed earlier this year”:

L-ish Economic Prospects, by Paul Krugman, Commentary, NY Times: Home prices are in free fall. Unemployment is rising. Consumer confidence is plumbing depths not seen since 1980. When will it all end?

The answer is, probably not until 2010 or later. Barack Obama, take notice.

It’s true that some prognosticators still expect a “V-shaped” recovery in which the economy springs back rapidly… On this view, any day now it will be morning in America.

But if the experience of the last 20 years is any guide, the prospect for the economy isn’t V-shaped, it’s L-ish: rather than springing back, we’ll have a prolonged period of flat or at best slowly improving performance.

Let’s start with housing. …U.S. home prices fell 17 percent over the past year. Yet … housing prices probably still have a long way to fall…—… they’re still more than 30 percent above the 2000 level.

Should we expect prices to fall all the way back? Well, in the late 1980s, Los Angeles experienced a large localized housing bubble: real home prices rose about 50 percent before the bubble popped. Home prices then proceeded to fall … back to their prebubble level.

And here’s the thing: this process took more than five years… If the current housing slump runs on the same schedule, we won’t be seeing a recovery until 2011 or later.

What about the broader economy? …[T]he last two recessions, in 1990-1991 and 2001, were both quite short. But in each case, the official end of the recession was followed by a long period of sluggish economic growth and rising unemployment that felt to most Americans like a continued recession. …

These prolonged recession-like episodes probably reflect the changing nature of the business cycle. … Modern slumps … have been hangovers from bouts of irrational exuberance — the savings and loan free-for-all of the 1980s, the technology bubble of the 1990s and now the housing bubble. …

Ending modern slumps is … difficult because the economy needs to … replace the burst bubble.

The Fed … has a hard time getting traction in modern recessions. In 2002,… it kept cutting interest rates, but nobody wanted to borrow until the housing bubble took off. And now it’s happening again. The Onion … hit the nail on the head with its recent headline: “Recession-plagued nation demands new bubble to invest in.”

But we probably won’t find another bubble — at least not one big enough to fuel a quick recovery. And this has … important political implications.

Given the state of the economy, it’s hard to see how Barack Obama can lose the 2008 election. An anecdote: This week a passing motorist shouted at a crowd waiting outside a branch of IndyMac, the failed bank, “Bush economics didn’t work! They are right-wing Republican thieves!” The crowd cheered.

But what the economy gives, it can also take away. If the current slump follows the typical modern pattern, the economy will stay depressed well into 2010, if not beyond — plenty of time for the public to start blaming the new incumbent, and punish him in the midterm elections.

To avoid that fate, Mr. Obama — if he is indeed the next president — will have to move quickly and forcefully to address America’s economic discontent. That means another stimulus plan, bigger, better, and more sustained than the one Congress passed earlier this year. It also means passing longer-term measures to reduce economic anxiety — above all, universal health care.

If you ask me, there isn’t much suspense in this year’s election: barring some extraordinary mistakes, Mr. Obama will win. Assuming he wins, the real question is what he’ll make of his victory.

Originally published at Economist’s View and reproduced here with the author’s permission.

One Response to "Paul Krugman: L-ish Economic Prospects"

  1. michael savoca   July 28, 2008 at 5:38 pm

    Dr.s Krugman and Thoma,I believe we have little choice but to have government jump start a "Manhattan Project" like emergency energy, transportation and infrastructure development program.A better name, might be the Apollo Energy Project (so named from our race to the moon).This project would develop all manner of energy sources alternative to oil, including solar, hydrogen, nuclear, wind geothermal, and clean coal- carbon sequestration. The project would also provide impetus for further R and D in the transportation sector including electric and hydrogen powered vehicles and refueling stations.This project would be a much better way to jump start our failing economy than the so called stimulus checks which are nothing more than another white line of credit drawn on the junkies mirror of debt. We would also impact dramatically our current account deficit half of which is attributable to foreign oil importation.