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August 16, 2010

Expectations and the Sluggish Recovery

If you have been paying close attention to the economic news of late (an activity this doctor wouldn’t recommend) you have read more than a bit of unsettling news. This is especially true if you pay close attention to online news services that treat economic data announcements like a horserace. There are however, some unpleasant data that cannot be erased by much good news over the past few months. Most significantly, while the economy continues to recover, the pace is agonizingly slow. The reasons for this are becoming clear.

First, the bubble that burst wasn’t just in housing and financial markets, but also in labor markets. There are a number of workers – perhaps one in 20 – who are without work because the firm or industry they were in was failing, or they themselves are now dimly valued by the labor market. Most of these folks don’t live in places where they can get jobs and therefore face a costly job search, relocation and retraining. Virtually all of us go through this once or more in our lives, but this lack of rarity doesn’t make it less unpleasant. It will simply take some time to sort out.

Second, investor confidence has been riddled by uncertain federal policy. Some of this is the fault of current lawmakers, and some of it simply unhappy timing. For example, no matter what you think of the Bush tax cuts, their imminent expiration means that virtually all working households and all small businesses are facing large tax hikes come January 1. This will cut demand for consumer goods and services, and businesses know it. Businesses are likewise worried about an array of uncertain federal policies, most especially those impacting healthcare and energy.

It is devilishly hard to estimate how much the economy is affected by this uncertainty. One approach is to compare the current state of the economy with what should have resulted from the stimulus spending. Fortunately, the President’s Council of Economic Advisors (CEA) has provided this information through their 2009 stimulus estimate. There the CEA projected the unemployment rate to now be about 7.3 percent. This was a reasonable approach, based on mathematical models that have performed very well over the past few decades. However, they were well off the mark. The actual unemployment is now a full 2.2 percent higher. The most likely reason for this difference is that the CEA’s estimates did not account for the enormous loss of confidence the large deficits and array of other federal policies have foisted upon the economy. So it is not unreasonable to conclude that this weighty confusion of federal policy has cost us an astounding 3.3 million jobs.

And so it is with this recession, as with so many other things in life, that what we suppose will happen and how certain we are of it changes our behavior. This has significantly prolonged our economic difficulties, but it doesn’t take an economist to tell you that – any political pollster will do.

Link to this commentary: https://commentaries.cberdata.org/525/expectations-and-the-sluggish-recovery

Tags: unemployment and the labor market, recession, jobs and employment, economic recovery


About the Author

Michael Hicks cberdirector@bsu.edu

Michael J. Hicks, PhD, is the director of the Center for Business and Economic Research and the George and Frances Ball distinguished professor of economics in the Miller College of Business at Ball State University. Hicks earned doctoral and master’s degrees in economics from the University of Tennessee and a bachelor’s degree in economics from Virginia Military Institute. He has authored two books and more than 60 scholarly works focusing on state and local public policy, including tax and expenditure policy and the impact of Wal-Mart on local economies.

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