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July 29, 2012

Policies for the Coming Recession

To close watchers of the U.S. economy, the data yields a daily torrent of bad news.  I could consume the entirely of this space recounting it, but will instead provide two key indicators.  First, economic forecasts that appear monthly or quarterly have almost all been revised downward, some for the third time.  Second, the smallest tidbit of good news, such as a statistically insignificant improvement in a manufacturing index, from terrible to very bad, dominates the news cycles without moving financial markets.  Together, I take this as evidence that an increasing share of forecasters now join me in predicting a recession later this year or early in the next.  So, in this column I will discuss the policies we may to see in response.

I think it unlikely that governments in the U.S. or Europe will act to spend more or tax less.  Structural and cyclical deficits, partially as a result from stimulus programs, make this infeasible.  Some action on the December sequestration (tax increases and spending cuts) would seem prudent, but, in this politically animated environment, action appears unlikely until after the election.  Voters will need to step in, and they are not scheduled to speak forcefully on the matter until November.

Perhaps governments will consider a period of counter-cyclical regulatory policy.  This sort of step might ease environmental, workplace and reporting requirements to spur more job growth.  I am dubious about this approach for two reasons.  I doubt the impact of short-term regulatory easing (businesses thirst for certainty), moreover I wonder if it would be worth the cost.  We have regulations for some purpose (often bad purposes to be sure), but I doubt the competency of a government who created these regulations to pick and choose the good from the bad in the next few weeks.  No, governments will have but little short-term effect on the coming recession, though I am sure plenty of sham fixes will shortly be forthcoming.

Perhaps the only policies that are likely to work in this recession, and I give them scant chance, are those involving central banks.  There are few limits to policies from the Federal Reserve or the European Central Bank to increase the supply of money and reduce interest rates.  The most talked about is another round of quantitative easing or QE3.  The most innovative is something I've heard called "Ben's Fire Sale" which involves the Fed, led by Ben Bernanke, purchasing huge quantities of mortgage backed securities for a fixed period, say one year.  This would drive mortgage interest rates even lower, perhaps nearly to zero when adjusted for inflation.  The fixed term signals to consumers that if they'd ever like to buy a house, they'd better do so now.   While this might boost home sales it necessarily creates another problem with bank solvency once inflation commences (remember the S&L Crisis?) . 

So, in the end we are left with no good choices, and the best may well be to do nothing in the short run, focusing on the long run instead.

Link to this commentary: https://commentaries.cberdata.org/634/policies-for-the-coming-recession

Tags: data, economy, federal government, election, recession


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. Note: The views expressed here are solely those of the author, and do not represent those of funders, associations, any entity of Ball State University, or its governing body.

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