So the weekend where the administration is finalizing a debt ceiling deal that features immediate spending cuts, the expectation of medium-term spending cuts and no new stimulus in any form is also the weekend where new BEA data is showing their idea for how the recovery would happen has major problems.
We talked a bit about the new BEA data from Friday showing that we’ve had a recovery-less recovery. This data has shown 2011 has been a bad year and the past several years were revised downward, showing a deeper 2008 than we had previously thought. But what does that mean for the recovery going forward?
In a October 2010 speech, Ben Bernanke said that sustained “expansion must ultimately be driven by growth in private final demand, including consumer spending, business and residential investment, and net exports. That handoff is currently under way.” In order for the recovery to take off, consumer spending would need to recover. This is difficult with household balance sheets deeply damaged and weak job numbers. Yet a “handoff” from government to consumers was possible, as the Fed believed that ”stronger balance sheets should eventually provide households the confidence and the wherewithal to increase their pace of spending. That said, progress has been and is likely to be uneven…”
This speech was featured in the introduction of an important Noam Scheiber New Republic article from last October, Handoff or Fumble? In it, Scheiber, who has written well on what the Treasury and other in the administration’s economic teams are thinking, outlined how the administration put its idea for the economy recovery on consumer spending stabilizing. (I wrote about that article when it came out here.)
Scheiber contrasts the administration’s point of view, particularly the forecasts of Chris Carroll, an economist at Johns Hopkins University, who drafted the White House report on consumer spending while at the Council of Economic Advisers, with that of Richard Koo. Carroll thinks consumer spending, while not necessarily going to take off, is likely to stabilize enough for the economy to get better. Koo thinks, because of the burden of bad debts and deleveraging, that consumer spending is going to remain weak. Since consumer spending is the major driver of the economy, that’s a big problem.
It’s worth reading the full article but a part we need to expand on (my bold):
Instead, the backdrop for Bernanke’s comments is a debate about whether spending by consumers will fall only modestly relative to the pre-crash days, or whether we’ll see a pronounced drop that weighs on the economy’s back like a large, belligerent primate…the Obama administration has made the case for it with more rigor and precision than just about anyone around…
Here’s where the tentative optimism comes in: While unemployment is likely to stay uncomfortably high for the foreseeable future, wealth is gradually recovering (as the stock market rises) and banks are extending more credit. The combination of those things should stabilize the saving rate at 6 percent, or even bring it down a bit. That means consumer spending should grow at about the rate that incomes grow, or slightly better, going forward. “We were in a period in which people had to ratchet down their level of spending,” says Chris Carroll, an economist at Johns Hopkins University, who drafted the White House report on consumer spending while at the Council of Economic Advisers. “We may be seeing the end of the period where it has to be ratcheted down.”
Of course, the bad news is that incomes aren’t likely to grow very impressively over the next few years, so consumer spending won’t either. “In my view there’s not much reason to think that households are going to power us out of current slow period,” says Carroll. But at least they won’t be exacerbating the problem….
The question—really more like a nagging terror—is whether something has happened since the recent financial crisis to fundamentally change the way consumers behave, rendering the administration’s model moot….
So how can we tell who’s right? It turns out both approaches make similar predictions about what should have happened since the financial crisis—both forecasted that saving would shoot up. It’s only now that their predictions are diverging….We should be able to figure out whether we’re living in Chris Carroll’s world or Richard Koo’s over the next few six to nine months; the first big set of indicators—data on spending and saving from this year’s third quarter—should be out in the next few weeks.
Well, it has been 9 months since that article. What do we now see? Here’s the consumer spending information that was just announced on Friday:
The 2nd quarter 2011 annualized consumer spending rate went up a paltry 0.1%. Instead of stabilizing, consumer spending has had a terrible 2011 and there’s little evidence it’ll get better.
(This is tentative first-approximation, but the interesting thing is that, contra Koo, this doesn’t appear to be driven by savings rates but instead by weak income growth. I wonder how prolonged high unemployed and and decreasing share of income going to labor will feed itself into a weak recovery? Is anyone on this in an interesting way?)
So the weekend that the administration is finalizing a debt ceiling deal that includes short and medium-term cuts and no additional stimulus measures – no unemployment insurance, no short-term tax cut, no spending, no infrastructure, no anything – is the weekend the administration has gotten the data that their economic handoff from government to consumers was fumbled.