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Surveying the U.S. Economy Transcript

December 2009

Moderator: Welcome to the Federal Reserve Bank of Atlanta's EconSouth Now podcast. Today, we're joined by Mike Bryan of the Atlanta Fed's research department. He'll be speaking about the national economy. Thank you for joining us today, Mike.

Mike Bryan: It's my pleasure.

Moderator: Mike, there's a consensus that an economic recovery is under way. What are some key elements necessary to sustain a recovery, and what are the factors that could slow a recovery?

Bryan: Well, we won't know officially if the recovery is over until the National Bureau of Economic Research tells us so; they have a business cycle timing committee. But, they are very careful about when they officially call the end to a recession. They want to make sure that all the data is in, and they don't have to go back and revise their calling of an economic recovery at a later date.

But I think you're right. I think most economists believe that the recession probably ended at some time around June, about the middle of this year. So the data for the third quarter showed the economy was actually moving forward again. It grew at a relatively modest 2.5 percent, and all of the information we are getting for the fourth quarter suggests that that rate of growth has picked up a little bit. Still, however, the recovery looks a bit subdued relative to past recoveries.

Typically, when we see a recession of such duration and depth as the one we have just been through, history would tell us—the empirical evidence would tell us—that the economy would have a tendency to snap back fairly strongly. But we think there are some reasons to believe that the snapback will not be as strong this time around. We have to keep in mind that the economy has gone through a pretty wrenching economic experience, and many of the factors that gave rise to that experience are still working their way through.

For example, we're seeing a lot more function in U.S. credit markets, but to say that U.S. credit markets have fully healed would be a mistake. They're still a bit fragile. There still is a lack of credit availability across a variety of sectors. The securitization markets are not where they were at one time. And as the U.S. credit markets are struggling to get back on their feet, we would expect business investment and consumer purchases of durables and other credit-necessary types of spending to be affected as a result.

Moderator: In your view, what will a recovery feel like this time compared with past recoveries?

Bryan: Well, I think it will be a little unsatisfying in a number of dimensions. First of all, we're seeing on the second half of 2009…we saw some pretty good numbers for the turnaround. But a lot of the strength that we were seeing can be directly tied to massive government supports, both from the fiscal authority and from the monetary authority, from Fed policy. The immediate effects of those are going to wear off as we move into 2010. The key issue is whether or not there will be enough private demand to support a healthy and sustainable economic recovery. We think there will be, but it will tend to be relatively modest. And so what that means is that it's unlikely to feel very good for some time because things like U.S. labor markets, in particular, are likely to continue to be very soft, to be very sluggish, over 2010.

Rule of thumb would be that you would need economic growth somewhere around 3 percent or higher for the unemployment rate to fall measurably given the slow-growth scenario that I've outlined. You wouldn't expect, therefore, that the unemployment rate is going to come down very quickly. And so, for many people—those who are newly unemployed, or transitioning to new occupations, younger workers who are entering the labor force for the first time—it's not going to feel like a very healthy or strong economic environment, and I think that is one of the challenges we're going to face in 2010, and even into 2011: that as the economy works through the impediments—the headwinds, as economists say, that it's working through—the labor market is going to be one of the casualties. It's going to be very slow to respond, and for many of us it's not going to feel very good.

Moderator: Mike, I'd like to talk a bit further about employment and job growth. In a typical recovery, employment growth lags other aspects of a recovery. In the current environment, what happens if job growth doesn't keep pace with the growth of the labor force?

Bryan: Well, I think that's right, that the labor market indicators, overall, tend to lag the economy. As you enter into a recession, often times, the employment numbers are not quite as bad because firms work hard to keep the current employment levels reasonably high. They want to keep the workers that they've already got a great deal invested in within the firm. But as the recession gets deeper and longer, that no longer becomes viable.

Well, likewise on the other side. As the economy turns around, firms—before they take on additional hires—want to make sure that their current workforce is fully employed. So you typically see an increase in productivity right around the turning point as the economy starts to strengthen. And firms want to have some assurance that, before they take on permanent workers, that the orders growth, that the demand for their product is sustainable, that it is going to be there for some time. I would imagine that this time around, given the depth of the recession and given the slowness of the economic turnaround that most economic forecasters are looking for, you would expect to see that process play out, and maybe even be elongated some.

What will be interesting is to see what effect the slow labor market has on wages. You might think, ordinarily, that high unemployment would have a tendency to really keep a lid on wage growth, and certainly some of that has got to be occurring during this economic recovery. That slow wage growth, many will point to an environment of further disinflation, which the economy has been going through. We've gone from rates of inflation that were up around 3 percent just going into this economic recession, to now something closer to 1.5 percent, and by some forecasts could get as low as 1 percent inflation rate sometime in 2010.

On the other hand, a slow labor force growth amid a strengthening economy implies stronger productivity. So for workers who have jobs we would ordinarily expect to see a little bit of pressure coming from a more productive work environment, and perhaps a little bit of bump to incomes for the existing workforce. So I think we've got two forces that are at play here, and at this point I think most economists think that wage growth will probably remain relatively subdued given the pace of the economic expansion.

Moderator: Mike, you've touched before on this topic, but I wanted to get you to elaborate. In your EconSouth article, you discuss structural forces that effect economies. In the last two recessions, what structural forces might have been at work and how might they have affected the economy?

Bryan: Well, a structural force, unfortunately, is not something that economists have clearly defined. So let me tell you how I have been thinking about it and our economic forecast. You think of cyclical fluctuations first, and these are fluctuations where something negative happens to the economy and it recovers back to the place that it once was. So these fluctuations tend to return the economy to its previous place. A structural adjustment is an adjustment that happens to the economy that causes it to transition to a new place. For example, in the 1970's and '80s, one of the biggest structural adjustments we saw was the introduction of a larger number of women into the workforce; that transformed the economy into something it previously wasn't.

Over time, for example, we've seen the economy move steadily away from manufacturing toward a service economy. These transitions, while we tend to think of them occurring very slowly over long periods of time, and indeed they do, they also tend to get wrapped up into the business cycle so that the transitions are ushered along a little bit faster as the economy enters into a recession and then it transitions out into recovery.

Now, this time around, we have a number of structural adjustments probably at play. What would they be? Well, of course, there's the ongoing changes in manufacturing. But remember, we had a lot of resources devoted to construction, and in particular the construction of residential housing. It seems unlikely that those resources are going to go back to construction in the way that they previously were employed. So that's one area that has to transition into something else.

Likewise, I think U.S. financial markets have been changed. Many of the markets and channels that we saw going into this recession will obviously be restored, but not all of them. There will be changes in the way that financial markets are organized, and that too is going to take some time.

And finally, I think, many economists believe that the consumer coming out of this recession is going to be different. Why? It would appear that personal savings rates are already rising, and they are significantly higher today than they were going into this recession. Households' balance sheets have been severely hurt by the collapse in housing prices, by the shock to stock market values, 401k's have been hurt. And so, it would be expected for households to try to rebuild some of their balance sheets. And as they do you would expect their consumption to fall, and that would provide more incentive for investment. Again, this is something that the economy is going to have to transition to: away from such high levels of consumption and towards higher levels of investment. Eventually, it leads the economy, generally, to a better place, a stronger place, a more sustainable, long-term growth rate. But during that period of transition, the structural adjustment could significantly slow the recovery relative to just the typical cyclical experience.

Moderator: That's very interesting. Mike, my last question to you concerns the sector of the economy that you think has recently performed most surprisingly in the recovery.

Bryan: I hate to talk about surprises in this environment because in some sense everything seems to be a surprise. The breadth of the experience we've just gone through is really remarkable, and there is virtually no sector of the economy that hasn't been affected in a very profound way from what we've been through. And as we're turning around it's hard to know exactly what to expect given the enormous magnitude and number of support programs that are going on. For example, I might have said that the strength in consumer spending on durables was a bit of a surprise. But then we have to think about what influence did the Cash For Clunkers program play, and what affect is that going to have on consumer durable expenditures going forward. Likewise, I guess I would have been surprised by the strength of residential investment recently; we're actually seeing some home building. But, trying to separate that from the first-time homebuyers program and what effect it's having and whether or not, again, that's sustainable.

I think in the data, the thing that has most surprised me on the downturn is the severity at which businesses are cutting back on their inventories, especially at the retail level. The cutback of retail inventories—of what general merchandisers and others are holding on their shelves—is really something almost unprecedented. Certainly as a share of sales, the cut in retail inventories is now at the lowest point I've seen in many, many, many decades. So that has been a bit of a surprise, and I think it talks to a general sense of pessimism out there among business trying to work hard to make sure that they cut their operations to the essentials, and also to the breadth of the credit problems that we faced. Inventories, consumer durables, housing, all of these things are… you need to finance these things. And so, given how severe the credit contraction has been, although I've been surprised by cutbacks in inventories and other things, perhaps I shouldn't be.

So, going forward in this recovery, what are some of the things to look for? I think [one should] look at the behavior of those same sectors, those sectors that are crucially dependent upon credit, that are dependent upon reasonably clear, long-run outlook. I would say I am going to be looking very carefully at the business investment numbers for signs that businesses have access to ample credit through a variety of credit markets. That they have enough confidence in sales prospects to be able to take on new capital, capital expansion, and other areas. Consumer spending on durables, consumer spending on housing, all of these things, I think, are going to tell us whether or not our financial market has been fully restored or reasonably close to fully restored, and when this recovery is going to start taking on the speed and the feel of something that we've seen in the past.

Moderator: Well, Mike, I want to thank you for sharing your time and your insights with us.

Bryan: Well, thank you.

Moderator: Again, we've been speaking today with Mike Bryan of the Atlanta Fed's research department. This concludes our EconSouth Now podcast on the national economy. For more information, please see the fourth quarter 2009 edition of EconSouth. On our Web site, frbatlanta.org, you can read Mike's article about the national economy. Thanks for listening, and please return for more podcasts. If you have comments, please send us e-mail at podcast@frbatlanta.org.