What's Wrong with the Economy?

Journal article by Allen Sinai; Challenge, Vol. 35, 1992

Journal Article Excerpt

What's wrong with the economy?

by Allen Sinai
The combination of cyclical recession with a slowdown in long-term potential growth has led to
economic gridlock unprecedented in the period since World War II. First we must deal with
growth. Then we can tackle the deficit.
The economies of the United States and the world are in trouble: that is not debatable. In the
United States, real economic growth has been only 0.7 percent per annum since the first quarter
of 1989. The unemployment rate is far above a low 5 percent in March 1989. Job creation has
been woefully inadequate, with a net increase of 563,000 persons since the first quarter of 1989.
Job losses of 1.7 million have occurred since the peak of the business expansion in July 1990.
The federal budget deficit remains extremely high, at levels near $300 billion, due to a large
extent to the weak economy itself. No single sector of the United States economy, except health
care, has recovered in the traditional sense. Expenditures on health care, however, reduce the
income or cash flow available for discretionary spending and place a burden on the government.
And despite repeated actions by the Federal Reserve to ease monetary policy--some twenty-four
instances between June 1989 and September 1992--the economy has failed to show meaningful
revival.
In fifteen quarters since early 1989, only three have shown a bona fide recovery, real economic
growth in excess of the growth in potential output of 2 percent to 2.5 percent. Three quarters--
the third quarter of 1990 to the first quarter of 1991--were characterized by a full-fledged
recession. The other nine quarters have exhibited growth in between, ranging from zero percent
to only 1.7 percent.
Indeed, the current business cycle episode is the most unusual in the era since World War II,
aberrant and perhaps different from all others in U.S. economic history. Most unusual is the jobs
pattern, still showing net declines in most sectors as businesses try to cope with the prolonged
stagnation by holding down headcount, squeezing wages, reducing fringe benefits, pushing
health care payments back onto labor, and getting tough on suppliers.
Economic gridlock
As both a cause and effect of the unusual business situation, a new business strategy has
emerged, a kind of new wave management. The only way to increase profits in a weak economy
with only single-digit revenue growth is to control costs. The biggest source of costs is labor. As
a consequence, few new jobs are generated and keeping headcount down is the religion. In a
slack labor market with intense competition for existing jobs, wage compensation is pressed
lower. Little growth in wage and salary income occurs, hurting spending, and consumers are
gloomy because of job insecurity.
The weak economy produces lower inflation and low interest rates. Those low interest rates in
turn also depress the incomes of an aging population increasingly dependent upon interest
earnings. Businesses spend weakly, keep a tight rein on production, attempt to keep inventories
lean relative to sales, and stay cautious on employment. This again results in less income and
thus less spending.
This "positive feedback loop" has been in place now for several years as a kind of gridlock and
internal mechanism of the economy. With other economies also weak or in recession and little
external stimulus from any source, policy or elsewhere, the economy simply cannot lift off.
The gridlock in the economy has produced a prolonged period of stagnation, with no self-
regulating mechanism to break the interactions that limit economic activity. In fact, the United
States economy has never "self-combusted" out of a downturn or period of stagnation. External
stimulus or impulses of some sort have always been necessary to lift the economy. Only then
has the internal mechanism of self-sustaining growth taken over.
No wonder Americans have felt so bad about the economy. Few have seen such prolonged
weakness and so tough a jobs climate for so long. For business, a similar situation exists, and the
climate has changed management practices in a permanent way.
Global recession
Elsewhere around the world, all is not well either. The industrialized countries have exhibited an
extended period of weak growth and some are suffering full-fledged recession. The United
Kingdom is in its fourth year of recession or no recovery. Switzerland has been in recession.
France and Italy are growing, although slowly. Real economic growth in the OECD countries
was only 0.9 percent in 1991 and about 1.5 percent in 1992. Lately, the German economy has
shown a ...
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