This writer has made an economic point from time to time;
that is, economic recessions seem to emanate from one of two conditions. The first seems endemic to capitalist
economies, they go through cycles – business cycles – that span from prosperity
to recession and back again. They do
this because economic actors – that’s just about everyone – mostly decide
independently.
That means that when times are good,
they want to take advantage, spend more which increases demand which encourages
increased production, which leads to higher employment, etc. That means they behave in ways that further
heat up economic activity. The economy,
as a result, overheats with inflationary prices and production is done at above
full employment levels.
One element feeds the other and
eventually, usually government action, in the form of even higher interest
rates, discourages investment and brings conditions back. This often initiates a contractionary
economy. When that happens, again actors
mostly behaving from their personal opportunities, spend less, leading to the
above activities in reverse.
They withdraw investments and hunker
down to withstand lower economic rewards – profits and the like – and lower
prices. Withdrawals lead to further
withdrawals and a contraction occurs.
This up and down is normal, and no amount of government supervision has
found a way to avoid this cyclical eventuality.
But there is another type of
recession. That is occurs when in a prosperity
phase of the cycle, a number, and one is enough, assets’ prices shoot up beyond
any semblance of their underlying value.
Since their prices are rising quickly and promise investors inordinate
levels of profits, this attracts investors to further buy up those assets or
their representations in terms of stocks, bonds, or mortgages. This “fever,” it should be remembered,
happens when due to prosperity, the general mood happens to be optimistic. People start believing the old contractionary
“bug” has been licked once and for all.
Of course, this further raises those
assets’ prices and hyper inflationary progressions get going in terms of those
assets. This is similar to what happens
in a regular cycle, but it usually revolves around a limited number – one or
two – products and their price jumps seem to be on steroids. These, in popular parlance, are called “bubbles.” And bubbles eventually burst.
With that brief background –
admittedly from a non-economist – what happened in 2008? It was that year when the nation had to face
the consequences of a bubble bursting. This
is a civic concern because nothing, over the long haul, affects politics more than
economic factors. The famous campaign
blip – “it’s the economy, stupid” – can be applied to most if not all elections. Having a job undergirds a voter’s ability to
be viable. Take that away and things get
serious in the minds of most. A poor
economy threatens the vitality of the homestead.
To underline the above, one of many
reactions to 2008 was offered by Richard A. Posner. He is a former jurist and economist who
usually favors conservative political messaging. In the midst of the downturn, he offered the
following:
The culprit is cheap credit rather
than irrational behavior by business and consumers. Cheap credit stimulates economic activity,
causing asset prices to rise, including the prices of residential real estate,
which is a huge part of the nation’s asset base. To take advantage of these rising prices,
would-be buyers borrow more, so lenders lend more, and prices are driven still
higher, and lenders borrow more so that they can lend more. Leverage tends to rise, and the rapid
expansion of the banking industry causes strains. At some point the asset-price increase
becomes unsustainable, but no one will know in advance what that point is, and
there is rational reluctance to forgo lucrative profit opportunities by bailing
out before one senses that the plateau (followed by the inevitable crash) is
about to be reached. This pattern has
been repeated time and again and in country after country.[1]
Bubble bursting leads to serious recessions or, as Posner
sees the 2008 version, a depression.
His concern seems a bit timely today in
that the President has been pressuring the Federal Reserve (the FED) to lower interest
rates at a time of full employment.
While there does not seem to be a real estate bubble going on – although
real estate prices in the nation’s major cities seem extraordinarily high
leading to increase homelessness in those urban areas – are there signs of
another asset bubbling up?
Well, there is
corporation debt. The main source or
cause of high debt today is low interest rates.
Businesses that want to invest or meet expenses instead of using their
cash reserves, are incentivized to borrow.
Why? The cost of doing so is so
low. Consequently, the debt levels of
these entities have inflated by levels last measured in the pre-2008
crash. Back then, that debt reached by
historical standards to relatively very high levels. What about now?
Debt outstanding for nonfinancial
businesses stood at a little over US$15 trillion by the of Q3 2018, with
corporations accounting for 63.9 percent.
Between Q4 2010 and Q3 2018 – the period immediately after the bout of
deleveraging [lowering debt] prompted by the Great Recession – nonfinancial
businesses in the country have added about US$5 trillion to their overall debt,
with nonfinancial corporations contributing US$3.5 trillion to this
figure. Indeed, since Q1 2011 (and until
Q3 2018), debt outstanding among nonfinancial corporations grew by an average
of 5.6 percent per quarter year over year.
At 46.4 percent of GDP in Q3 2018, nonfinancial corporations are
carrying more debt today by this measure than they were just prior to the Great
Recession.[2]
Worrisome?
Beyond the
proximity of these debt levels to the last crash – which is enough of a concern
– when the next inevitable downturn takes place, the FED will have
significantly less maneuvering ability to meet it – it lowers them during
downturns to encourage business activity.
Why? Because they currently have
interest rates so low and will find it difficult to lower them more. Perhaps in that situation, the FED can join
other national banks and allow negative interest rates – where lenders or
savers pay the banks to hold their money.
And, more relevant to the point of
this posting, corporations with high debt are in a more vulnerable posture due
to that debt. With a downturn, it will
be difficult to take on more debt. In
addition, there will be bankruptcies and a lot of debt will be erased at the expense
of lenders – they will not be made whole and will lose a significant part of
their investment or lending amount. But
can something else develop from these debt levels? Can they be considered a bubble?
Of course, all
of this is not helped by record-breaking debt levels held by the federal
government – apparently the huge tax breaks the government put in place in 2017
did not lead to the increases in production promised by those who made the
decision to institute the lower taxes for high income individuals and
corporations.
These are the
types of developments that put depression into economic depressions or
recessions. When the economy slides, they
discourage people to invest. The result,
deeper recessions that last longer. But
before a recession begins, an economic player is only speculating whether the
downturn will happen and when it will happen.
The question is not whether there will be a recession in the nation’s
future, but when that recession will occur and what will cause it. “Good luck to us all.”
A short postscript: for civics or American government teachers,
the above sketchy description of the business cycle will probably suffice. Such a teacher can count on an economic
course to fill-in the details for students.
[1] Richard A. Posner, A Failure of Capitalism: The Crisis of '08
and the Descent into Depression
(Cambridge, MA: Harvard University
Press, 2009), 105.
[2] Akrur Barua and Patricia Buckley, Dr., “Rising
Corporate Debt: Should We Worry?”, Deoloitte,
April 15, 2019, September 23, 2019, https://www2.deloitte.com/us/en/insights/economy/issues-by-the-numbers/rising-corporate-debt-levels.html, (emphasis in the original).
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