Why We’re In Deeper Trouble Than Even Justin Wolfers Thinks (Long)

Justin Wolfers offers sobering empirical analysis to support his 4 conclusions:

1. The slump began in late 2006. And indeed, we were hardly enjoying good times through early 2006.

2. It’s a big slump, and GDP per capita fell by over 7 percent.

3. We remain a long way below the previous peak.

4. It’s going to take a long while to return to where we were back in 2006. Most forecasters are expecting GDP to grow by around 3 percent, implying per-capita growth closer to two percent. At those rates, average incomes in 2013 will (finally!) be back around the levels of 2006.

He has some nice charts. Check ’em out.

Unfortunately, both he and the Fed think that the last few years are essentially cyclical — i.e., connected to and integrated with economic behavior and welfare/consumption before and to come. Things are grim to be sure, but we’ll get back (in 2013, go team). If only it were so.

We Are Not In A Normal Cyclical Downturn But A Structural Collapse

First, as you know Dear Reader, the Stiftung has argued for years that the American economy ceased generating real (as opposed to phantom, transient, financially engineered) income and per capita growth since the mid-1990s. Second, financial engineering hid this structural dysfunction from 1994-2011 by constantly generating bubbles to obscure the real underlying atrophy and decay.

Wolfers is optimistic about 2013 because his return data point, 2006, is actually itself a bubble popping high point. Don’t look down, it’s a long, long way to fall.

For the Stiftung, our economic narrative is thus: (a) the First Tech/Telecom Bubble (1994-2001); (b) the National Security Boom (2001-present); (c) Tax Cut -Redistribution (2001-present); (d) the Second Real Estate Bubble (2002-2007); and (e) the bailouts/USG and Fed subsidies (2008-present). Bernanke all but assured in recent appearances that money will continue to be free – as in close to zero % cost of borrowing. Under normal circumstances, if we were in a cyclical moment, the Fed would not only watch out for but want to see inflation. On cue, a Second Tech Bubble is getting ready for its close up.

We’re Not On The Same Economic Curve Anymore

Our predicament is not related to normative, linear macro-economic narratives. But because we collectively don’t realize that, the U.S. continues to make illusory and dangerously erroneous choices along an inflated baseline curve. Our real welfare curve is an order of magnitude smaller. It’s highly unlikely the U.S. will hit Wolfers’ mark in 2013 because there’s literally no there, there.

To be blunt, many of the jobs vaporized since 2008 are not coming back. Those few that do will be significantly reduced. People really haven’t internalized any of this yet.

Crony capitalism aside, stabilizing banks et al. in 2008 made sense for systemic stability. (Putting aside how well it was done). There’s no rational economic reason to coddle them now (and they all became bank holding companies in late 2008).

The reason the U.S. stood in the same place in real terms economically is because these now banks generated the bubbles that created an illusion of wealth (which we then leveraged). Dealing with the real American economy and its actual purposeful economic activity requires repudiating financial engineering and its so-called ‘products’ and ‘technology’. The financial sector is a systemic cyst that must be cauterized, painful as that may be. It’s wholly out of alignment for national needs going forward regarding traditional commercial lending, underwriting and other assists. The LBO boom of the 1980s at least required companies to be game chips.

Now, the banks can bet on commodities and phantom, notional trades by themselves. At all times, this grotesque caricature of capitalism *requires* fake activity to hide its non-productive extraction of wealth. And all the external costs are again cost-shifted on to the American public. We don’t have a precise analytical frame for exactly how much smaller the banks should be, but we at the moment are thinking down to 60-65% as a first pass.

The Terror-Militarization Bubble Must Come Down

Second, we’re not going to get 2006 in 2013 per Wolfers because the National Security Boom years (DoD outlays alone have *doubled* since 2001) are over. Politically, the argument for DoD alone so far is between 1% real growth from today’s bloat (Gates’ proposal) or essentially a steady state (sold as usual ‘massive cuts’ in out year spending yada, yada, yada). Like the financial engineers, the DoD and Permanent National Security State nomenklatura has begun to live on its bonus. Like the financial engineers, this nomenklatura offers no positive net investments (given the OPTEMPO in Afghanistan and Iraq, it’s unquestionably true now).

All Administrations are skilled at hiding the true scope of discretionary spending for ‘national security’. When one adds DoD and War Supplementals in years past, DHS, the IC, Foggy Bottom, state and local law enforcement militarization, etc. even Dimon should stand in awe.

Wolfers’ calculations do not take into account systemic shock effects in the military-industrial sector (now stunningly pervasive). Second, jobs cut back are so baroque finding civilian-equivalents anywhere in CONUS problematic. Third, military necessity often mandates uneconomic expenditures, i.e. keeping design teams intact, expertise native and plants operational, etc. We no longer have civilian commercial industries to absorb or replenish them. Economic budgetary changes may be unrelated to the actual general economic activity taking place or overall impact.

So Far Down Every Way Is Up

We don’t have to reinvent the wheel. Modern economies successfully built native industries that generate hard currency export growth. The examples are (in no particular order): Germany, Japan, Singapore, Taiwan, South Korea, China and your candidate here. All built world class industries from essentially nothing. What’s striking is none of them did so on Kool Aid sloganeering about some Invisible Hand.

They started out with specific, limited objectives, achieved them and built upon them. Tax, tariff, education, urban planning, infrastructure were all coordinated. None of them relied on a so-called ‘comparative advantage’ — they created it to help them achieve their goals. Each of them did so differently. (We’re most familiar with the Japanese and German examples as you might guess, but for other reasons not unfamiliar with South Korea and Taiwan).

If applying development to the U.S. is too radical or ferrin for one’s taste, how about Alexander Hamilton? When he sought to develop industries that he knew *eventually* would have natural economies of scale and competitive advantage, he introduced tariffs and other measures to protect them. Supporting enterprise to win in the global market is as American Washington checking out his Facebook page crossing the Delaware, concerned his Chinese white iPad 2 might slip. You get the point.

This kind of holistic sectoral concept and and overall macro view to track investments and align policy is worlds apart from the kindergarten approaches advanced by either party. That’s no surprise. None of them have a clue how to jump start, nurture and then promote a wealth-producing industry generating real economic activity.

Americans Sound More And More Like Soviets

When we were in Eastern Europe in the 1990s, we’d sit in on meetings with the ministers of privatization or the head a major industrial concern. In one case, it was a director of an ICBM factory. He later became his country’s president. We’d hear their ideas for what they were going to do under ‘conversion’ (from defense to commercial – think of it as that time’s ‘winning the future’). So the ICBM plant? Easily profitable. They were going to make world class bicycles and microwaves. How? You can imagine the rest.

When we see American economists on cable or elsewhere we get the same feeling. Politicians, of course. ‘High paying green jobs of tomorrow’ blah, blah. Worse, the pundits writing about capitalism and the like? Advising presidential candidates? Wouldn’t know a Term Sheet if it fell on their lap. They think ROI is Twitterese for ‘really obnoxious interviewer’.

Well, thirteen hundred words. If only Wolfers is right. We suspect he’s an unwitting Pollyanna.


  1. DrLeoStrauss says

    Who wants to giggle first?


    Assuming that this modest effort avoids the fate of U.S. Memories (see link below) the U.S. has never lacked the ability to manufacture seed prototypes. What the U.S. lacks is the sectoral depth across all levels for scale, as Grove has tried to explain until he probably wanted to reach for his famous baseball bat.

    The Administration is attempting to replicate the SV lightning in a bottle — aerospace tech, Stanford, proximity and risk capital. But SV lost the manufacturing game. For the reasons noted above. Which shows that Administration does not know how to create domestic manufacturing.


    Where SV ostensibly has created wealth (see earlier post about Bubble Addiction) has been in software and ‘services’. Let’s make an agreement here and now to come back in 18 months and check up on this.


  2. DrLeoStrauss says

    Funny. We’ll all see more examples this ‘Summer of Jobs’ as office assistants and pastry chefs declare they’re ready to lead the world in green tech, etc.

  3. anxiousmodernman says

    I have been convinced of the Soviet analogy for a while. Hell, sometimes you go into Target and there’s only one brand of something you want.

  4. Dr Leo Strauss says

    Agree with both diagnosis and outcomes. Re a second term, we believe it’s just the next brass ring (pleasantly surprised he arrived so early for the first one, too). 2008-2011 only confirm our disregard shared in 2007. The only use we see for Democrats is to serve as target dummies and absorb rounds that could be directed else where. Even here their kung fu is weak.

    Re defense conversion, we met either in the City or over there with defense industrial officials. It’s entirely possible that the entity and staff you mention is not completely unrelated to the various conversations we did have. It’s also completely within the realm of plausible speculation that during Rummy’s OSD we talked about such entity and a [U.S. Defense Metal Bender]’s activities, but that would be, as mentioned, purely speculative.

  5. sglover says

    I almost forgot —

    Speaking of the breakdown of republican (small ‘r’) institutions, how much and what sort of legal criminality do you think is going on while Beltway stenographers are dazzled by the bright shiny distraction of Weiner’s stupidity? It’ll be a hoot if, say, Monday’s news is that the interstate highway system has been ceded to LockMart…..

    One more thing: David Simon:

    Can you disagree with any of it?

  6. sglover says

    In the car again tonight, with National Piety Radio yammering its delusions.

    First I heard that Bernanke is “forecasting” happy days by 2012, or no later than 2013. Given the simply stellar performance of economic “science”, to my mind there are only two possible interpretations:

    1) Bernanke isn’t even as good a bullshit artist as that panhandler who’s always 37 cents shy of bus fare. And unlike that panhandler, he doesn’t even **know** what a lousy bullshit artist he is.

    2) Bernanke **actually believes** prognostications from economic “science”. In which case he actually knows **less than** nothing, because he **thinks** he knows lots. (No doubt he’s a bona fide expert in his little niche. But anybody who backstopped Greenspan as often and enthusiastically as he did is simply an idiot. Or a scumbag. Or both.)

    Later I heard another economic “scientist” describing the success of academia, by citing lifetime earnings of college graduates. Naturally, those statistical trends will continue, uninterrupted, from now until the sun goes nova. And everyone knows that we’re all going to become KNOWLEDGE WORKERS, right?

    Even after all this time the obliviousness amazes. And infuriates.

    I don’t think I’m going to inspire a lot of dismay or surprise when I say that fundamental, national-scale institutions are proving themselves incapable of responding to external reality. Or that there are lot of clever, dedicated, energetic people devoted to exacerbating and profiting from this institutional neurosis — your “Movement” in part, but pretty much all of the transnational corporate world, too. I don’t expect to see any effective defense of anything I would consider the public good ever again.

    This is why, with very very few exceptions, pretty much everything coming from economists is pure horseshit. Power relations are hard to quantify, they don’t fit in the models — so they simply don’t feature in the world of Platonic forms that your stock economist jerks off with. But as I think we’ll all agree here, it’s power and institutions that are central, that provide the foundations for commerce, and emphatically NOT the other way round.


    Whether Hope’n’Change has balls or not (I go with Dr LS view), what I don’t quite understand is why the hell he **wants** a second term. Massive egos and neuroses aside, presumably people want to be president in order to **do something**. Hell, even Bush the Lesser had his daddy issues as an (unspoken) agenda. I suppose that if you were really, really charitable you could consider health care “reform” as some kind of accomplishment. Otherwise, Obama’s already maxed out his resume’, he’s got the standard post-White House ticket to the Davos celebrity set — what the hell else can he get? I don’t see any evidence that Obama wants to **do** anything with his office, other than occupy it. But what’s the point?

    Dr LS — that had to be Leonid Kuchma you were alluding to, right? Can’t think of any other ex-Soviet missile plant manager who slithered all the way to the top.

  7. Dr Leo Strauss says

    Let’s face it, the Boy King lacks balls. Simply put. One could be more decorous, but why?

    The Twitter user you linked to most likely was drinking the audacious Kool Aid in 2008 (if from the Right he’d probably cite another). And the Boy King knows that user statistically is not likely to vote Republican.

    So whose contempt is really agitating that Twitter user? Dimon’s? Or the Boy King’s?

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