December will mark the seventh anniversary of the beginning of the recession brought on by the collapse of the housing bubble. Usually an economy would be fully recovered from the impact of a recession seven years after its onset. Unfortunately, this is not close to being the case now.
It would still take another 7-8 million jobs to bring the percentage of the population employed back to its pre-recession level. The 5.8 percent unemployment rate (compared to 4.5 percent before the recession) doesn’t reflect the true weakness of the labor force since so many people have dropped out of the labor force. Furthermore, more than 7 million people are working part-time who would like full-time jobs. This is an increase of almost 3 million from the pre-recession level.
It’s not just the labor market that shows the economy’s slack. According to the Congressional Budget Office (CBO), the economy is still operating close to 4.0 percentage points below its potential. This translates into roughly $700 billion a year being thrown in the garbage because we don’t have enough demand in the economy. That comes to more than $2,000 per year for every person in the country.
In this context, the celebratory attitude of many pundits and politicians over recent growth numbers does not make much sense. This year’s 230,000 monthly pace of job growth is considerably better than we have seen in prior years. But it will still take us many years at this pace to get back to anything resembling full employment. If the underlying rate of growth of the labor force is 900,000 a year, it would take us more than four years to get back to pre-recession employment rates.
The same story applies to recent GDP growth numbers. If the economy sustains a 3.0 percent annual growth rate, it would take us close to four years to close the demand gap estimated by CBO. And next to no one thinks the economy will be able to sustain a 3.0 percent growth rate for the next four years.
This is not just an exercise in arithmetic. In recent weeks we have been treated to many columns fretting over the fact that workers are not sharing in the benefits of the recovery. This is not really a mystery.
When the economy and the labor market are weak, workers are not in a position to press for wage gains. Workers have to take whatever jobs are available on the terms that employers are prepared to offer. As a recent study from the New York Federal Reserve Bank found, nearly half of recent college grads are working at jobs that don’t typically require a college degree. In a week economy, workers have to take what they get.
And in spite of the hand-wringing by the pundits and the politicians, the continuing weakness of the economy is not really a mystery either. Before the downturn the economy was being driven by the demand generated by the housing bubble. Record high house prices pushed construction to record shares of GDP. Similarly, the $8 trillion in ephemeral housing wealth generated by the bubble led to a consumption boom, as people spent a portion of their newly created equity.
The basic problem since the collapse of the bubble is finding a way to replace the demand that it had been generating. While many may hope that the private sector will replace the lost demand on its own, there is no plausible story through which this will happen. Firms don’t go on investment splurges in a weak economy. Nor is it plausible that consumers will spend at the same pace as in the bubble years now that the bubble wealth has disappeared.
This means that we have to find another source of demand if we want to get back to full employment. We can do it with government spending. We can spend more on infrastructure, on education, on retrofitting buildings to make them more energy efficient and reduce greenhouse gas emissions. But this is not on anyone’s agenda in Washington, or at least not at the necessary levels.
We could reduce our trade deficit and create demand in the United States rather than overseas. But that means lowering the value of the dollar to make US made goods and services more competitive. And a lower valued dollar isn’t macho, so our politicians won’t talk about it. (Sorry, the trade deals won’t help on the trade deficit. They are about increasing corporate profits.)
Finally, if we can’t increase demand, we can go the other route and reduce labor supply. This can be done through policies like work sharing as well as increased family leave, sick days, and vacation. This is the secret to Germany’s low unemployment rate. The average work year there is more than 20 percent shorter than in the United States.
Our economic problems are manageable, but they require some serious thought. Unfortunately economic policymaking continues to be dominated by people who were unable to see an $8 trillion housing bubble. There is no reason to believe that these people have a better understanding of the economy today than they did seven years ago.