From Here To A Lost Decade

Why don’t all recessions seem to teeter on the brink of turning into a “lost decade” as President Obama described, accurately, our current predicament?

In a standard recession, some people (or firms or governments) cut back on their spending.  But others either maintain their spending or actually buy more.  A recession is typically a good time to invest in relationships and buy longer-lasting assets; for example, it’s a good time for private universities (with endowments) to hire faculty, build labs, and acquire the land for new buildings.  Anyone with a long time horizon, deep pockets, and access to cash ordinarily thinks in these terms.

But instead of this kind of countercyclical private sector investment behavior, Drew Faust, the President of Harvard this week sent a downbeat message to her stakeholders,

[W]hat has become clear is that we are living through much more than a bump in the road.  Our economic landscape has fundamentally changed.

President Faust goes on to say that the endowment has lost value and cuts need to be made.  I’m not questioning the judgment of President Faust or the idea that some parts of the university sector overexpanded during the boom – in fact, similiar messages are being communicated, one way or another, at many other schools.

On the contrary, there are few organizations that cannot take at least 3-5% out of their nonpersonnel costs after a long boom – we all get sloppy about our spending when times are good for a long while.  This, of course, is part of why we face a recession.

What worries me much more is when organizations with long horizons and a strong balance sheet (e.g., anyone with an endowment, venture capital, private equity, people who own property without an onerous mortgage, etc) decide that the only prudent thing to do is cut spending dramatically.  And universities are likely relatively sheltered, e.g., people still go to college even in a prolonged downturn, and applications to some professional schools typically go up. I mention them here only as example that shows the depth of our problem.

The rest of the world economy looks bad and likely to get worse.  If you know of any bright spots (i.e., anyone, other than the US government, buying more than last year), post the details here or otherwise spread the word.  I talk to a lot of people with information and ideas from many places; good news is scarce and official forecasts (which still contain an imminent recovery) seem greatly exaggerated.

If the global situation is really as gloomy as this suggests, surely the G20 leadership will finally get serious with recovery measures in time for the London Summit on April 2nd?  If the global economy loses a decade, they are responsible.  Tell them this, early and often.

33 thoughts on “From Here To A Lost Decade

  1. “it’s a good time for private universities (with endowments) to hire faculty, build labs, and acquire the land for new buildings.”

    Long before that it is a much more urgent for the leading universities to reflect on their role and responsibility in the current crisis. Where were they? When did Harvard alert?

    Is Simon Johnson exposing here the principle that Harvard is too big to fail? That while the music is playing and there is money in the endowment… it should not stop dancing?

  2. The current environment is gloomy because market participants are reacting to the fact that there are no instant gratification fixes to return our economy to normal. Recovery will require many trial and error incremental solutions, just like all the incremental errors and omissions that dug us into this recession.

  3. While I’m not the expert on endowments, aren’t they typically invested in the markets?? The Harvard Management Company, a subsidiary of the University, is responsible for managing the endowment assets. The approach utilized is “active” investing to outperform the benchmark. Not sure how much it is down but the endowment is in billion(s).

  4. I find it curious to juxtapose these observations with the article in the NYT this morning that mentions Larry Summers role in an interest rate bet that is one of the investments that has led to liquidity problems with the Harvard endowment. Given Summers other policy involvement while in the Clinton administration, in the absence of some very public admission of mistakes, it is hard for those of us watching the game from the bleachers to develop confidence in his ability to provide good advice now.

  5. It is hardly a big bright spot, but some universities will take advantage of this mess. Those likely to do so are those with ambitions,Are there enough institutions that are so situated that it makes a difference? I don’t know.

  6. Which decdade or how many decades are we talking about losing? Seems like a lot of the markets are busy giving back the last decade or so. (Has it really been 12 years since “irrational exuberance”?). 401k’s at my office sure have given back much of the last 15 years’ gains.

    With the prospect of significant parts of the world becoming socially/politically unstable as a result of this crisis, I think a lost decade of bright depression looks pretty attractive by comparison. Or at least I wouldn’t call it the worst case scenario.

  7. Johnson is correct – universities are increasingly endowment funded (not student funded), and they’ve lost 25% or more in a year – not as much as most individuals with 401ks in stocks, but they had been gaining rapidly for 6 or 7 years. Read the MIT plan…

    I already observed this in a previous thread.

    Generally, very few are investing long term right now. In December and January, some were, but they were so badly burned that they have retreated. Everyone is preserving capital. The consensus is that yes, things are cheap, but it’s going to get worse, and everything will get cheaper. The more capital you can hold onto, the more you can buy later – so do whatever you can to NOT spend cash yet. It’s the same logic with buying a house.

    This is an expectations game – and that means a DEMAND crisis, not a credit crisis. Fixing the banks won’t help at this point. And frankly, sucking money out of the economy by floating T-bills to find a too-small stimulus is not going to work either.

    Expectations need to be changed, and the only thing that will do that is inflation, dollar devaluation, and a massive positive demand shock. If we try to shock demand without devaluing the dollar, we are taxing future generations _at every increasing rates_ in order to stimulate the Chinese economy.

    Fact: there is less wealth in the world than people thought.

    Fact: currency denominated wealth has increased in value, and inflation taxes currency-denominated wealth. Borrowing taxes future working generations.

    Fact: we are enslaving our children to holders of T-bills.

    Clinton’s promise to China was horribly depressing:

    The US is going to bankrupt the country in order to ensure that China’s 2 trillion in foreign capital reserves don’t get devalued – meanwhile, our houses, 401ks, and everything else are getting crushed.

    The only solution is print money and spend it. Quickly. Stop borrowing money out of the real economy and spending it in too-small amounts.

    This is a tipping-point problem, and our too-smart economists are treating it like a monotonic curve.

    Obama and his advisors need to grow a pair of gonads. Complicated, slow-moving, elegant half-measures are doomed to fail.

  8. Governments are doing strong moves to save the economy but they are maybe short of intelligent moves. Leaders are trying to save the economy with electroshock therapy but the patient still bleeding. So, the patient may end dying anyway. As long as we continued losing 500,000 jobs per month our economy will continued bleeding.

    This problem and the government plans raise the concept of dynamic complexity to the stage in which cause and effect is far separate in time. I believe that to reduce the gap between cause and effect money shall go directly to the constituents. Tax course is one way (actually the easy way and government is working on this). But a lot of economist agrees that this will not be a strong multiplier of the economy. Another way is to maintain people jobs but no only with trickle –down theory. Everybody agree that it will take long for investments in infrastructure, heath-care, and the other proposed investments to create or maintain jobs. So, would not be better to create a system in which the government pays all or a significant of the payroll of companies at least for some time. This could enormously reduce the gap between cause and effect. At the end of the year an adjustment can be made and government could redistribute through taxes the profits or losses of the companies. Those companies who were able to gain a certain amount of profits may pay high taxes of what is normally paid and so on.

  9. One last thing:

    Stop waiting for the G20 or the G7…

    The world is bilateral. Multilateral solutions take years to negotiate. By the time the insulated ECB figures out there’s really a problem, and realize they will need to do something that harms their immediate circle of friends, it’s too late.

    Devalue the dollar by having the Fed float new T-bill auctions. Spend money fast. Our great gift is that our debt is denominated in our own currency. This is what differentiates us from Argentina in 70s and 80s.

    Europe will follow with devaluation – look at them already complaining about the UK trying to seek competitive advantage. France alone will put a stake through Germany’s heart to protect French jobs.

    I put no faith in the G20.

    They will come out with a big policy announcement saying they feel our pain, then promise to put in place a plan that will create a framework for facilitating future cooperation to address the crisis… and then promise to meet again in 3 months.

    Afterwards, the markets will fall another 3%.

    Somewhere deep inside, I harbor the vague hope that maybe – just maybe – Obama’s too-smart economic advisors are so smart that they are preparing for a devalued dollar by securing critical imported assets (like vast reserves of now-cheap oil).

    Given the recent weeks… oh nevermind.

  10. This is an amusing example of the old saying: “when your neighbor loses his job it’s a recession, when you lose yours it’s a depression”. Now as this downturn reaches far enough to hit universities, its peculiar significance suddenly comes home to an academic!

    Seriously though, the one ray of sunshine I see is that the rate of decline is so sharp it could lead to a rapid liquidation and rebound. I believe the main problem standing in the way is primarily the dead weight cost of low productivity in government. The “tax eaters” who make up so much of our electorate now may well prefer ten years of stagnation, getting them closer to their pension, than a shakeout in government followed by rapid growth.

    A useful economic model for these times would address who the beneficiaries are from stagnation, and their likely behavior.

  11. Hi Simon – I love the call to arms. However the sentiment is but a drop in the ocean at this point. The drop in consumption is staggering. I was privileged to be in class with another of your esteemed colleagues this week. The drop in GDP (annualised) in South Korea in last Qtr of 2008 was -20%, our dear friends in Singapore -17%, Japan -12%.

    So before the crisis we were urging folks to cut back on consumption (i.e. stop using houses as ATMs), and now we want people to spend (e.g. Universities). Where is the balance?

  12. The economy, left to its own devices, will right itself eventually. The return to the normal state of full employment will take years because this global recession results from a huge systemic mis-pricing of economic risk. First Bush-Paulson and then Obama-Geithner-Pelosi have pursued erratic, unprincipled policies that will postpone the necessary adjustments and impoverish a generation of Americans. They have protected the politically powerful at the expense of future taxpayers.

    Consumption must fall and investment must increase. As consumption falls, investment for capacity expansion will fall in the short term. It will take a long time for the distortions in the economy to work themselves out. Government can assist through relief to the poor and by shifting spending from government consumption to authentic government investment. Government can also help by reforming government-dominated sectors of the economy where costs have been inflated through public policy – medical care and education particularly.

    The good news is that the threat of deflation seems to be receding. This should be evident in a month or two as highly stimulative monetary policy takes hold. The one thing we don’t need to worry about in this depression is deflation in goods and services.

  13. Pay business up to 35,000 dollars a year(depending on their wages) to rehire the 3 million
    workers that have been laid off. That would cost 105 Billion a year and everybody would be
    working. Add some money for stimulating demand and the economy is restarted except for the
    banking system. Figure a fair way for the government to pay the workers that companies would
    need to lay off to remain solvent.
    In 2009 we can target money exactly rather than use blanket stimulus as in the 1930’s

  14. Families were outbidding each other on homes like the ponzi scheme it truly was.

    They ramped up home prices over 200% with the intention of moving out every 2 years with another 50% profit.

    Now that their scheme has backfired due to the banks realizing these people never really had an income, the government wants to deduct money out of our earnings so we can pay for their outrageously overpriced home mortgages.

    The younger generation will not be able to acquire these homes at the current price levels unless they too receive a government bailout.

    Incomes simply do not support current housing prices.

    Why can’t the government call a spade a spade?

  15. I could not agree more with statsguy. The only way to stimulate demand without seriosly hurting future generations is to print and spend money. It will also help ease trade balance and reduce debt burden. Of course china will not like it but if they won’t let their currency appreciate, dollar should devalue itself and are if china will match US.

  16. And let’s face it, considering the many of the possibilities flying around such as 1930’s hatemongering taking off again perhaps a “lost decade” could be among the best things to happen to the world.

    And by the way what has the last two decades really brought us? Instead of having our consumption financed by salaries that we now can have it financed by going into debt? Is that something to rave about?

    Before we start blabbing about losing a decade why do no we sit down and thing about what we want to gain the next decade. The current stimulus packages often seem to me like crusades without a cause.

    And by the way what is this about stimulating the consumer to consume while at the same time the interest rates for the mother of all consumers those who use credit cards are over 17% in a country where the government finances itself a rates below 1%?

  17. I agree with StatsGuy.

    Cheap oil, low interest rates, printed money, and fiscal stimulus will turn the tide.

    But no one is going to like the tax burden we will all have to pay when the economy comes back.

    Most Americans don’t remember that when Kennedey cut taxes, the highest marginal rate was 90%. When Reagen did it, the rate was 70%. Lots of rich people gave up their mansions in the post-war period, because the taxes were too high to maintain the properties. This is one reason we have so many lovely small parks with derelict mansions in America.

    I see more parks in our future.

  18. The original comment was garbled. It should read:

    It is hardly a big bright spot, but some universities will take advantage of this mess. Those likely to do so are those with ambitions, small endowments, lots of tuition revenue, and a demand for enrollment that is not price sensitive. Some examples are USC and NYU. Are there enough institutions that are so situated that it makes a difference? I don’t know.

  19. You only have to look at the riots going on in Guadeloupe with airport closure, road blockades, police and army out in force, no gas, closure of airport, tourists attacked etc etc. to see what is coming to a town near you if the rot doesn’t stop soon.

  20. You asked for bright spots. I’m not sure whether the following qualifies but it seems that some individual spending to “reduce costs” is already occurring. Wii Fit sales are high which, I presume, is to allow canceling health club memberships. McDonald’s is getting some of the money that would otherwise have gone to more expensive eateries.

    Other areas where spending to reduce costs has the potential to occur are home gardening equipment, cooking equipment, sewing machines, various tools, home entertainment, etc.

    To the extent that people who still have discretionary income are able convince themselves that purchasing a coffee club membership that comes with a free fancy Espresso machine is better than putting the money saved by not going to $tarbucks under the mattress, I see a “bright spot.”

  21. Looking for a bright spot? How’s about Harvard having to tighten it’s belt.

    Sorry, I couldn’t resist.

  22. I’m not saying that Drew Faust doesn’t understand System Dynamics but maybe Professor Faust needs to come down to MIT for a refresher course. I heard about a faculty retreat yesterday (at MIT) in which there were loud voices saying “now is the time to expand”…and I think there are good reasons for doing so especially if one takes a long term view–and in 20 years we’d probably be glad we did so.

    As far as other bright spots…hmmm…I’ll have to get back to you.

  23. Now is the time to expand only if you believe that a recovery is imminent in end of 2009/early 2010. Otherwise, non-currency assets will get cheaper. Rational expectations dictate waiting and hoarding. That’s what I’m doing. That’s what my company is doing.

    No one believes that the recovery is “imminent”. It has become quite clear that every nation is promising bold action, but secretly hoping someone else will commit to fixing it – or that it will fix itself in 3 months if only we delay a little longer.

    No one is buying it – those who believed have been burned too badly. Obama’s failure to deliver on promises has shredded credibility. His poll numbers have already started to crumble.

    Let us recount – promise to get a stimulus in January (nope), promise for a detailed banking reform (nope), promise for a comprehensive housing policy (nope). All were late, all were half-measures. Promise for massive infrastructure rebuilding (40 billion over two years… hardly noticeable). Regular people look at the raw numbers, and do the math…

    “I’m pleased to announce that this morning the Treasury Department began directing employers to reduce the amount of taxes withheld from paychecks, meaning that by April 1st, a typical family will begin taking home at least $65 more every month,” Obama said in his weekly radio address.

    65 dollars a month? What a joke. That will cover the cable bill.

    (China’s stimulus also is largely smoke and mirrors, with standard budget items being relabeled as supplemental spending to make it look bigger.)

    Americans watch Obama pay lip service to “bold” action, but see…

    13 dollars a week. Wow.

    Britain is the only country that gets it. Interestingly, they also get global warming…

    So I close with the words of winston churchill – We can always count on Americans to do the right thing, after they have exhausted all other options.

  24. You ask for news of situations where people are buying more than last year. One area that I am familiar with is the “local food” movement. I am president and general manager of the Oklahoma Food Cooperative ( ) which only sells locally produced food and non-food items. Our business thus far this year (Jan and Feb) is up about 25% over the same period last year, and in fact our Feb was bigger than December 2008. Our producer members are ramping up production and we have new producers coming on line nearly every month. To use a metaphor from the Bank Nationalization Viewers Guide post, we are mammals in a food industry of dinosaurs.

  25. Perhaps the greatest good to come out of this will be the exposure of the current fiat money system, probably the most successful “something for nothing” scam ever devised by our species.

  26. I wonder if this has something to do with the fact that Harvard had about 60% of its endowment invested in alternatives (hedge funds, PE, real estate) when the crisis hit, and almost 20% in international equity.

    Not as aggressive as Yale, but still not exactly well situation for what we’ve just went through.

    In other words, Harvard may have good reason to contemplate a permanent reduction in its purchasing power, not just a cyclical one.

  27. Re: Industries that are still growing

    Yes, there is at least one, and it’s the cycling industry. Cycling in the US is more popular than ever as a sport, and it got a HUGE boost from last year’s insane gas prices. Lots of folks got out of their cars and onto their bikes last, and those folks are still biking. I believe Giant–the world’s largest bike maker–is expecting reasonable growth this year.

    That said, cycling’s growth may be bad for automakers. I personally am pining daily for the day when more folks realize that they don’t need their cars for trips that they make by themselves that are less than 5 miles.

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