The economic headlines sure look better than they did a year ago. Gross domestic product (GDP) is finally growing again, rising by 2.2 percent in the third quarter of 2009, with an early estimate of 5.7 percent for the fourth. The fourth quarter number will probably be revised down, but it will still likely mark the fastest growth since 2003. The unemployment rate, after a nosedive, leveled off in the last few months of the year, and the stock market has regained 40 percent of its value after a March 2009 low. Four of the five largest bailed-out banks have either repaid the government or received permission from the Treasury Department to do so in the near future. Inflation slowed to a standstill in November after 10 months of increasing consumer prices. Construction of new homes and apartments increased in 2009 from 2008 levels, the first annual growth in housing starts since 2005.
“The Recovery Act has created jobs and spurred growth,” President Barack Obama said in a December speech trumpeting the success of his economic policies. “We are in a very different place today than we were a year ago.” Lawrence Summers, director of the White House National Economic Council, concurs. “Everybody agrees that the recession is over,” Summers said that same month on ABC’s This Week.
But a closer look reveals those appealing numbers sit on a dangerously shaky foundation. Economic growth in 2009 was largely dependent on a historic level of government spending that even the president acknowledges is unsustainable in the long term. The root problem of mortgage delinquencies has yet to be worked out. Bank lending is sparse amid ongoing uncertainties surrounding regulatory reform. As a result, manufacturers and small businesses continue to struggle with limited credit. All that translates into historic job losses and a bleak outlook for meaningful growth in 2010 and 2011.
Worst of all, many of the core problems in the housing, banking, manufacturing, and service sectors are being perpetuated and exacerbated by the very federal programs the president credits with jump-starting economic growth. Instead of confronting the roots of the crisis head on, as Obama has repeatedly boasted of doing, his administration and the Democratic Congress have kicked the can down the road, postponing the day of reckoning for real estate, the auto industry, and the toxic mortgage-backed securities that were at the heart of the economic meltdown. These unsolved problems will keep looming over the economy until they’re finally addressed.
Government Domestic Product
The much-noted “jobless recovery” is not just a problem. It’s an anomaly. Not since the post–World War II recession in 1945 has unemployment risen this quickly: five percentage points in the 24 months after the downturn began in December 2007.
To put that in perspective, it took 43 months for unemployment to hit its peak during the 1979–82 recession. In 2009 alone the economy shed a staggering 3.9 million jobs. And though the headline unemployment rate stabilized at 10 percent during the final months of the year—17.3 percent if you include part-time workers—initial jobless claims for January 2010 jumped at a rate not seen since the previous August. It’s not at all clear the worst is behind us.
The gains on Wall Street have been goosed largely by government spending and guarantees, not the usual private sector–funded growth. And federal spending cannot continue indefinitely without deficits and debt service spiraling out of control. John Silvia, chief economist for Wells Fargo, says, “We have seen a recovery, but it’s driven primarily by federal spending and special federal projects. The character of this recovery is very different than we’re used to.”
Consider that 37 percent of the third-quarter GDP growth was due to motor vehicle purchases, which were stimulated almost entirely by the Cash for Clunkers program. “The third quarter was really just a lot of Cash for Clunkers spending that won’t be sustained in the foreseeable future,” Silvia says. (Final statistics for fourth quarter spending were not available at press time.)
The car scheme, an attempt to jump-start the bankrupt auto industry, offered consumers a government-funded credit of up to $4,500 if they traded in their gas guzzlers for more eco-friendly vehicles. But since most participants probably were already planning to buy a new car, the program essentially shifted future demand for automobiles to the third quarter of 2009. Instead of continuing to grow, car sales dropped 34 percent immediately after the program ended. Figure 1 shows U.S. auto sales in 2009 largely following the 10-year average month-to-month change until the Cash for Clunkers credit jolted demand, followed by a subnormal drop.
Another 20 percent of third-quarter GDP growth came from new residential investments, propped up largely by the First-Time Homebuyer Credit. The credit was first offered in 2008 as a federally backed no-interest loan of up to $7,500, paid back over 15 years. The February 2009 stimulus package extended the program to September, increased the maximum to $8,000, and eliminated the repayment requirement. With the free cash giveaway set to expire at the end of the third quarter, builders and buyers rushed to close on homes, concentrating larger than normal residential investment into third-quarter GDP. Due to the “success” of the program, the credit has been extended again until April 2010. But the program has only helped individual buyers and sellers, not the housing market as a whole.
A Wells Fargo survey found that 56 percent of home-buyers who purchased a home in the second or third quarter of 2009 did so because of the special tax incentive. Such federal jiggering not only steals demand from the future, distorting growth numbers; it skews recovery in the real estate market. Housing prices are up in 2010 from a year ago, but that is because the government is giving away money to buy homes. The $8,000 giveaway pushes up the costs of all homes, not just the ones purchased with the credit, because sellers have raised their prices in anticipation of a buyer armed with stimulus cash. The credit suggests an increase in demand that isn’t really there.
The growth in the housing market that the White House brags about is inherently unsustainable. Home prices would not be up without the government’s support, and they will decline once the support is removed. That’s one reason Congress extended the First-Time Homebuyer Credit, even though it only puts off the inevitable and creates more problems. This skewed demand creates the possibility that homes will be constructed by builders who mistakenly believe the market is reviving, when in fact it is only Uncle Sam subsidizing a buying spree until the money runs out.
Overall, government support accounts for roughly 77 percent of economic growth in the third quarter of 2009, according to my analysis of Commerce Department statistics. This means that non-Washington GDP growth was closer to 0.34 percent from July to September 2009, instead of 2.2 percent.