US GDP: The 1 per cent drop in second-quarter US GDP makes this the country’s worst recession since World War II. Government stimulus spending helped a bit, but personal savings are still depressed and the federal deficit is huge. The need to correct those imbalances could make for a very slow recovery. The 3.7 per cent peak to trough decline so far beats the 3.2 per cent drop in the 1973-75 recession. However it falls short of the 5 per cent decline of 1937-38, let alone the 25 per cent drop of the Great Depression. There were some – admittedly small – encouraging signs. Government intervention helped in two ways. Direct increases in federal and state spending roughly halved the decline. And tax rebates added an annualised $113 billion to personal income, increasing the savings rate and presumably boosting consumption somewhat.
Normally one would expect such a deep recession to be succeeded by a rapid recovery. But two factors may prevent that this time around. First, the 5.2 per cent savings rate, although the highest since 1998, is still well below the long-term average. As the effect of the spring tax rebates wears off, the normal rebound in consumption may be held back by individuals’ need to rebuild their personal savings in light of the housing and market declines.
Second, the federal budget deficit is now 13 per cent of GDP, double the previous peacetime record of 6.4 per cent in 1983. The government’s massive borrowing need has already caused a backup in long-term Treasury bond yields, despite the deep recession. Going forward it may inhibit the recovery of private investment and inventories, probably by pushing interest rates up further. More timely economic indicators such as the Chicago purchasing managers’ index, still at a recessionary 43.4, also suggest a slowing decline rather than rapid recovery. The US economy may be at the bottom of this pit for a considerable time, with the climb out being halting and difficult.