Watch the inventories
I disagree with the NBER’s statement that the recession began in 2007. While it’s true that there were recessionary indications (high price of oil, a weakening employment situation, and an inverted yield curve), the economy continued to grow. In large part because of the dollar’s decline, a change that fueled exports and gave an incentive for foreign manufacturers to build plants in the United States. Because of this growth was fairly robust, especially in Q2, it’s hard to justify calling the positive GDP in the first two quarters of ’08 a “recessionary” period. I wouldn’t be surprised to see this changed at some point in the future.
The problem with them getting that wrong is that it is indicative of how people have misinterpreted much of this recession. I believe that a key area where people lack understanding is in how important Inventory control has become in the economy. When a few people decide to stay home and not buy a VCR at Best Buy that has a ripple effect that reaches across the world. Last fall when a LOT of people were freaked out and decided not to buy things it had a huge impact. How does this work?
1. today’s businesses want to keep as little inventory around as possible – for finished goods that is the VCR on the shelf at Best Buy, for instance. For all of the suppliers that make that work, it is the boxes the logistics company uses, or the components that come together to make the VCR. Behind that it is the raw goods that go into making the components. It’s a long, interconnected chain most of which has been converted to Just-in-Time thinking. What this means is that when an item is sold at the end, it initiates a chain reaction that tells the VCR maker that they need to make another VCR, and the component makers they need to make more compenents, and so on back to the raw good producers.
2. What happened is that this interconnected system allowed businesses to cut back and “unwind” faster than at any time in the past. Instead of seeing a decline in GDP and employment over a 6-12 month period, we saw deeper and harder cuts in a 3-4 month period. Because this happened quickly the GDP took a double-effect from this. Inventory declines are treated as a negative go GDP – so even if people are buying things, those purchases are a negative to the GDP – because they were produced in a previous period.
3. And Inventories have been cut at an unprecedented rate. When people started to shop again starting really pretty early in ’09, inventories started to decline. While these numbers are seen in the consumption reports, they remain a negative in GDP. Indeed, in some areas companies cut too far and too fast – Best Buy had items that they ran out of during upturns in sales on particular weekends.
I don’t know that this type of interconnected system always reacts to big, unexpected events. To be fair, at the end of ’08 there was a lot of fear in the air (much of it produced by the campaign), so it’s hard to cast blame at a company who cuts deeper than needed – it was a panic and they were trying to do their best to protect their companies. Now that inventories are being drawn down, companies will have to go back to the business of making and delivering goods again. It doesn’t mean that we are back on easy street, but it does mean that some of the doomsday scenarios haven’t come true.
However, while the economy was busy recovering, the government was busy creating additional, future hurdles for the economy to overcome – the stimulus package, the likelihood of higher taxes, the possibility of inflation or an overly tight fed and the fear and uncertainty around Cap&Trade and National Health Care are all things that this economy is now prepared to absorb. If people want a robust recovery, they should push to kill all of these things – even the unspent money from the stimulus could be returned without great harm. In my mind, these things are the difference between a 3-4% growth and a 1.5% GDP growth.. which is what I expect to see if Obama gets his way on the economy
