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The unemployed stand in line at a New York relief kitchen in 1934. (AP/AP)
The unemployed stand in line at a New York relief kitchen in 1934. (AP/AP)

Is the U.S. headed for another Great Depression? Add to ...

If a depression by any other name would feel as bleak, what do you call the current state of the U.S. economy? A number of influential American economists are no longer mincing words: They argue that deficit-obsessed politicians in Washington are setting the United States up for a repeat of the 1930s.

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"What we're experiencing may not be a full replay of the Great Depression, but that's little consolation for the millions of American families suffering from a slump that goes on and on," insists Nobel laureate Paul Krugman.

"At some point, the pain of high unemployment may lead to some new thinking in Washington - but until that time, welcome to the second Great Depression," adds Dean Baker of the Center for Economic and Policy Research.

At first blush, the analogy seems ludicrous. The U.S. unemployment rate hit 25 per cent during the Dirty Thirties. It's now at 9.1 per cent, after peaking at 10.1 per cent in late 2009. So-called automatic stabilizers - from unemployment benefits to food stamps - mean economic downturns now resemble a big pothole more than a bottomless pit. There are no bread lines.

Still, the Depression mystique has an irresistible lure. It informs (and invariably illustrates) our understanding of economic suffering in ways statistics cannot. A CNN poll this week found that 48 per cent of Americans expect another Great Depression within a year. Who are experts to tell them otherwise?

"The use of the word 'depression' is an abuse of the language," says Sebastian Mallaby, director of the Maurice Greenberg Center for Geoeconomic Studies at the Council on Foreign Relations. "But that doesn't mean I'm happy about where we are. There is a painful problem of long-term unemployment."

And on that level, the U.S. job market may actually be in worse shape than during the Depression. More than six million Americans, or about 45 per cent of the unemployed, have been out a job for more than six months. That's a higher proportion than at any point during the 1930s. In all, about 25 million Americans are unemployed or underemployed.

And Washington may be about to make the situation worse.

Neglecting the lessons of 1937

A slew of stimulus measures have expired and more will soon. Unless Congress acts otherwise, the last of them - extended unemployment benefits and payroll tax cuts - will end on Dec. 31.

Even before then, their impact may nullified if Republicans get their way and force the adoption of massive, immediate spending cuts in exchange for a deal to raise the $14.3-trillion (U.S.) federal debt ceiling by Aug. 2.

For economists of the Krugman-Baker school, 2011 is shaping up to look worryingly like 1937. Then, as now, politicians and policy makers mistook the absence of negative growth for a nascent recovery. They turned to slashing deficits and snuffing out the perceived threat of inflation. That Mistake of 1937 drove the economy back into the red.

Politicians on Capitol Hill seem strangely impervious to warnings of 1937 redux. Neither the news that the U.S. economy grew at an anemic 1.8 per cent in the first quarter, nor the fact that job creation in May was four times below the rate needed to keep up with population growth, tempered calls for spending cuts.

The White House is increasingly worried. No postwar president has won re-election with an unemployment rate above 7.2 per cent. But the policy debate on Capitol Hill, to the extent there has been one, is over. Congress is hell bent on deficit reduction. The best Barack Obama's administration can hope for is to moderate the pace of spending cuts.

Of course, the world should be thankful that Washington finally appears to be taking deficit reduction seriously. The credit-rating agencies have been ringing their alarms louder lately: Without a viable plan to rein in spending on entitlement programs such as Social Security and Medicare, the United States will hit a debt wall sooner or later.

In its December report, the deficit-reduction commission appointed by Mr. Obama and headed by Clinton-era budget director Erskine Bowles and ex-Republican senator Alan Simpson, recommended measures that would slash growth in the federal debt by $4-trillion by 2020. But that was well before a string of dismal reports - on jobs, housing, manufacturing and consumer spending - forced economists to revise their growth forecasts downward.

"In an ideal world, you'd have the promise of deficit reduction à la Simpson-Bowles commission coupled with continued stimulus now focused on supply-side benefits, such as infrastructure spending that would make the economy stronger later," Mr. Mallaby offers.

Instead, the current fight between Democrats and Republicans for political advantage could just lead to the worst of both worlds, as Congress moves to slash spending in the short term without risking the wrath of voters by reforming their cherished entitlements.

If this is a recovery, why do we still feel sick?

Vice-President Joe Biden is brokering debt talks with congressional leaders as the clock ticks toward the Aug. 2 deadline. But additional short-term stimulus measures will be a tough sell. A group of 103 Republican members this week called for immediate spending cuts of $380-billion during the 2012 fiscal year, which starts this coming Oct. 1.

"At a certain point, you have to back off the stimulus. The amount of debt you have becomes either politically or economically difficult to sustain," Mr. Mallaby explains. "We're at that point in a political sense more than an economic sense."

The result is that the U.S. economy appears condemned to endure a prolonged period of subpar growth, if not a double-dip recession. (So far, strong banks and a robust housing sector have insulated Canada from the pain it typically feels when the U.S. economy stalls. But for how long?)

Recoveries following a financial crisis tend to be slow going. By this point in the average postwar recovery, the U.S. gross domestic product had risen 9.4 per cent above its low point. But this time, U.S. GDP is up barely half that amount, according to Mr. Mallaby. He does not expect any sudden improvement.

"The larger truth is that the pressure to rein in government spending, coupled with continued pressure on household consumption from soft house prices, points to tough times ahead," he wrote in a June 3 report. "The latest grim jobs report may not be the last."

It probably won't turn into a depression. For millions of Americans without anything else to compare it to, it will only feel like one.

Konrad Yakabuski is The Globe and Mail's Washington correspondent.



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