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The alphabet soup economy

Despite the $1 trillion coordinated bailout in the eurozone, turbulence in the markets, escalating tensions on the Korean peninsula and the tightening of credit markets in Europe has led some commentators to worry about something even worse than the spread of germs at cocktail parties: a double-dip recession.

Economists use several different letters to describe the shapes of recessions: the ‘V’ implying a sharp recovery after a quick downturn, the ‘U’ describing a slower but strong uptick in the economy, or the ‘L’ where after a drop the economy stays flat. But it is the W-shaped or “double-dip” recession, where a second drop occurs after an initial recovery, which some commentators have started to worry about.

Nouriel Roubini, an economist so dour (and prescient about the financial crisis) that he earned the nickname Dr. Doom, is unsurprisingly bearish in his outlook. In an interview on CNBC to promote his new book, “Crisis Economics: A Crash Course in the Future of Finance,” Roubini sees the very real possibility of a double-dip recession:

Certainly see that risk in the eurozone, where the fiscal problem, the loss of competitiveness, the anemic growth in the eurozone was already bad before the shock to Greece, Portugal, Spain. And from here on I see things getting worse… And US economic growth in the second half of the year is going to slow down as the inventory adjustment goes away and as the fiscal stimulus becomes a drag on economic growth for the second half of the year.

Christopher Wood, an equity strategist for CLSA Ltd. in Hong Kong, writes in the Wall Street Journal about several worrying signs, including the rise in Libor, which measures the rate that member banks charge each other for loans, China’s economic tightening cycle and the deflationary pressures in the U.S. and Europe.

In America, bank lending continues to decline as does the velocity of money in circulation. If this persists, markets will face worryingly low GDP growth in the U.S. going into 2011. It’s this prospect that’s begun to be discounted in the recent stock-market correction, which has already seen the S&P 500 give up all its gains for the year. This will sooner or later pave the way for another round of fiscal easing in Washington when both the Obama administration and Congress give up on their current hopes of a normal U.S. recovery.

The New York Times reports that concerns about Europe are making even optimistic economic forecasters concerned about financial contagion spreading.

Few economists predict the United States will pitch into another recession soon. But a still weakened American economy could be slowed by its wounded European allies and trading partners. Even the optimists are wondering aloud if the United States will encounter a slower and bumpier recovery than expected.

“Look, a double-dip recession is a genuine risk — I’d place it at 20 percent as opposed to 5 percent a few weeks ago,” said Robert J. Barbera, chief economist for ITG.

Similarly, John Monks, a top labor leader and the secretary general of the European Trade Union Confederation, sees a profound risk that efforts to cut spending and raise taxes may lead to more hardship. According to the WSJ he said, “for the moment, this feels to us like 1937 in the United States, that we’re about to be plunged into the double dip.”

However, it isn’t all doom and gloom. James Bullard, who is president of the Federal Reserve Bank of St. Louis, said in a speech this week in London that the sovereign debt crisis in Europe “will probably fall short of becoming a worldwide recessionary shock.” In fact, contrary to causing a second recession in the U.S., the crisis in Europe might end up a net positive on this side of the Atlantic.

The U.S. may actually be an unwitting beneficiary of the crisis in Europe, much as it was during the Asian currency crisis of the late 1990s. This is because of the flight to safety effect that pushes yields lower in the U.S.

Similarly, the chief economist of the Organisation for Economic Co-operation and Development (OECD) sees some upside to the current crisis. Prior to the release of the OECD’s yearly Economic Outlook, Pier Carlo Padoan thought that the drop of the euro may be good. “The weaker euro is good news for the economy in the near term. It will favor exports outside the eurozone. The single currency was overvalued for too long.” He also ruled out a double-dip recession in Europe:

“Is there going to be a double-dip [recession] in Europe? I don’t think so,” said Padoan, who added that massive debts following the deepest global downturn in decades were “not just a European story,” but one that Europe was about to tackle faster than others.

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