Our country suffers from a malaise right now. According to the most common definition, two quarters of declining GDP, we have not been in a recession for a year.
But consumers and businesses lack confidence; labor and housing markets remain in the doldrums; and economic growth, while still positive, is anemic.
Unprecedented actions by the Federal Reserve and by the Bush and Obama administrations may have staved off financial disaster in 2008-09, but neither the monetary nor fiscal stimulus efforts applied so far has had much visible effect in restoring economic growth, low unemployment or other measures of prosperity.
Voters are mad at incumbents of both parties and both parties, along with the president, rank low in approval polls. Yet no one seems to have a clear solution that captures the approval of more than isolated subsets of the population.
We are only part-way into a long-term economic adjustment of historic dimensions. In economic jargon, our problems are "structural" rather than "cyclical." No one has found a clear solution because there isn't one, although there are measures that could make the process easier and others that might make it harder. But we are only three years into an adjustment that will take several more. So we'd better get used to it.
The "cyclical" versus "structural" distinction is an important one in economics that is not widely understood elsewhere. Cyclical problems or events are related to the business cycle, a historically well-established series of periods of prosperity interrupted by recessions, declining output and higher unemployment. The National Bureau of Economic Research, a nongovernmental research organization, has identified 33 recessions since 1850.
Structural problems are related to more fundamental, longer-term changes in the economy. These often are related to new technology, but may stem from political or social changes.
Thus, accountants and electronics technicians who lost their jobs when the economy slowed after the first OPEC oil embargo, but got them back again, were "cyclically unemployed." But the tens of thousands of steelworkers and iron miners who lost their jobs from 1975 to 1990 did so because of a fundamental change in the U.S. economy. This was a structural change, and they were structurally unemployed. Their jobs did not return even when national output again grew and overall unemployment dropped.
The current situation is a long-term transition, not a temporary bobble. It is an inevitable adjustment after three decades of apparent prosperity based on unsustainably high levels of consumption and unsustainably low levels of national savings and investment. It was based on increasing indebtedness for both households and government that simply could not continue.
This unsustainable pattern of spending versus saving was accentuated by more than a decade in which the Federal Reserve allowed the money supply to grow faster than output, including an extended period after 2001 in which short-term real interest rates were held below the rate of inflation and far below long-term average levels.
Economic growth in Asia, particularly China, gave further short-term support to economic patterns that could not survive in the long term. China's ability to sell consumer goods cheaply suppressed the inflation signals that the Fed's too-easy money policies otherwise would have triggered.
Asia's willingness to buy bonds issued by the U.S. Treasury as well as Fannie Mae and Freddie Mac kept unsustainable government deficits and mortgage financing from coming to a head before they did.
Add in a financial sector that grew unnecessarily large and powerful relative to the rest of the economy, and our long-term prospects grew even worse.
Moving back to roughly balanced government budgets, households saving 8 to 12 percent of their income, consumption averaging 60 percent of output rather than 70 percent, and so on, is not socially, economically or politically impossible. But it will take years, perhaps another five to eight. Japan had an even larger stock market and real estate price bubble than we did, but other aspects of its economy, especially savings rates, were healthier. Yet, the Japanese economy has stagnated for 20 years, in large part because of a stagnant political system. That is what we need to avoid, and that is what seems particularly dangerous in an election year.