What's different about this economic slump? On Economics

Leonard Silk

December 30, 1991|By Leonard Silk

NEW YORK — WHAT WAS first regarded by the Bush administration and the Federal Reserve as a mild, brief recession has become a long, painful one, possibly what some economists are calling a "quiet depression."

David M. Jones, chief economist of Aubrey G. Lanston & Co., says this slump is distinguished from its postwar predecessors by a clash between a dangerously overleveraged economy and unusually severe bank loan stringency.

"The threat posed is an all-out private-sector credit contraction and asset price deflation, accompanied by mounting corporate bankruptcies and bank failures," he said. "The resulting decline in consumer wealth could curtail spending for a prolonged period." Is 1992 shaping up as the analogue of 1932, the year when the recession of 1930-31 collapsed into depression? Or do weknow enough economics to stop that from happening?

Martin Feldstein, president of the National Bureau of Economic Research, says in his introduction to "The Risk of Economic Crisis," a study based on a conference of leading American economists: "Although the United States has been fortunate enough not to experience the kind of massive economic collapse that occurred from time to time until the worldwide depression of the 1930s, there is no doubt that the possibility of another such financial and economic crisis cannot be dismissed."

In that study, Hyman P. Minsky, professor of economics at Washington University, concludes that the reason a vicious downward spiral has not yet led to depression in postwar America is that apt intervention by the government and the central bank can abort the process leading to depression at two points.

One comes when endangered financial institutions are at the point of selling off assets; the institutions can be refinanced to prevent a wave of sales and a sharp and general fall of asset prices. Refinancing banks and crucial financial players, he says, is the basic central bank lender-of-last-resort operation.

The other intervention point comes when profits start falling, and government can avert collapse. In the model Minsky uses, total profits equal investment plus government deficit. To sustain profits during a period of falling investment, government can run a larger deficit.

Why did the U.S. government not do that after the crash of 1929? Minsky's answer is that the federal government then made up only 3 percent of gross national product -- too small to offset the impact that falling investment between 1929 and 1933 had upon corporate profits.

Today's government, constituting some 25 percent of GNP, is large enough to sustain profits by increasing the deficit through automatic stabilizers or fiscal policy. The combination of lender-of-last-resort interventions and increasing federal deficits, he says, "explains why a serious, long-lasting and deep depression has not taken place."

But could it happen now? Like Feldstein, Minsky says it could. Through nearly all of the postwar period, the United States had "fiscal autonomy" -- the power to take policy actions without much concern about adverse foreign reactions to widening deficits. "The situation may be different now," he warns.

Foreigners now have enormous holdings of American financial assets. The big deficits the United States ran in relatively prosperous times would mean the deficit it would have to run to abort a financial crisis might be enormous. The interventions next time, Minsky says, "may well be beyond the combined efforts of the Federal Reserve and the Treasury." Containing a future financial and economic crisis, he says, "may depend more on what Japan and Europe do than upon the Fed and the U.S. Treasury."

But, just when cooperation among the United States, Japan and Europe is more critical than ever, tensions among them are rising. The Uruguay Round of trade talks is in jeopardy. Germany and the United States are moving in opposite directions on monetary policy, with Germany following a tight-money, anti-inflation policy.

The Fed, with the year nearly over, moved to cut the discount rate by a full percentage point. And the administration, at last publicly acknowledging that the recession was continuing, intensified its search for fiscal stimuli.

Thus, the United States is moving to head off a not-so-quiet depression, despite the deficit and foreign constraints, and 1992 will prove whether anti-depression economic medicine can work in a global economy.

Germond and Witcover are on vacation. )

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