First Tuesday Financial Panel Discusses the Economy

The Carlson School of Management’s First Tuesday event on February 3 was a panel of three financial experts discussing the state of our economy. Most people came away from this event with a confirmation that it took awhile to create the current economic situation and it will take time to rectify it.

Art Rolnick, senior vice president and director of research with the Federal Reserve Bank of Minneapolis, stated that there is a very good chance that we’ll be out of this recession by the end of the year. He started his comments by reading from a Time magazine cover story:

“The slump is the longest, if not the deepest, since the Great Depression. Traumatized by layoffs that have cost more than 1.2 million jobs during the slump, U.S. consumers have fallen into their deepest funk in years. U.S consumers seem suddenly disillusioned with the American dream of rising prosperity.”

Although many in the audience thought Rolnick was reading from a recent Time article, he was actually reading an article that was published in January 1992, describing the recession of 1991. This recession turned out to be mild by historic standards and one that preceded one of the largest expansions in U.S. history.

Rolnick argued that the current recession which officially began in December 2007, is not “out of the ordinary” compared to past recessions. In fact, the percentage declines in employment and in personal incomes are at the median of the 10 previous recessions that have occurred since 1948. He said, “I know when you are going through a recession it always feels like the worst. But if you look at the data, we are right about at the average recession since 1948.”

Rolnick sees this as the business cycle’s “creative destruction” in process. He said, “Some firms have to fail and reinvent themselves; some people have to find new jobs. That’s how market economies work. They have business cycles. There are going to be ups and downs. But market economies do well in the long term.”

Andrew Winton, chair of the finance department at the Carlson School, had a more pessimistic view. He believes that the U.S. economy may contract for another 2 to 4 years, with gross domestic product declining up to 15 percent over that period. He believes that the current downturn could be as severe as the recession of 1982, when unemployment hit 10.8 percent. (February’s unemployment rate was 8.1 percent)

Winton argued that the U.S. is undergoing a banking crisis that resembles those faced by Norway in the late 1980s and Japan in the early 1990s. They survived and eventually recovered with some government intervention, such as is now being done in the U.S.

Winton said that in most of the banking crises, you see a run-up in asset prices, especially real estate. Then you have a collapse in real estate that often brings on the economic crisis. The real estate price declines typically last anywhere from 4 to 6 years, during which time the GDP declines. Thus, Winton believes that the recession could be a severe one.

John Beuerlein, president and chief investment officer of Marquette Asset Management, stated that no one knows for sure this time how to resolve the crux of the problem, which is the billions of dollars of toxic securities and loans on the balance sheets of the banks. No one knows how to sort the bad loans from the good ones.

Beuerlein stated that as mortgages were bundled into securities, they were mixed and matched under a theory that the risk in the bad loans would be sufficiently diluted if they could be mixed with enough good ones. Now those toxic loans are embedded in securities that were sold to all kind of investors all over the world. Beuerlein said, “We tried to spread the risk, but when the risk starts to hit, then it hits everybody and that’s where we are today.” He believes that the government needs to cleanse the banks’ bad balance sheets to resolve the current credit crises.

Now almost two months after this panel discussion, Federal Reserve Chairman Ben Bernanke appears to agree with Art Rolnick’s more optimistic perspective. Bernanke said in his 60 Minutes interview on March 15 that he thought America’s recession would probably end this year if the government succeeds in bolstering the banking system. He stated that a recovery taking root next year hinges on getting the banks to lend more freely again and getting the financial markets to work more normally.

For other reviews of the discussions by the First Tuesday financial panel, you can go to:

StarTribune article “Recession will end soon – or maybe not”
http://www.startribune.com/business/38981329.html?elr=KArksUUUU
 

MinnPost.com article “Economic cold comfort: Recessions are necessary economic corrections”
http://www.minnpost.com/sharonschmickle/2009/02/04/6420/
economic_cold_comfort_recessions_are_necessary_economic_corrections