Thursday, January 01, 2009

Recessions & depressions

This Economist piece pins down the distinction between recessions (2 consecutive quarters of negative growth)  and depressions (declines of GPD which either exceeded 10% in a year or which persist for more than 3 years) and  analyses when and where they each occur.  Depressions were more common in the past because bank failures were more often permitted and because the share of government in the economy was smaller.  These days depressions are much more common in emerging economies - Russia had a dozy 1989-1998 when GDP fell 45%.  ASEAN countries experienced depressions following the 1997 Asian crisis.

It remains an open question whether the US will experience a depression now. Most economists say not (fiscal actions and support of financial institutions the reason) but in the current disturbed environment these forecasts have limited (I would say close to zero) value.  Model-based forecasts are only valid in the range of experience the models are based on and the current situation is something distant from recent experience. What is true is that the US economy declined 6% on an annualised basis in the December quarter.

The price paid at Intrade for a US depression outcome implies a depression probability of about 30% compared to a probability of 10% in November 2008.  See:



2 comments:

rabee said...

Intrade is not needed here and its not a thick market.

The Dow&Sp500 have thick markets and are supposed to indicated some aggregate beliefs. They don't seem to be predicting a depression (whatever nonsense that term entails).

They were at one stage predicting Armageddon but not anymore. This is a financial problem which when solved should see the real economy bounce back quickly. The US labor market is resilient (take a quick look at the data).

hc said...

Rabee,

I hope you are right but fear that you are not.

Compared to stock markets Intrade is thin but still this contract is the 8th most heavily traded at Intrade.

To suggest that the Dow has thickness and predictive power does not seem useful given its recent performance. It can bubble and it can bust on the basis of irrational market sentiment.

I am not at all optimistic about US labor markets - the very recent improvements seem to reflect seasonal effects.

The US was in recession for nearly 1 year before the stock market crashes and these effects are still to filter through to the economy. Yet even now there are 4.5 million Americans unemployed the highest since December 1982.

My guess is that unemployment in both the US and Australia will move pretty close to 10% before the effects of this 'financial problem' work themselves out fully.