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Lessons of a Slow-Going Recovery

Mises Daily: Thursday, July 17, 2003 by

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The Wall Street Journal recently ran a front page story focusing on the question, "Why does this recovery feel more like a recession?" Likewise, the Chicago Tribune asked in an editorial, "Why has it been so difficult to get this economy out of first gear? More to the point, when will this fitful, uneven growth begin to feel like a recovery?"

These are questions that have perplexed some of the economics profession's leading macro theorists who predicted months ago that a recovery would be well under way by now. The National Bureau of Economic Research can say that the trough of the cycle was reached 20 months ago—even though unemployment has risen steadily since—the existence of a recovery is far less from obvious.

The Journal article offered explanations for our quasi-recovery. One was that the very business practices that extended the '90s boom now serve to prolong the '00s bust. The trend of increasing marginal productivity from scarce inputs has continued. While this helped firms increase their bottom lines a few years ago, it allows them to avoid re-hiring laid-off workers now. Hence, the unemployment rate continues to rise during a time of positive GDP growth.

Another explanation is that recovering firms are choosing to expand operations in Mexico and other places overseas. These firms tended to re-hire the workers they were forced to lay off during the bust following recessions in the '70s and '80s. No more. "Before the 1991 recession, most people got their old jobs back," says Brandeis University's Robert Reich. "After 1991, most people didn't get their old jobs back. Those jobs went abroad, or they were automated out of existence."

It seems to me that there are some lessons that should be learned from the study of our slow-going recovery. Three stand out. The first is that increases in GDP growth that are based largely on increases in government spending do not feel like genuine recovery. In an era in which the State is growing at levels greater than what occurred during the heady years of the Great Society, with projected $400-plus billion budget deficits likely for the next several years, property rights are threatened and the ability of private capital flows to spur wealth creation is hindered.

While much of this new debt will fund an expanded military presence in a post-9/11 world, much will also fund the expansion of existing federal bureaucratic structures. Such is the symbiotic relationship between the warfare and welfare states, a relationship that should be noted by "small government" conservatives who nonetheless support military empire abroad. This only increases the government's ability to expand its war on the workplace under the guise of regulatory monstrosities such as the Americans with Disabilities Act and the Family and Medical Leave Act.

Such legislation has the effect of increasing the cost of labor relative to capital, thus penalizing firms for choosing labor over capital. Part of the full costs of Bush I- and Clinton-era regulations, much of which did not exist during the last recession, is the continued rise in unemployment after two years of languishing economic growth.

The second is that efforts by a deflation-obsessed Fed to thwart the economy's market clearing mechanisms amount to dangerous nonsense that must be stopped now. These efforts not only have the effect of prolonging the economy's misery, they throw sand in the face of unemployed and unskilled workers whose families would benefit the most from falling prices. The irony is that many of these workers will be forced to become dependent on the State, robbed of the autonomy that would be encouraged by falling prices and other normal market-clearing processes.

Besides, falling prices are essential for the malinvestments that resulted during from the boom to become liquidated, thus creating the conditions necessary for a pattern of sustainable growth to commence. Intervening in this process may be good politics, but it (i) is never effective and (ii) always unnecessarily prolongs the market-correcting process. Indeed, it was a normal market correction beginning in the fourth quarter of 1929 that devolved into a full-blown depression because of the State's intervention in the labor and goods markets. Wages and prices were not allowed to fall as they had in the past, a situation that persisted until the brunt of the New Deal programs were dismantled following World War II. It was no mistake that the only decade to rival the 1930s in terms of prolonged market malaise was the 1970s, another era defined by interventionist wage and price policies.

And finally, so-called "free trade agreements" have particularly pernicious effects when they are struck with countries that offer tax and wage environments that are vastly superior than those in the United States. What good are such agreements if U.S. authorities do not accordingly reduce workplace interventions to levels that make capital at least equally at risk at home and abroad? Capital tends to flow where it is safer and more likely to maintain its long-term value.

Seen in this light, existence of NAFTA may go far to explain why this recovery seems so weak. Robert Reich may well be right that firms are now more likely to choose foreign over domestic expansion than during previous recoveries. He might also wonder whether policies he pursued as Clinton's labor secretary helped create incentives that encourage firms to do so.

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Christopher Westley, adjunct scholar of the Mises Institute, teaches economics at Jacksonville State University.  Visit his Webpage or send him mail.  See his Daily Article Archive. See also the Austrian Study Guide on Labor and Wages.