Shiller's Double Dip

http://www.nytimes.com/2010/05/16/business/16view.html?emc=eta1

Nouriel Roubini mentioned recently that, as he sees things (thru his own personal dark cloud), there's still a 20% chance of a double dip recession. Of course, this was just an aside to a Financial Times editor when he was on his way to "Cannes" to see "himself" in two movies.

Now comes Robert Shiller - he of the Case-Shiller Home Price Index he co-created - to say that, just because Europe has done a trillion dollar bailout in response to the Greek (and other weak countries) debt crisis, isn't to say that there won't be a double dip recession worldwide: "World markets soared initially on the announcement of the rescue plan, and then declined. But, as the economist John Maynard Keynes cautioned long ago, such market reactions are basically a "beauty contest" - with the investors trying to predict the short-term reaction that other investors think still other investors will have."

"In other words, don't view these beauty contests as a heartfelt response to a fundamental change in the economy."

Shiller has in the back of his mind the large housing overhang here in the U.S. that we've seen no major improvement in thus far. To quote the Texas A&M Real Estate Center, "Everyone should be cautious in declaring the housing market to have bottomed. So much of the data just don't support it - foreclosures, the shadow inventory, new home sales running at half the long-term norm, expected sales declines after the tax credit expires."

Shiller's "real risk" (of a double dip recession) perspective comes from something that he feels cannot be quantified by statistical models. His perspective leans toward a "vulnerability of confidence" where a decline could bring markets down, cause cuts in consumption, investment, and local government expenditures. Ultimately, the risk resides largely in "Social Psychology", the old Roosevelt "fear of fear itself."

Our first thought here is that 3 consecutive quarters of real GDP growth argues pretty strongly against a fall back into recession. Shiller addresses that: his definition of a double-dip recession doesn't emphasize the short term. His "recession" begins with unemployment rising to a high level and then falling at a disappointingly slow rate. Before employment returns to normal, there is a second recession. Shiller again: "As long as economic recovery isn't complete, that's a double-dip recession, even if there are years between the declines." By that definition, there was a recession between 1929 and 1933 which was followed by a recession in 1937-38. Between those two declines, the unemployment rate never moved below 12.2%. Those two recessions, four years apart, are now typically lumped together as one event: The Great Depression.

Shiller's whole point is that the May 6 drop of 1,000 points in the Dow could be the first of many "aftershocks" similar to the 20.5% drop in the S&P 500 on 10/19/87. While we may think Shiller is "reaching," he's right about the unemployment rate - always a lagging indicator, it's not coming down at a very rapid rate (give it time? OK, how much?).

We should all be heartened that the great U.S. job creation machine gave us 290,000 jobs in the most recent data. But, we should also be asking ourselves whether the economy looks like it can produce 300,000 jobs per month for the next 5 years, which is about where, as we've said before, Krugman says we need to be to get back to where we were. We should also be asking where small businesses are with short term borrowing and their banks. Why, because most of the jobs in this economy come from small businesses.

Shiller and Roubini: we probably didn't have them together on our dance card, but they appear to have similar concerns.