March 10, 2008


US can fast exit from bad times (Edward J Lincoln , 3/11/08, Asia Times)

The recent US experience of mounting bad loans, unemployment, a housing bubble that has burst, and a financial bubble, is reminiscent of Japan in the 1990s. Is the US repeating Japan's mistakes as it tries to extricate itself from the mess? Not so, according to Edward J Lincoln, of New York University Stern School of Business. The following is an edited transcript of his address on the issue to the Carnegie Council's New Leaders Program. [...]

Now, for those of you who are not economists, the normal presumption in economics is that there is an inverse relationship between financial return and risk. You can have low return/low risk - that's your savings account in the bank; it's guaranteed by the government up to a certain amount of savings deposit. Or you can have high return and high risk - that means that over a long period of time, say 20 years, you ought to anticipate that in fact you'll get a pretty high return, but along the way you are going to have years in which you are going to get hit with big losses.

Well, what seems to happen in these kinds of financial bubbles is that people who probably learned this stuff when they were going through business school or PhD programs in economics, seemed to think: "I've invented something new. I can get 20% returns and there is no risk." That is always a mistake. [...]

At the present time, again, we have cut interest rates very quickly. It should bolster the economy. And frankly, this time around we've got enough upward price pressure that I don't think deflation is really an issue for this economy. In fact, if anything, there is a potential issue of stagflation, which we had back in the 1970s, where you've got the economy slowing down but you've still got inflation higher than you want, in both cases driven by commodity prices, the price of oil going up.

The next difference is the scale of the problem. In Japan, I told you the stock market had tripled in value in five years and then lost all of those gains so it went back down again. We're talking about a drop in the stock market of 70% from its peak at the end of 1989.

In the United States, we've had the Dow Jones Industrial Average double in 10 years. Substantial, but it's not like tripling in five years. And on the down-side - of course, none of us know exactly what the future brings, but my guess is we're talking about maybe a correction of 20%, not 70%.

In the real estate market in Japan, we also had a tripling of urban real estate prices in the space of six years and a drop of 70% over the next decade. In the United States, in contrast, according to one price index for urban real estate, we've had a price increase of 80% in five years. That's less than a doubling. And on the down-side, I'd be surprised if we've had an overall correction of more than 20-25%.

And I don't think it is going to last very long. We've had occasional downturns - maybe not nationwide, but certainly in particular markets like New York. It tends to shake out in a couple of years and then turns back up.

On the real estate side, part of the difference may be simply in both economic growth and in population growth. In terms of economic growth, we're growing at 3.0-3.5% a year, on average, over long periods of time. Japan is now down to probably 1.0-2.0% a year. As you grow, you have more demand for office buildings and things like that. That demand growth is stronger in the United States, and should be stronger over the next decade in the United States, than in Japan.

And similarly with population. We still have a growing population. Japan does not. Japan now has a shrinking population. It is shrinking particularly rapidly at the younger end of the demographic chain, and that means that we are going to see fewer and fewer and fewer new households looking for a place to live. So the longer-term prospects are, I think, for a fairly quick recovery in real estate prices - or at least a turn back up, if not a total recovery - in the United States.

What meaningful comparison can you make between a secular society with a declining population and a religious one that is set to grow its population by 66% over the next half century?

Posted by Orrin Judd at March 10, 2008 7:41 AM
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