Early 1980s revisited

I guess this WSJ “Outlook” column is available only to subscribers, but it’s pretty interesting. Writer Justin Lahart compares the current economic moment to 1980. Back then, Fed actions radically tightened credit in attempt to snap brutal inflation, and that medicine entailed a huge blow to consumer spending:

The credit controls had an immediate effect on behavior. Sales fell sharply and companies shed workers at an alarming rate, with the economy losing a million jobs between April and June. Final sales, a measure of overall economic demand, fell by an inflation-adjusted 7.5% in the second quarter — a drop even steeper than the 5.2% decline final sales registered in the fourth quarter last year.

The interesting part is that that when the Fed ligthened up a few months later, “economists had little hope that a recovery would happen anytime soon. The Fed agreed, forecasting that the economy would contract for the rest of the year.” But they were wrong. Almost immediately, pent-up demand spilled into spending: “With the credit crunch over, consumers and companies raced to buy what they had held off on. Final sales rose 5.4% in the third quarter, and a further 3.6% in the fourth.”

Such rebounds are actually the norm. Of the 10 largest quarterly drops in final sales over the past 50 years, nine were followed by rebounds the following quarter, with an average gain of 5.4%. The chance of any rebound in the current quarter seems far-fetched after last week’s dismal reports on January manufacturing activity, chain-store sales and jobs. Still, if the government’s coming stimulus package and bank plan are able to restore a modicum of confidence in the economy, recovery could come surprisingly quickly.

Is that an overly optimistic scenario? Perhaps. Savings rates were a lot higher going into that 1980 period than they were going into the fourth quarter of 2008. And there seem to be so many interwoven factors now, it’s just hard to believe in a quick rebound of any kind. Then again, people were pretty pessimistic back in 1980s, too.

Anyway, the truth is that Lahart’s comparison to the early 1980s isn’t really that optimistic.

The economic expansion that followed the 1980 recession was one of the briefest on record. Rampant inflation and overdependence on a manufacturing sector facing stiff foreign competition were still problems, and by mid-1981 the economy was careening into the longest downturn since the Great Depression. After years of heavy dependence on credit-fueled spending, a quick recovery for today’s economy could also prove fleeting.

Okay, so that’s not very cheery. But it’s nice to have some historical perspective just the same.