Feb. 26, 2009 11:25 p.m.
The Obama administration has released a preliminary summary of their proposed budget in which they judge the deficit for the fiscal year to come in at 1.7 trillion dollars or about 12.3 % of the US GDP which in current dollars is $ 14.26 trillion. This is a substantial number the largest deficit since the Second world war.
During the war years the deficit was 14.2 % of the GDP in 1942, 30.3 % in 1943, 22.7 % in 1944 and 21.5 % in 1945 including both on and off budget items. (source Table 1.2 p.23, Budget of the U.S. Government Historical Tables , 2008, Office of management of the budget).During the 1930s the deficits as a percentage of the GDP were much smaller peaking at 5.9 % in 1934.
The critical question is will this deficit be large enough to do the job that is required. Here we have to recall Robert Eisner's discussion of the high employment deficit where he explains that we should adjust the calculation of revenues and expenditures to the low unemployment level but keeping the same tax and spending regime in place as now prevails in order to see whether the deficit is stimulative or simply reflects the dire current circumstances and elevated unemployment and therefore is in effect a passive deficit.
My own preliminary guestimate is that we actually needed a somewhat larger package to do the job since a substantial chunk of the current deficit is of the passive variety. Nevertheless, as I have argued before, this is an excellent first step in the right direction and will definitely have positive impact. Recall that in 1940 in the US unemployment was still 15.03 % in January of that year. It fell to 11.7 % by the end of that year. It continued to drop through out 1941. By January 1942 it was 6.3 %. after the large deficit of 1942 it fell to 2.0 % by the beginning of 1943 and bottomed out at 1.05 % in May of 1945.(Source; NBER series 08292 unemployment rate seasonally adjusted monthly data)
There will be an important release of data tomorrow from the Bureau of economic analysis of the Department of Commerce give the preliminary revision of fourth quarter GDP.
Many economists expect the advance figure released Jan. 30th will be revised downward from a drop of 3.8 % to a drop of over 5 % It will be interesting to see if they are correct. In the morning the news will drive the stock market one way or the other.
11:30 a.m. Feb.27 2009
the news is in and its not good. The newly revised preliminary estimate of the decline in the fourth quarter of the GDP shows that it fell 6.2 % much larger than what was feared by most economists who thought the revision downward might be 5.5% from 3.8 %. The stock markets reacted as expected on the news with both the Dow Jones and the Sand P down by over 1 % on the news. This is now clearly headed toward the worst recession of the post war era both in terms of duration and depth.
On the other hand we now have in place in the US an excellent stimulus which is large and well designed to help slow, then halt and reverse the slide. It may well need a major top up in late summer but for now it is critical to get the money out and moving and to unlock the banking system. In that respect an American version of the old British Gyro post office bank that focuses on solid credit expansion and prudent as opposed to reckless investment of deposits might be a good idea. It could be set up as a national institution with branches in every city and town of significance in the country. It would provide a healthy incentive for the private banks to get on with the job of restoring the credit markets.
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