U-Shaped vs. V-Shaped Recoveries: Some Benchmarks

To establish some benchmarks, one needs to examine the ten prior post-World War II recessions. In those recessions, the mean rebound in real GDP 1 year after the bottom was reached was 4.9%. The median figure was 5.4%.

If one uses a growth rate of more than 1 standard deviation below the mean figure to identify U-shaped recoveries, one can categorize the ten previous recoveries as follows:

U-Shaped Recoveries:
1981-82
1990-91
2001

V-Shaped Recoveries:
1948-49
1953-54
1957-58
1960-61
1969-70
1973-75
1980

For U-shaped recoveries, the mean 1-year growth rate from the recession's bottom was 2.1%. The mean 2-year annualized growth rate was 3.5%. In U-shaped recoveries, the growth rate tended to accelerate after the initial year of growth.



For V-shaped recoveries, the mean 1-year growth rate from the recession's trough was 6.1%. The mean 2-year annualized growth rate, even taking into consideration the rapid onset of the 1981-82 recession, was 5.1%. Excluding that recession, which arguably distorted the 2-year annualized figure, the 1- and 2-year growth rates came to 6.3% and 5.8% respectively. In V-shaped recoveries, the initial year of growth was typically strongest, with the second year seeing robust but somewhat more restrained growth.



The overall growth trajectories for U-shaped recoveries and V-shaped recoveries (all V-shaped ones and those excluding 1980) follows:



In sum, one can reach several rough conclusions:

• During U-shaped recoveries, annualized 1-year and 2-year real GDP growth from the bottom of the preceding recession is less robust than comparable growth during V-shaped recoveries.

• During U-shaped recoveries, real growth tends to accelerate after the initial year of recovery.

• During V-shaped recoveries, real growth typically decelerates following the burst of growth in the initial year, but remains robust during the second year following the economic trough.

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Weekly Unemployment Claims Fall and a Brief Look Ahead

Initial weekly unemployment claims fell more than expected to 550,000 for the week ended August 1, 2009. That is well below the 674,000 figure incurred during the week ended March 28, 2009.

To date, the 2007-present recession has seen the following with respect to initial weekly jobless claims:

• Peak initial weekly unemployment claims: 674,000
• Consecutive weeks with initial unemployment claims of 500,000 or more: 30
• Weeks with initial unemployment claims of 500,000 or more: 38
• Consecutive weeks with initial unemployment claims of 600,000 or more: 17
• Weeks with initial unemployment claims of 600,000 or more: 22

Despite the unexpectedly large decline in weekly jobless claims, initial weekly unemployment claims will likely remain at or above 500,000 for most of the rest of this year. If the past three recessions (1981-82, 1990-91, and 2001) are representative, there remains a distinct possibility that weekly unemployment claims could again approach or reach 600,000 at some point before the year is finished. Each of the past three recessions featured a brief period during which weekly unemployment claims rose before renewing a decline from their peak.



All said, looking back at the past, through the rest of the year one could see:

• A period during which weekly unemployment claims rise anew, perhaps approaching or reaching 600,000 during one or two weeks.
• A persistence of initial weekly unemployment claims remaining at or above 500,000, for most of the rest of this year, though some fluctuations below 500,000 are possible.
• A low possibility that weekly unemployment claims could fall to 450,000 toward the end of the year.
• A continuing rise in the national unemployment rate from 9.4% through the rest of this year, though minor fluctuations with some small dips are also possible ahead of the peak unemployment rate.

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A Tale of Three Recessions

Last Friday, the Bureau of Economic Analysis released the 2009 Second Quarter GDP data. The latest information showed that the economy contracted by a 1.0% annualized rate and real personal consumption expenditures fell by an annualized 1.2%. To date, the current recession has seen peak-to-trough GDP decline by 3.9%. That is the largest decline of the post-World War II era.

The three biggest recessions during the post-World War II era are the 1973-75, 1981-82, and 2007-present recessions.



In the current recession, real personal consumption expenditures have fallen almost as much as they fell during the 1973-75 recession. With ongoing deleveraging and a rising unemployment rate, an additional decline is possible in the Third Quarter. In addition, real gross private domestic investment has plunged by 32.1% from its previous peak. That is the largest decline during the post-World War II period.



As noted earlier, household deleveraging is likely to place a lid on potential growth in personal consumption. The current recession differs markedly from the two earlier recessions cited above in that household and nonfinancial corporate leverage was substantially greater than it was during the 1973-75 and 1981-82 recessions.



The notably greater nonfinancial corporate debt could dampen a recovery in gross private domestic investment at a time when personal consumption is likely to play a smaller role in the upcoming recovery than in the recent past. In the 1973-75 and 1981-82 recessions, real personal consumption expenditures returned to their pre-recession peak two quarters after bottoming out.



This time around, a less robust recovery in real personal consumption expenditures is likely, even as real personal consumption expenditures accounted for a much larger share of real GDP than during the 1973-75 and 1981-82 recessions. It is plausible that it could take 3 or even 4 quarters from the bottom for real personal consumption expenditures to return to their earlier peak.

That means that gross private domestic investment, a reduction in the nation’s trade deficit, and increased government spending will need to lead the way to a sustainable economic recovery. However, the higher level of corporate indebtedness suggests that the recovery in gross private domestic investment will likely be a gradual one. Furthermore, given the high level of mortgage debt, the residential construction component of real gross private domestic investment, which has fallen 56.9% from its peak, is also likely to be slow. As a result of those two factors, the 1973-75 experience in which it took 8 quarters from its trough for real gross private domestic investment to return to its earlier peak is probably more likely than the 1981-82 experience in which it took just 4 quarters. An even lengthier recovery period is plausible.

A continued unwinding of the U.S. trade deficit should help strengthen the recovery, once it gets underway. However, the overall impact of this unwinding will likely be modest, if a global recovery pushes up the price of crude oil over the next 12-24 months.

Given the federal government’s unprecedented budget deficits, the recent massive expansion in federal spending is not likely to be sustained. Maintaining the aggressive fiscal posture could undermine investor confidence in the U.S. government, driving down the foreign exchange rate of the U.S. dollar, and generating a rise in long-term interest rates that could impede economic activity. In addition, with the IMF recently highlighting the medium-term fiscal challenges facing the U.S., namely the need to establish a credible fiscal consolidation strategy, efforts to curb the growth of federal expenditures could get underway in a year or two.

In sum, restrained growth in personal consumption, a slow recovery in gross private domestic investment, and limits to an expansionary fiscal posture will likely cap the rate at which the economy can grow. In turn, a slower growth trajectory could weaken revenue growth for the federal government, making it even more necessary for its developing and implementing a credible fiscal consolidation strategy. Given that challenge, it is quite likely that a combination of discretionary spending reductions and revenue increases will be deployed in any effort to cut the nation’s budget deficit. The extent of the tax hikes could have a material impact on economic growth.

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