Edward Lotterman
The American economy is in a “very dynamic state right now” — a phrase we used in Vietnam for situations where no one knew what the hell was going on — and many people are rightfully uneasy.
Interlocking issues engender many questions. Most are about how one might see sundry crises developing and how the government might respond, if at all, to such challenges.
Some concern the general economy.
Will stock, cryptocurrency or house prices fall? How much? How precipitously? Can the government — Trump administration or Federal Reserve — respond? Should they?
With high mortgage servicing costs on farmland after a historic land price boom, together with high input costs, sick exports, falling crop prices, does the farm sector face another wave of bankruptcies and foreclosures akin to the farm crisis of the 1980s?
More seriously, are we headed toward an economy-wide recession? Inflation? Both? How serious might these be? What can the Fed or the Treasury or other executive branch agencies do? How will markets respond?
Ratcheting up from all that, what is the likelihood that asset market declines in an uncertainty-plagued economy, with new institutions like crypto, might prompt established financial institution failures — as Bear Stearns and Lehman Brothers did in 2008 — that then lead to a 1929-level financial collapse?
Unfortunately, none of these concerns are baseless. In fact, odds that some of these crises will occur are frighteningly high. Moreover, the track record of predicting market downturns or financial collapses is pretty dismal. There are myriad cases of respected pundits lauding high stock prices just before the bottom drops out, or of respected economists continuing to deny the signs of a recession months after the point-of-no-return has passed, identified by rearview-mirror research as the starting point of a downturn, or Fed officials miscalculating long-term inflation as “transitory.”
That said, let’s look at some of the warning signs.
Stock market indexes are at historic highs after a long run. History and common sense tells us that they are likely to decline. The Fed just cut short-term interest rates — a move Wall Street had already priced in — but mortgage, business and farm loans are coming off years of being below long-term averages. These low rates were supported by large expansion of the money supply that, so far, has not caused accelerating inflation for consumers or producers.
But inflation-adjusted interest rates will return to the mean. The money supply probably will have to return to its historic balance with the value of output. I think odds are that the prices of corporate stocks, crypto, houses and farmland all will decline to some degree. Don’t ask how much.
What can government do about this? What should it? Realistically, not much. Reducing the enormous level of uncertainty that President Donald Trump continues to generate daily would be good for the economy as a whole and for those, like farmers and businesses, first-time home buyers and those nearing retirement, who need some trusted foundation on which to make long-term decisions. But can the leopard change his spots or even want to? I doubt it.
Yes, the Fed might be able to step in judiciously to prevent retreats from turning into routs. But the Fed has intervened so often in recent decades, after 9/11, during the 2007-09 mortgage crisis and during COVID, that its credibility and capabilities may be worn down. All a central bank can do is vary the money supply and during the last 20 years the Fed has fired most of its ammunition. The wolf is finally coming on federal budget deficits, China may be facing adjustments similar to Japan 40 years ago and Europe is mired in slow growth.
Unfortunately, an un-random sampling of financial pundits in print or online shows remarkable numbers who expect the Fed to step in to prevent asset prices falling, even if there is no systemic risk.
The same is true for farmers. Commodity traders and producer associations, input suppliers and grain traders all talk of another bailout as a done deal, to offset the impact of Trump’s tariffs on a bumper crop of supply. Assumptions are that it will happen soon along the lines of Trump’s in 2018-20, done at the decree of the president and without any congressional action drawing on an anachronistic replenishable agricultural slush fund dating to the 1930s.
The problem is that this will be a bandage on a suppurating wound. Farmers shot themselves with a hollow-pointed bullet by bidding up land prices beyond sustainable levels in response to two successive commodity price booms, the most recent one prompted by the war in Ukraine. That boom is ebbing just as the administration’s spastic trade offensives are hammering U.S. ag export prospects over the foreseeable future.
Economy-wide recession? There are “leading indicators” of recessions like an inverted “yield curve” that shows interest rates relative to loan durations. When interest rates on short-term loans “invert,” or rise above the traditionally higher longer-term ones, it means markets expect rates will fall, making short-term gains more profitable than long-term risk. This shows expectations of a downturn. But that is only one indicator and not a flawless one. Sophisticated econometric forecasting models are bad at calling inflection points, when a lasting upward trend bends into a lasting downward one or vice versa.
Gut instincts and history might tell us that stock, crypto and housing prices cannot retreat without collateral damage to the economy. Ditto for the deepest and widest trade war in 90 years. But when a recession might start, how deep or long it might be, and who it will most affect are unknown.
What about a financial sector crisis like the one that slowly unfolded over 2008 with aftershocks that went on for years? These are harder to predict than simple recessions. Both 1929 and 2008 involved financial innovations outrunning inadequate regulation. Are we seeing that now with crypto? In 1893, 1907, 1929 and now, there is an extreme concentration of wealth with few limits to the influence of that wealth on government.
Even Trump has lauded that we are entering a new Gilded Age (justifying his tariffs), but glancing over the fact that the previous Gilded Age was one of stagnant incomes and prospects for a great many while a relatively few basked in opulence. Yes, the comparisons abound, but maybe not to many working-class Trump voters’ likings. It is telling that a key economic indicator, “Personal Consumption Expenditures,” is now skewed by the fact that the richest 10% of all households account for 50% of all such personal consumption spending. Economists no longer can look at changes in this metric for clues on the overall economy because variations might be driven by the spending of a few hundred AI or hedge fund moguls.
So can the Fed save us from systemic collapse even if it cannot ward off garden variety drops in output, employment and incomes? One can only hope so.
If uneasy, history may provide equal insights with economics. Sample the following:
• Anyone concerned about the economy can benefit by reading John Kenneth Galbraith’s slim volume, “The Great Crash, 1929”. Galbraith is both insightful and droll.
• From there go to Charles Kindelberger’s classic “Manias, Panics, and Crashes.” The author is an expert on trade issues and on the Great Depression and is almost as good a writer as Galbraith.
• If you do want to dip into economics as well as history, sample Hyman Minsky’s “Stabilizing an Unstable Economy.” Minsky is insightful but not droll. But if you have a lot of money in cryptocurrencies, learning about the “Minsky moment” — bubbles suddenly implode — may be useful, or frightful.
• Finally, to understand the Trump administration, look for old Superman comics written by Otto Binder. Here, he introduces the evil doppelganger Bizarro and Bizarro World, in which everything is askew from where it should be. That is about as good a description of official Washington now as one can find.
Real World Economics: When Fed’s mandates are in conflict
Real World Economics: Farmers always on the cutting edge
Real World Economics: Federal Reserve follies continue
Real World Economics: A primer on money, banking and the Fed
Real World Economics: For farmers, good-news, bad-news is topsy turvy
St. Paul economist and writer Edward Lotterman can be reached at stpaul@edlotterman.com.
