Carlo's Think Pieces

Reflections of a Filipino in the Netherlands

US crisis will last longer than expected

Posted by butalidnl on 5 March 2009

The economic crisis in the US will last longer than the authorities there expect. I think that the crisis will last well into 2011.  I came up with this conclusion based on certain features of the US crisis that will tend to let it last longer than expected.

Artificially high demand for houses and cars before US crisis
The crisis was caused by the bursting of “bubbles” – a housing bubble, a credit bubble. The long period of low interest rates and large cash flows from foreign banks propped up the housing boom which caused both the demand for houses, as well as housing prices, to rise sky high. The boom fed on itself, with people buying houses on the expectation of rising prices. At the same time, automobiles sales were kept artificially high by the provision of cheap financing by the big three automakers. The actual demand for cars was already low for a number of years before they finally fell as a result of the credit crisis.

Both the housing and the auto market were at an artificially high level at the start of the crisis.  But economic data always compares the previous demand level with the present; so, since the previous levels were artificially high, a more “normal” level of demand for houses and autos would register as decreases in demand.

Oil Prices will rise again
Oil prices are now at a low point, especially if you compare them with their recent highs of almost $150/barrel. And this is due to the lessened demand caused by the economic crisis. In response, OPEC has reduced its output, and it is poised to further reduce output if prices don’t rise soon. At the same time, the oil consumption of the countries that are still growing e.g. China and India is still increasing.

It is but realistic to expect oil prices to rise in a year or so, just when the initial effect of the US stimulus spending is expected to take effect. Thus, as the US economy tries to make a sputtering start, it will be hit by the high price of oil and other commodities. This will dampen the effect of the stimulus.

Inertia
The economic crisis has a certain inertia – a drop in demand causes companies to cut down on orders and to lay off workers; this in turn causes other companies’ sales and income to decrease as well decrease the buying power of the general population. With the decreased buying power comes less demand for products. This goes on until at some point demand stops to decrease, and even increase.

The present economic crisis affects the whole world; but the effect has only really kicked in during the last months of 2008, with the sudden drop of US imports. It will take time for the crisis in these other countries to go through their cycle. All this feeds back into the US, with lesser imports of US’ products.

This all means that 2010 will be too early for the crisis to end in the US. More likely, it will be sometime in 2011 or 2012 when this will happen.

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