Paul Volcker, a top adviser to President Barack Obama
The global economy may be deteriorating even faster than it did during the Great Depression, Paul Volcker, a top adviser to President Barack Obama, said on Friday.
Volcker noted that industrial production around the world was declining even more rapidly than in the United States, which is itself under severe strain.
"I don't remember any time, maybe even in the Great Depression, when things went down quite so fast, quite so uniformly around the world,'' Volcker told a luncheon of economists and investors at Columbia University.
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Paul Volcker |
Given the extent of the damage, financial regulations must be improved and enhanced to prevent future debacles, although policy-makers must be cautious not disrupt things further while the turmoil is ongoing.
Volcker, a former chairman of the Federal Reserve famed for breaking the back of inflation in the early 1980s, mocked the argument that "financial innovation,'' a code word for risky securities, brought any great benefits to society. For most people, he said, the advent of the ATM machine was more crucial than any asset-backed bond.
"There is little correlation between sophistication of a banking system and productivity growth,'' he said.
He stressed the importance of preventing financial institutions large enough to pose a threat to the entire system from engaging in risky behavior such as running hedge funds or trading for its own accounts.
The current crisis had its beginning in global imbalances like a lack of savings in the United States, but policy-makers around the world were too reticent to take action until it was too late, Volcker said.
Now that the crisis had erupted, it was important to take decisive actions, including a more effective regulatory structure and some movement toward uniform accounting systems, Volcker said.
He said all financial institutions that are deemed too large to fail should be subject to increased scrutiny, echoing the findings of the Group of 30, a panel of policy-makers and influential economists, which he leads.
Depression
Before the Great Depression of the 1930s any downturn in economic activity was referred to as a depression. The term recession was developed in this period to differentiate periods like the 1930s from smaller economic declines that occurred in 1910 and 1913. This leads to the simple definition of a depression as a recession that lasts longer and has a larger decline in business activity.
The Difference
So how can we tell the difference between a recession and a depression? A good rule of thumb for determining the difference between a recession and a depression is to look at the changes in GNP. A depression is any economic downturn where real GDP declines by more than 10 percent. A recession is an economic downturn that is less severe.By this yardstick, the last depression in the United States was from May 1937 to June 1938, where real GDP declined by 18.2 percent. If we use this method then the Great Depression of the 1930s can be seen as two separate events: an incredibly severe depression lasting from August 1929 to March 1933 where real GDP declined by almost 33 percent, a period of recovery, then another less severe depression of 1937-38. The United States hasn’t had anything even close to a depression in the post-war period. The worst recession in the last 60 years was from November 1973 to March 1975, where real GDP fell by 4.9 percent. Countries such as Finland and Indonesia have suffered depressions in recent memory using this definition.
Economic Indicator: Gross Domestic Product (GDP)
Gross domestic product or GDP is the broadest measure of the health of the US economy. Real GDP is defined as the output of goods and services produced by labor and property located in the United States.' This series generally lags other indicators' release dates. As such, other indicators "build up" to the market's anticipation of how the GDP numbers describe the state of the economy.
Real GDP is an important indicator to track because it provides the greatest and broadest sectoral detail of any other series. Data reflect income as well as expenditure flows. Sectoral coverage includes durable and nondurable goods, structures, and services. Also, price data by sector are available for detailed subcomponents. Because of the detail available in the GDP reports, this series provides comprehensive information on supply and demand conditions, including information for various types of developing imbalances over the business cycle.
Real GDP is a quarterly figure, but is released on a monthly basis with an initial estimate-referred to as the "advance" estimate-and two subsequent revisions over the following two months. The Bureau of Economic Analysis (BEA) produces the GDP figures and releases the advance estimate generally during the fourth week of the first month following the reference quarter. That is, the first quarter advance estimate is published in late April, and subsequent first estimates are released in July, October, and January. The first revised estimate for a given quarter is known as the "preliminary" estimate, and the third estimate for a given quarter is called the "revised" or "final" estimate. Annual revisions are usually released in July with the first figures for the second quarter. They cover the three prior calendar years plus the quarter(s) already published in the current year. Benchmark revisions occur about every five years with the base year tied to a recent quinquennial economic census such as the Census Survey of Manufacturers.
Why Gross Domestic Product Instead of Gross National Product?
The switch in emphasis by the BEA in December 1991 to Gross Domestic Product from Gross National Product as the key measure of aggregate economic activity in the national income and product account(s) (NIPA) was made for several reasons. First, the move was part of a long-run objective of the BEA to make the US accounts more consistent with those of most other countries that use the United Nations System of National Accounts (UNSNA or SNA for short). The SNA emphasizes GDP instead of GNP. As a practical matter, when the BEA prepares initial estimates for GDP, there are little or no reliable data on net income from the rest of the world (factor income), which is used to derive GNP from GDP. With the switch in emphasis to GDP, the BEA no longer provides an initial estimate of GNP at the same time as the initial release of GDP. The first release of GNP is now with the first revision of GDP for a given quarter. Finally, GDP is more of a measure of domestic production than is GNP. Therefore, it more closely tracks other measures of domestic economic activity such as industrial production or employment. Gross national product is more of a measure of income since it reflects income from domestic production (GDP) plus net income from abroad.
Domestic measures relate to the physical location of the factors of production; they refer to production attributable to all labor and property located in a country. The national measures differ from the domestic measures by the net inflow -- that is, inflow less outflow -- of labor and property incomes from abroad.
Essentially, Gross Domestic Product includes production within national borders regardless of whether the labor and property inputs are domestically or foreign owned. In contrast, gross national product is the output of labor and property of US nationals regardless of the location of the labor and property. Gross National Product includes income earned by the factors of production (assets and labor) owned by a country's residents but excludes income produced within the country's borders by factors of production owned by nonresidents.
The estimates for GDP and GNP are derived from the same expenditure measures with the difference being income (net) from foreign sources. Gross National Product is equal to gross domestic product plus receipts of factor income from the rest of the world less payments of factor income to the rest of the world. As is the case for the United States, GNP exceeds GDP when a nation is earning more from its businesses, financial investments, and labor that are overseas than US nonresidents are earning on businesses in the United States that they own, plus returns on US financial investments, plus labor income for nonresidents in the United States. Receipts of this factor income consist largely of receipts by US residents of interest and dividends and reinvested earnings of foreign affiliates of US corporations. The payments are largely those to foreign residents of interest and dividends and reinvested earnings of US affiliates of foreign corporations.
For the United States, the dollar difference between GDP and GNP is very small-about one-half of 0.1 percent of real GDP in 1993. The difference between the nominal data was negligible. Hence, growth rates for these aggregates in the United States typically are very similar.
GDP By Product or Expenditure Categories
Gross domestic product is a measure of production within the national income and product accounts. There are three alternative ways of deriving GDP: sum of expenditures, sum of incomes, and sum of value added (either by industry, by firm or by establishment, depending on what data are available). In theory, GDP as measured by all three methods should be the same. This would be the case if perfect data were available. In actual practice, of the two methods primarily followed by the financial markets, it is easier to obtain reliable estimates for expenditures than for income components. Basically, expenditures are measured more directly than income. The expenditure components for GDP is also most closely followed by markets. This is partly due to most expenditure data being more readily available than some of the income data. While quarterly personal income data are released with the advance GDP release, corporate profits are not available until the following month. As stated previously, the expenditure approach to estimating GDP clearly is the method most closely followed by the financial markets. The major expenditure components are personal consumption (C), gross private domestic investment (I), government purchases (G), and net exports (X-M); they form the familiar identity of:
As already mentioned, the export and import components no longer include income from abroad (in the old identity for GNP, X and M included factor income from abroad).
Personal Consumption Expenditures
The monthly personal income data and personal consumption figures are part of the NIPA framework, and the quarterly personal consumption numbers in GDP are merely quarterly averages of the monthly data. Monthly personal consumption levels are already seasonally adjusted and are on an annualized basis. The sources for personal consumption estimates are also discussed in the chapter on personal income.
Durables are the most volatile and services are the most stable. Durables are dependent on interest rates, which are cyclical, while both nondurables and services are more dependent on population trends. Overall personal consumption expenditures (PCEs) make up about two-thirds of GDP. However, this is somewhat of an awkward comparison, since some GDP components such as net exports and inventory investment are negative on an occasional basis.
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