Most Popular ArticlesNovember 24, 2009
A million additional housing units – over and above typical inventory levels – will prevent a rapid housing market recovery, he said. Housing normally recovers before a recession ends, but Shilling said that will not be the case in the current cycle.
Shilling projected growth in consumer spending of 1.4% annually over the next decade, much slower than the 3.8% average rate that prevailed from the early 1980s until the onset of the financial crisis. “That’s what it will take to bring consumer spending back to 62% of GDP,” he said.
Reducing consumer spending from a half-percent above income to one percent below income will reduce GDP growth by the difference – 1.5%. That translates to projected GDP growth just above 2%, he said.
Historically, 3.3% GDP growth has been necessary to maintain full employment, and Shilling’s 2% forecast implies unemployment could rise to 23% over the next decade in the absence of any countervailing policies. But “no administration would allow that to happen,” he said, and the new stimulus package he forecasts is one such step he expects the government will take.
I asked Shilling at what point he expects unemployment to peak. He said 11%, but did not offer any timetable.
Shilling listed a number of other factors that will contribute to a slow recovery and depressed GDP growth over the next decade: continued deleveraging in the financial sector, depressed commodity prices, increased government regulation, rising protectionism, and deflation.
Deflation has been a consistent theme in Shilling’s forecasts for the many years, and he said it will cause consumers to delay discretionary purchases. Increased labor supply, excess industrial capacity, and reduced consumer demand have combined to produce deflation, which Shilling said still prevails in the US economy.
Shilling forecast 2% to 3% deflation in the major CPI indices, although he did not say how long it would persist.
Monetary policy has been ineffective in combating deflation, he said, because “credit-worthy companies do not need to borrow and, for others, the banks are not willing to lend.”
Quantitative easing and huge deficits will not be inflationary, according to Shilling. He does not expect the administration to implement any policies intended to stimulate bank lending. Even if inflationary signs arise, Shilling believes the Fed will quickly react by tightening monetary policy to arrest inflation.
I believe the most vulnerable aspect of Shilling’s thesis is his forecast of long-tem deflation. Historically, as Bruce Greenwald noted in his recent interview, inflation requires inflationary expectations and wage pressures. It also requires higher industrial capacity utilization. But there is no guarantee that those historical precedents will govern in the current environment, because that history does not include periods of extreme federal budget deficits that many forecast. Shilling minimizes the possibility that budget deficits will push interest rates unexpectedly and abruptly higher and, with that, inflation will be more of a threat than it is currently.
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