Nicholas Scollard, Jake Schnall
Analysis of US economy from 2005-2010
The period from 2005-2010 saw a major recession for the US economy following
one of the worst market crashes in recorded history. We see that the Fed and the
Government employed expansionary fiscal policies in order to get themselves out of the
hole that was caused by the recession.
The economy is in a recession:
The economy is in a recession. For 2005-2007 the annual growth rate stays
above the 1.6 benchmark, takes a dip below in 2008 and ‘09, but then rebounds and
ends above the 2.0 benchmark estimated by the CBO. This is also reflected in the
output gap which indicates that the economy operated below its potential throughout the
5 year stretch.
The capacity utilization has dropped from about 80% to around 71%, meaning
that there is a loosening capacity across industries. The unemployment rate
skyrocketed from 5.1% in 2005 to 9.6% in 2010. Every year we can see that the
unemployment rate is higher than the expected rate of 5%. This coincides with a steady
negative trend of labor force participation, which indicates that this rise in
unemployment is due to people looking for jobs but not being able to find them for
various reasons whether it be people being unfit for the jobs or unwilling to work for a
given wage, which would explain a spike in unemployment rates.
Demand-pull inflation is sometimes a reaction of a booming economy. It can be a
cause for concern. Inflation, which is measured by the GDP deflator and CPI has risen
above the 2% target level informally established by the Fed. However, in the last couple
years of this period it has fallen below the 2% mark. This increase in inflation could be
due because of many different reasons, some possibly being the housing bubble.
Though there is a bit of evidence suggesting demand-pull inflation, it is believed to be a
moderate issue and not a big problem.
The recession is also made very evident due to the housing bubble of 2008.
When all the subprime loans fell under because they were filled with unstable CDOs,
ths caused the whole housing market to collapse on itself which in turn caused the
whole US economy to collapse on itself. This event is known as the great recession,
and marks a recession in the economy which took 10 years to fully recover. Even before
2008 although it looked like the economy was doing well, under the surface this housing
crisis was taking its toll on the market.
Monetary Policy
Over the time period from 2005-2010 the US has employed expansionary
monetary policies. Money growth is dependent on banks’ lending activity. One way to
measure monetary policy is to look at the trend of the monetary base. We can see that
from 2005 to about 2009 the growth has been very stagnant, but from the beginning of
2009 to 2010, we see a huge positive increase in the base, this coincides with a mainly
stagnant money multiplier, except for the period which the base increases, the multiplier
decreases by a lot.
Another way to analyze monetary policy is to look at the Federal Reserve's target interest
Rate, a.k.a the federal funds rate. Another name for the fed funds equation is the Taylor Rule,
which can be summed up as:
ffr= π+r*+.5(π-π*)+.5(output gap)
Where π*= the target inflation rate of 2% and r* = the assumed real rate of 2%. However,
some economists dispute whether r* = 2% anymore. Current estimates from the Federal
Reserve are that r* = .75%.
Using this equation with the data that we have in the table we get a Taylor target which is
Years 2005 2006 2007 2008 2009 2010
Actual Fed.
funds rate 3.21 4.96 5.02 1.93 0.16 0.18
Taylor rule 6.98 6.94 6.31 6.49 -2 1.645
(assumes
r*=.75%)
Years 2005 2006 2007 2008 2009 2010
Real Prime Interest 6.19% 7.96% 8.05% 5.09% 3.25% 3.25%
Rate
Real 3 Month Deposit 5.3% 5.2% 5.3% 3.0% .6% .3%
Rate
Fiscal policy
Fiscal policy in 2005 to 2007 was somewhat neutral, but turned expansionary
from 2008 to 2010 to revive the country from a major collapse in 2008. Government
purchases as a share of GDP had a slight increase from 16.5% to 17.8% in 2005-2007
and then dropped to around 14.4% by 2010 which is extremely low. Throughout this
period government expenditures have increased steadily from 25.4% to 28.6%. I
wouldn’t say that this is a drastic increase, and that expenditures have stayed pretty
constant over this 5 year period.
Revenues in 2005-2010 stayed virtually the same, starting at 22.5% and ending
at 22.3%, with a slight increase from 2006-2007 and a slight decrease in 2008-2009.
This is representative of stagnation.
Since the federal government doesn’t have to balance its budgets every couple
of years like most states, it is the only form of government which is allowed to run a
deficit. During the period from 2005 to 2010 the budget deficit decreased from -2.4%
and went into the positives all the way up to 8.6% in 2010. The cyclically-adjusted deficit
should align itself with the growth rate for GDP(). In 2005 this target was passed as it
reached 2.9%. Since the cyclically-adjusted federal budget deficits have increased to
-8.1% in 2019, and the output gap has become negative from 2008-2010, which means
the economy isn't producing at full capacity due to lack of demand.
S Sprivate Sgovt I CA
2005 0.15 0.16 -0.004 0.17 -0.02
2006 0.17 0.17 0.003 0.18 -0.01
2007 0.16 0.16 0.0003 0.17 -0.01
2008 0.14 0.17 -0.03 0.16 -0.02
2009 0.13 0.21 -0.08 0.13 0
2010 0.14 0.22 -0.08 0.14 0
In this table, it shows the domestic savings ratio (S/Y) had increased along with government
saving initially increasing before decreasing greatly. The increased borrowing of
the government indicates expansionary fiscal policies being put in place. Decreasing domestic
investment shows that people are not willing to put their money in a market that was in a
recession. In 2010, there was some improvement regarding investing but not to the point it
was prior to the recession because a lot of people already lost money. The lower investment
numbers created a view of uncertainty faced by the market following the recession and that
the country's GDP wouldn’t be great until enough time has passed . Savings and investment
were positively correlated during these times which meant little change in the current
account.
Summary and recommendation
Currently the US economy is in a recession. This is made abundantly clear by
the rise in unemployment coinciding with a negative trend in labor force participation.
We do see that there is evidence of a possible rebound from the recession, because of
the expansionary fiscal policies that are being put in place to promote spending and
investment in the US. The biggest risk that is being posed to the economy right now,
barring an external shock that can’t be accounted for is the fact that the government
isn’t operating at full capacity, which means that the economy needs to expand. There
is a terrible investment climate, which is evident in the types of policies the Fed enacts.
They lean towards expansionary policies to stimulate the economy hinting at a bad
investment climate. To summarize, the US economy represents a bad opportunity for
investment at this time period.
YEARS 2005 2006 2007 2008 2009 2010
Real GDP Annual Growth
(%) 3.5 2.9 1.9 -0.1 -2.5 2.6
Output Gap (% of GDP)* 1.75 2.28 1.92 -0.42 -4.8 -3.51
Capacity Utilization (% of
100) 80.14 80.56 80.75 77.78 68.5 73.53
Unemployment rate 4.9 4.4 5 7.3 9.9 9.3
Labor force participation 66 66.2 66 66 65.4 64.7
Real Wage Index** 48.3 48.5 48.2 49.1 47.3 46.8
Inflation (% Change in GDP
Defl.) 2.6 2.5 2.4 2.5 0.7 1.1
Inflation (% Change in CPI) 3.4 3.2 2.9 3.8 -0.4 1.6
Oil Price ($/barrel) 54.57 66.05 72.34 99.67 61.95 79.61
M2 Growth (%) year ago 4.2 5.2 6.2 6.8 8.1 2.5
Monetary Base (%) year
ago 4 3.7 1.9 19.4 79.8 13.2
Overnight Excess (Bank)
Reserves Rate %ann N/A N/A N/A N/A 0.25 0.25
Federal Funds Rate (%
annual) 3.21 4.96 5.02 1.93 0.16 0.18
US Prime Lending Rate (%
annual) 6.19 7.96 8.05 5.09 3.25 3.25
US 3 Month Deposit Rate
(% annual) 3.5 5.2 5.3 3 0.6 0.3
US$/Euro exchange rate 1.24 1.26 1.37 1.47 1.39 1.33
US$/ Can$ 0.83 0.88 0.94 0.94 0.88 0.97
Chinese Yuan/US$ 8.19 7.97 7.61 6.95 6.83 6.77
Figures as a Ratio of GDP
(x100)
Consumption 67.1 67 67.2 67.8 68.1 68
Private Domestic
Investment 19.4 19.6 18.5 16.8 13.4 15
Government Purchases 16.5 17.4 17.8 17.2 14.6 14.4
Net Exports -5.5 -5.6 -5 -4.9 -2.7 -3.4
The breakdown for Net
Exports is
Exports 10 10.7 11.5 12.5 11 12.3
Imports 15.5 16.2 16.5 17.4 13.8 15.7
Private Savings 18.2 18.4 18.9 17.9 16.4 16.1
Public (Government)
Savings -1.0 -1.0 -2.5 -2.7 -4.0 -4.2
Total Domestic Investment 23.4 23.5 22.6 21.1 17.8 18.7
All Governments’ Revenue 22.5 23.1 23.9 23 21.7 22.3
All Governments’
Expenditures 25.4 25.3 25.1 26.2 28.7 28.6
All Governments’
Surplus/Deficit -2.1 -2.3 -2.4 -3.1 -5.7 -7.3
Federal Government
Revenue 16.5 17.4 17.8 17.2 14.6 14.2
Federal Government
Expenditures 19 19.2 18.9 20.3 24.3 23.1
Federal Government Deficit -2.4 -1.8 -1.1 -3.1 9.8 8.6
Cyclically-Adjusted Federal
Budget Deficit -2.4 -2.0 -2.9 -4.7 -6.5 -8.1
