Recovery won’t be rapid

Having served as an economist for Presidents George H.W. Bush and Bill Clinton, Michael Knetter knows a thing or two about economic cycles and the political ramifications thereof.
However, not even Knetter had lived through anything as economically traumatic as the Great Recession.
Knetter, who is the Albert O. Nicholas Dean at the University of Wisconsin School of Business in Madison, has become a fixture at the annual Northern Trust Economic Trends Breakfast in Milwaukee.
BizTimes Milwaukee executive editor Steve Jagler recently conducted his annual interview with Knetter to assess the macroeconomic trends of the year ahead. The following are excerpts from that interview.

BizTimes: Let’s get right at it. Is the recession over?
Knetter: “In a technical sense, the recession is over because output is again expanding. But the economy is farther below its potential than at any time in the last 25 years. So while the ‘recession’ i.e., the contraction in output, is over, things do not feel very good, and they won’t for quite some time.”

BizTimes: Some say the recovery will be “L-shaped.” Others say it will be a “U.” Some fear it will be a “W.” What say you?
Knetter: These letters actually describe both the contraction and the recovery. The contraction was a ‘V,’ and the recovery will be more like a gentle ‘U.’ The fall was precipitous, and the recovery will be slow, due to the need to reduce the unprecedented fiscal and monetary stimulus.”

BizTimes: How bad will the unemployment rate get?
Knetter: “I think mid-10’s will be the peak.”

BizTimes: When do you expect the job market to finally stop bleeding and for the unemployment rate to start to go down?
Knetter: “I expect positive payroll employment growth within the next couple of months. But payroll employment growth is likely to be accompanied by above average growth to the labor force as discouraged workers resume job searches. If that plays out, the unemployment rate won’t start to decline until a few months after payrolls begin to grow. My guess would be payrolls grow by January and unemployment starts to fall by May.”

BizTimes: What can and should the Obama administration do to help stimulate job creation and growth in this country?
Knetter: “Provide stronger incentives for private sector innovation and growth and begin to remove government stimulus from the economy in as orderly and predictable manner as possible. Uncertainty in policy causes paralysis in decision making, and the magnitude of government intervention will crowd out available capital. Together, these things will cripple the ability of the private sector to drive growth. I supported temporary support of demand through fiscal policy early last year, but now we need that program to end, fiscal deficits to be reduced and private business to carry the expansion forward. Reduce policy uncertainty and reduce government expenditures.”

BizTimes: There has been much controversy lately about Federal Reserve Chairman Ben Bernanke. How much are Bernanke and his predecessor, Alan Greenspan, to blame for the economic bubbles that led to the Great Recession?
Knetter: “I think Greenspan bears substantial responsibility for allowing unfettered development of new financial instruments that were outside the purview of regulation. He believed that the market would police itself adequately. With hindsight, I would say even he thinks that belief was proven wrong. Bernanke inherited that situation, and I believe he has adjusted his stance as the evidence accumulated that credit expansion was excessive. Most people think he adjusted too slowly.”

BizTimes: From where I sit, this recession has culled the herd of America’s manufacturers. Anyone weak, inefficient or redundant has gone extinct. Those that have found a way to survive are lean, mean and green. Do you agree? Does this bode well for Wisconsin when the recovery picks up momentum?
Knetter: “I agree the recession has culled manufacturers. I think in severe recessions especially, firms focus and take actions to increase efficiency. This should have the survivors poised for a profitable recovery when demand picks up. I am not sure that this bodes any better for Wisconsin than other parts of the country, because I do not think this effect is limited to manufacturing businesses.”

BizTimes: Some say President Barack Obama’s stimulus plan helped America avoid complete depression. Others say it is a boondoggle, a disaster that we will be paying for generations to come? What say you?
Knetter: “I believe government had to take action to put a floor under demand and thereby restore some confidence in an economy that was in freefall. I approved of the fiscal expansion. Now the economy has some traction, and we need to begin reducing stimulus gradually and predictably. If we do not reduce it, then we will transition into boondoggle territory. Either way, we will have debt to service.”

BizTimes: Some experts claim billions of dollars of commercial real estate notes will come due in 2010, leading to widespread foreclosures and adding to the problems for American banks. How bad will it get?
Knetter: “I am uncertain of the true extent of commercial real estate refinancing that is coming due and also of the impact this will have on the markets. We may have more losses to digest, and if they are ‘unanticipated,’ then that may cause further declines in private spending.”

BizTimes: What about the American banking industry? More than 100 banks have been shut down by the Federal Deposit Insurance Corp. Do you expect the FDIC to continue to close down many banks in 2010?
Knetter: “I think the pace of closures will slow down in 2010.”

BizTimes: Some economists obsess over the national debt. Others downplay it. How worried are you?
Knetter: “I worry more about the magnitude of government expenditures than whether we pay for it by debt or taxes. I do not think government is an efficient provider of goods and services, so if we can do things through the private sector, that is preferred, in my opinion. I have become more worried about the debt in the last year because the rate of increase was so sharp. We need to get our fiscal situation under control, or we may face serious erosion in confidence in the dollar, and that would be quite harmful, in my opinion.”

BizTimes: Relative to the rest of the nation, what do you view as the strengths of Wisconsin’s economy?
Knetter: “We have a great education system, a good workforce and a good quality of life in the state, with access to nature and the outdoors in the northern tier. I think our manufacturing sector is technologically advanced and highly productive. Our flagship university generates a great deal of intellectual property that can help foster a growing technology cluster in Dane County and southeastern Wisconsin.”

BizTimes: What are the Wisconsin economy’s relative weaknesses?
Knetter: “I think the overlapping jurisdictions of government have made it very difficult to solve problems and develop a coherent economic development strategy for the state. Our budget rules have enabled the state to avoid facing serious underlying fiscal problems, in my opinion, leading the Pew Center for the States to put us on the top 10 list of fiscally challenged states. We are a higher-tax state and have thus had a very difficult time attracting significant new companies to Wisconsin. And it is pretty cold for a good part of the year!”

BizTimes: Are we on the rebound?
Knetter: “Yes!”

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