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A recovery stymied by risk aversion
Posted at: Dec/14/2010 : Posted by: mel
Related Category: Economics,
Have you noticed; the Great Recession has left a deep and possibly lasting scar on our American psyche. From ordinary families to CEOs and captains of industry, we are a nation that is more cautious, more fearful, and more risk-averse than any time in our history. This widespread and, to this point virtually indestructible anxiety over risk has hobbled the recovery and helps explain the slow pace of job creation. There is really no such thing as an economic revival without some risk takers taking those needed risks, but no one has seen a risk taker in a couple of years.
There is this thing some people are calling a wall of worry whose origin seems to transcends the recession’s severity. We now fear not only what we know but also what we don’t. All kinds of events have transpired that were both unpredicted and unimagined: the collapse of major banks like Lehman Brothers and Wachovia; the near death experience of General Motors and Chrysler; the government’s titanic economic rescue efforts referred to as TARP, the Federal Reserve’s massive lending, the unprecedented budget deficits.
Obviously, it is possible of course to exaggerate pessimism and underestimate Americas’ traditional spirit of hopefulness and optimism. Even in our weakened economic state the U.S. economy appears to have produced almost $15 trillion worth of goods and services this year and employed 139 million people along the way. No doubt, 155 million people working would be a better number. Still, the mass uncertainty and fright remains as undeniable as the fading paint on the house.
We Americans are not merely reducing debts. We are erecting protections and walls against all kinds of unanticipated adversity. For a record 23rd straight month, more than half of all U.S. households expect to see no income gains in the next year as reported in a recent consumer survey conducted by the University of Michigan. Only a meager quarter of the households surveyed actually expect their income to increase. For many households, the recession’s most definitive lesson was that the only sure source of financial security was their own savings. In the bubble years as they are now called, many people borrowed because they felt they could repay; whether because of increasing home values of salary increases. Home values are way down with a glut of properties flooding the market and the stock based retirement funds many of us chose to depend on have been hammered. Now, no one is borrowing now because there is very little confidence left that they will be able to pay when the note comes due.
Those with work can see the devastating impact of being without. Nearly forty percent of the current unemployed have been jobless for more than six months. In the last recession of 2001, payroll jobs dropped by about 2.7 million, and it took nearly four years for the economy to recover nearly all the lost jobs. The loss in the present slump is somewhere around 8.4 million jobs (some say closer to 16 million when you count those who have stopped looking). As of this point the federal government is reporting that only 1 million of the recently unemployed have returned to the workforce. It will obviously be much, much longer before everyone is back to work. When you factor in all the young people just entering the workforce, whether from college or graduating high school, The unemployment rate may not fall below 6 percent for five years or more according to the Federal Reserve Chairman Ben Bernanke.
CEOs and venture capitalist appear to share this same fear and risk aversion. Appearing on CNBC recently, former Fed chairman Alan Greenspan noted that companies are hoarding cash. Firms usually invest nearly 100 percent or more of their cash flow (profits) in new buildings, equipment, and software. The ratio dips during recessions, but Greenspan calculates that it is now below 80 percent, which is the lowest since at least 1952. Much like private individuals, companies are repaying debt, buying back stock, or building up reserves against the next unforeseen crisis. Another sign of caution is that half of all new jobs at this point are in “temporary help” agencies. Firms are resisting hiring full-time workers because of the burden associated with this risk if things go awry.
It has to be also noted that some of the risk aversion present at the corporate level is in response to congress and the tax laws. Businesses are hesitant to choose a direction for investing when they have yet to see how the tax code will settle dictating where the best rate of return will come from.
Logically, all this may seemingly be nothing more than sensible behavior based on lessons learned from a financial crisis. Obviously, learning from a catastrophic event and choosing to be prudent is a good thing, but where does prudence stop and paranoia take over?
The the relationship between economics and mood swings are obscure, even to the most noted of sociologist and economists. If Americans are blue today, might they become rosy, confident, and willing to spend tomorrow? A continued recovery could prove reassuring. As confidence builds, the economy could spontaneously and surprisingly accelerate. On the other hand, deep-seated anxieties might defy any easy resolution. The various serialized efforts at economic stimulus by our federal government could also backfire. Last week’s proposed cut in payroll taxes could instead of putting money in consumer’s hands; prove only that our highest government leaders are showing signs of desperation. Government leaders that begin showing doubt in their policies will do nothing but perpetuate consumer and business leadership caution and moving forward.
The Great Recession’s most worrisome legacy could be this common allergy toward risk taking. Having underestimated risks in the bubble years, we may be overestimating them now. One warning is the retreat of venture capital which is a big source of money for high-tech startups. In 2009, venture-capital funds raised less than half what they had a mere two years earlier. The pensions, university endowments, insurance companies, and wealthy individuals that provided much of our venture capital have less money to invest and are less willing to commit it to what is now viewed as chancy firms and chancy ventures.
Lastly there is the effect of age. People in the 50’s are logically going to take less risks because they have less time to remake anything that they might lose. We also know that we age most of us become more risk averse. Much of business is now dominated by this same older age group.
The real legacy of this recession may turn out to be the overly slow recovery. Burned by our excesses and risk taking, we are now stymied by our own potential unwillingness to take any risk going forward.