Ten years on it is hard to recall the misery of America in the wake of the Lehman collapse.
Compared to the depth of the recession then, US total output is up more than a fifth, real incomes per head more than one tenth. By late 2009, one in ten American workers were jobless; today only one in 25.
Employees are better off, with labour income up more than a third. Owners have done much better, with profits up nearly three fold and the Dow Jones Industrial Average four fold.
Even so, the Great Recession has left scars. While America has recovered, it did so more slowly and for most of the time more feebly than earlier upswings.
The output lost in 2008 and 2009 was not quickly regained, as it often is in a US recovery. Home ownership has fallen sharply.
From the peak just before the 2008 financial collapse to the trough in 2009, America lost nearly 10 million jobs. Even today a markedly smaller proportion of workforce age Americans are actually in the workforce, with the biggest drop among younger workers and those without a college degree.
Millions of Americans left the workforce or failed to enter it. Many of them will never find steady jobs. The financial costs of the crisis now weigh on America’s ability to deal with the next.
Since 2008 US federal debt has more than doubled. A decade ago it was equal to less than two thirds of US GDP. Today it is equal to more than US GDP, and a big chunk of it is still held by the US central bank.
Despite a buoyant economy, deficits are heading smartly up rather than down. Even now, three years after the US Federal Reserve began increasing its overnight interest rate from what was then just above zero, it is still below 2 per cent.
Dowturn leaves scars
It is no longer adding to its stock of bonds to hold the long term interest rate low, but the Fed still holds two and three quarter billion in US Treasury bonds. In another crisis, neither the Fed nor the US Treasury would be able to respond on the scale of 2008 and 2009.
An economic catastrophe a decade go is still changing our world today. American output fell just under 4 per cent in the year to the second quarter of 2009, the trough of the downturn. But industrial production fell four times faster, and with it factory jobs.
America lost just short of two and half million manufacturing jobs in the Great Recession; less than half of those jobs have been regained. In the industrial heartlands political disaffection helped the Tea Party transform the Republican Party, opening the way for the Trump presidency.
The President’s themes – anti-establishment, anti China, anti globalist, America First – resonate in a constituency scarred by the deepest downturn since the Depression.
What was true for the US was true in other rich economies. Both the United Kingdom and Germany were harder hit by the Great Recession than the US. Three years after the slump began, US GDP had climbed back to the level of the first quarter of 2008. It took Germany another quarter to get back, after a steeper fall.
Elsewhere in Europe, in Spain, Portugal, Ireland and Greece, the fall-out was far more severe and long lasting. It took the UK five years to return GDP to where it had been in the first quarter of 2008, a dismal time that set Britain up for Brexit.
Protected by the then government’s strong fiscal response, the Reserve Bank’s swift cut in interest rates, a cheaper currency and accelerating growth in China, Australia was one of very few rich economies to survive the crisis with its prosperity intact.
There is little doubt the global financial system today is more robust than it was in 2008.
Globally important banks have stronger capital buffers, national regulators have more tools and are more sensitive to the risks of the kind of large scale, highly leveraged financial trading that led to the collapse of Lehmann and the seizure of the financial system in the US and Europe.
Though threatened, the Volcker rule discouraging big banks from trading on their account remains in place in the US.
But sooner or later there will certainly be another financial bust. The last three recessions in the US were all directly preceded by financial busts – the Savings and Loan crisis in 1990, the Tech Wreck in 2001 and the long slide in 2008 when the downturn in home construction morphed into the global financial crisis.
Some risks are already evident. The US sharemarket is sufficiently stretched to be vulnerable to a change in the outlook, not only for the US but for the global economy.
The increasing antagonism between the US and China has so far had little impact on either global growth or financial markets, but a souring of the relationship between the world’s two biggest economies must have unpleasant consequences for them and for the rest of us.
And then there is the big one, the obvious one: the rocky road back to normal interest rates, after the emergency rates set in response to feeble post-crisis growth.
Rise in US yields
Wages growth in the US is picking up, and with it higher inflation. The current trajectory for inflation in the US is by no means alarming, but higher tariffs on imports for China won’t help, and nor will the big deficit-financed tax cuts already flowing into the US economy.
One risk to watch is if the Fed is prompted to tighten markedly faster than the market now expects, pushing up long term yields. The rise in US yields has already troubled Turkey and Argentina. It is the root cause of the recent lift in Australian variable mortgage rates by three of the big banks. There is much more tightening to come.
Tightening by the US Fed is only one instance (though the most significant) of a broader transition towards higher interest rates in the advanced economies. It is well underway in the US but has yet to begin in a serious way in Europe, the UK, Japan – or for that matter Australia.
To reach what the Reserve Bank of Australia now nominates as the ‘neutral’ policy rate of 3.5 per cent it will need eight 25 basis point rate increases, assuming it moves in small steps.
Though output growth is at or above the 3 per cent rate the RBA says is the long term sustainable rate, though consumer price inflation is back within its target band (admittedly at the very bottom of it), though we have seen sparkling jobs growth in recent months, the RBA is yet to signal to the market a time frame in which it will commence the prolonged tighten episode required.
It is an instance of the caution many central banks feel as they contemplate a return to a more usual structure of interest rates.
Whether, when and where the inevitable tightening will expose hidden problems in the financial system we shall discover over the next few years.
John Edwards is a senior fellow at the Lowy Institute and a former RBA board member who in 2008 was seconded to the Australian Treasury as chief adviser, financial markets.