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Classic recessions start with the Fed fearing inflation and aggressively raising interest rates to choke off excess business investment. They end with the Fed defeating the inflation foe and slowly cutting rates again. This one started with inflation practically nil and the Fed in neutral. With no inflation threat--indeed, with deflation the bigger worry in some camps--the Fed has been aggressively cutting rates. Those cuts are working to stimulate the economy, but not in the usual way.
Fed Chairman Alan Greenspan and company have chopped the benchmark federal funds rate 11 times this year, to 1.75%. In the last recession, the rate fell only to 3%. "This is unlike anything we've seen in the postwar period," says economist Stephen Roach at Morgan Stanley. Recessions that spring from manic business overbuilding, such as this one, were more common before World War II and proved then to be far more difficult to correct, lasting on average about twice as long as recessions caused by Fed rate hikes, Roach notes.
Why? Ordinarily, low interest rates encourage businesses to borrow and build. No matter how low interest rates go, though, that won't happen now until existing capacity has been put to use.
But low rates are working--mainly by keeping mortgages affordable, which has kept the housing market bustling and homeowners feeling a reserve of wealth. With long-term rates surging lately, homeowners are switching to hybrid mortgages that offer a fixed rate for the first few years and then adjust every year after that, and are still finding great terms. The trick now is to get businesses investing again before homeowners exhaust what they're willing to spend of their housing wealth.
Even with a job, you may suffer
They have long known this on Wall Street, where year-end bonuses can make up almost all of annual compensation. But this is the first recession since flexible compensation took hold throughout the work force in the '90s. A Fed survey shows that 95% of companies now give a year-end bonus, stock options, profit sharing or commission payments--up from 65% five years ago. Many companies offer such flexible pay to employees well below top management, and typically this compensation falls in bad times.
Ford has announced that there will be no annual bonus for executives and managers and that profit-sharing disbursements, if any, will be unusually low. Meanwhile, the second consecutive year of a declining stock has taken all the gain out of many employees' stock options. Some employers, like Acxiom in Conway, Ark., and Montrose Travel in Montrose, Calif., have even cut workers' pay across the board as much as 15%.
Flexible compensation helps companies cut costs and hold on to more employees, but because of this new pay structure, personal income will fall by $30 billion in the first quarter, estimates Goldman Sachs.
Low unemployment rates can hide job churn--and pain
The recession of 1990-91 resulted in unemployment of 7.8%, and the one before that 10.8%. The rate today is confoundingly tame at just 5.7%. Still, nearly 2 million jobs have been cut this year. That's triple any year in at least a decade. So the low unemployment rate is masking painful job churn and insecurity.