by Calculated Risk on 1/18/2008 01:02:00 AM

In his testimony to Congress, Chairman Bernanke argued that any fiscal stimulus package be structured to impact spending within the next twelve months, otherwise the economy would probably already be improving:

"To be useful, a fiscal stimulus package should be implemented quickly and structured so that its effects on aggregate spending are felt as much as possible within the next twelve months or so. Stimulus that comes too late will not help support economic activity in the near term, and it could be actively destabilizing if it comes at a time when growth is already improving."

Professor Krugman writes Not so fast:

One assumption in Ben Bernanke’s testimony today was that if a recession happens, it will be over soon, so stimulus has to come fast or not at all. It’s by no means clear that this is right. ... both recent history and the nature of our current problem suggest that we may be in for more than a few bad months.

Krugman plots the employment-population ratio, and argues that if this slowdown is like the previous two recessions, employment growth will be sluggish even after the official recession is over. Here is a long term graph of the employment-population ratio with recessions added:

Click on graph for larger image.

Note that the scale doesn't start at zero to better show the changes in the population ratio.

First, there has been a steady trend of a rising employment-population ratio since 1960. This is mostly due to more women joining the work force. It is very possible that this underlying trend is now flat, or even declining slightly, as the baby boomers start to leave the work force.

The waves on the long term trend are related to economic expansions and slowdowns. Historically the employment-population ratio bottomed out soon after a recession ended. However for the two most recent recessions, the employment-population ratio continued to decline, even after the recession ended.

After the 2001 recession, the ratio declined until almost September 2003, and for many people it seemed like the recession lingered for a couple of years. For the current slowdown (probable recession), the employment-population ratio has been declining for a year, and this is probably part of the reason so many people feel the economy has been in a recession for some time.

I suspect that even if the official recession is not severe (less than 8% unemployment and shorter than 12 months in duration), the employment effects will, once again, linger for some time.