The 4th quarter US GDP figures confirm that the economic downturn, in its domestic aspect, is taking the classic form of an investment led decline.
As seen in Figure 1 US fixed investment already started to fall from the 1st quarter of 2006 onwards - US consumer expenditure and GDP, in contrast, continued to rise until the 2nd quarter of 2008. US government consumption is still rising.
US GDP has so far declined by 1.1 per cent since its
peak. Consumer expenditure has fallen by 1.8 per cent - also since its
peak. However US fixed investment has already declined by 8.8 per cent
since the first quarter of 2006.
In order to illustrate the 'classic' form of the current downturn Figure 2 shows the decline in US GDP after 1929.
As may be seen the pattern of the current decline is almost
identical to that after 1929 - with, of course, the dimensions of the
latter case being much greater than those during this downturn.
US GNP (Gross National Product) fell by 29.7 per cent between 1929 and 1933. Personal consumption fell by 19.7 per cent in the same period. US government expenditure continued to rise throughout the depression. But US private domestic fixed investment fell by 73.9 per cent from its 1929 level.
Given the classic form of the present recession the key issue is therefore whether the decline in investment can be halted by indirect means - in particular, as this embodies most governments current thinking, whether it can be halted by 'Keynesian' methods.
Keynes believed that a decline in investment, driving a recession, could be halted by indirect means such as reduction in interest rates, government spending etc. It was not necessary for the state to directly control investment.
As Keynesian writers such as Graham Turner have consistently stressed, based on analysis of the economic crisis in Japan during the 1990s, neither the US nor Britain is as yet applying real Keynesian methods. The most crucial issue in a Keynesian perspective is not primarily large budgetary deficits but driving down borrowing costs - pushing interest rates below the anticipated return on capital and therefore making investment profitable.
In the present situation driving down interest rates requires central bank purchase of government bonds and debt - that is 'quantitative easing'. An increasing number of governments, including the US, are, slowly being forced to consider this, although none has as yet implemented it.
China, however, is pursuing an alternative path. Its large state company sector means that it does not have to use only indirect methods to control investment - state owned companies can be directly instructed to increase their investment programmes. Simultaneously the state owned banking system means financial institutions can be directly instructed to increase lending not simply to the state but to the private sector. A rapid expansion of credit is taking place in China with the money supply, as measured by M2, rising at 18 per cent year.
China is therefore relying on a combination of direct (via state companies) and indirect (budget deficits, increase in bank lending) means to counter the economic downturn.
Neo-liberal or monetarist economic solutions are currently not being pursued by the government of any economically developed country. The US, Japan and Western Europe are all attempting to meet the economic downturn by 'Keynesian' methods - starting with large scale budget deficits and moving towards quantitative easing. While some small countries are being urged to undertake deflationary measures the major ones are pursuing a quite different path.
To see what will be the difference in outcome between the Keynesian methods which governments in the US, Japan and Europe, conceive they are using, compared to Keynesianism accompanied by more direct methods of state intervention being used in China, is not only a test of their different economic theories but also will be of great importance for the world economy.
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