One Graph That Explains Why This Recovery Is Different

The GOP propaganda machine, which includes prominent economists, has been blaming our slow recovery from recession on Obama policies which have led to low business confidence. This graph tells the real story on why this recovery is different. The correlation between new housing starts and the unemployment rate is very strong. Previous recessions were triggered by declines in housing starts and the recoveries were spurred by a pick up in housing starts. Movements in housing starts were related to the Fed's interest rate policies. The Fed raised rates when it worried about inflation, and it lowered rates when it worried about unemployment. Since housing starts are interest rate sensitive, they tend to respond strongly to changes in the interest rate. This recession is different because lower interest rates have not stimulated new housing starts. That is the result of the bursting of the housing bubble. Home prices have fallen dramatically, and homeowners with principle balances greater than the market value of their homes, cannot afford to sell their home and move up to a bigger home. Moreover, they no longer have equity in their homes that they borrow against to finance consumption.

Since investment in new homes is included as part of business investment, the decline in new housing starts exaggerates the impact of business investment on the recovery. Economists, like Mankiw and Borro from Harvard, pay little attention to this effect when they make use of the business confidence fairy to put the blame on Obama's policies which are purported to be the cause of low business confidence.