Depression or Recession?

The pain in the financial markets and the economy now has people throwing around terms like depression instead of recession. The Great Depression was the worst period of economic history in the twentieth century. Although our financial markets are behaving a lot like we are in a depression (the S&P 500 is down 50% from its October 2007 high through 11/20/2008 while I write this), I do not believe we will suffer another economic depression. My reasoning is based on some FACTUAL differences between that period (1929-1937) and our current times.

1.In the Great Depression, we had no social security system. Social security may not be enough to retire on, but a large portion of our society (seniors) will continue to get a check and some positive cash flow for their lifetimes.

2.There was no unemployment insurance during the depression. People who are laid-off or fired in this downturn are entitled to 39 weeks of unemployment benefits and Congress is considering extending that to 52 weeks. That is a full year of partial support for someone attempting to find a new position.

3.There was no FDIC insurance in the depression. Banks failed and some people lost what little money they had. FDIC insurance now covers up to $250,000 per person on an account and we can all rest assured that the government will back these assets and protect them.

4.The government was very slow to respond during the Great Depression. Most of what President Roosevelt and his team faced had never been experienced before and it took them awhile (years) to get the correct policy responses in place. This time around, government has responded swiftly to the financial market crisis. Although not all policy responses may work as planned, there certainly has not been a lack of effort or imagination in reacting to each new development.

5.We will begin 2009 with new leadership. Regardless of your political beliefs, we have a new administration and a new set of priorities that they will work on. The financial crisis will be front and center. This administration will not have to question what their policy legacy will be; they are walking into office with the big issues already defined for them. We can hope as a nation that they are up to the challenge, but crisis usually brings out the best in America.

6.Even during the depression there were some good financial times in the market. As I have mentioned, the Great Depression is typically measured from 1929 to 1937. Few people know how the markets actually performed in that period. Most everyone knows that people lost money in the markets, but for long-term investors, the markets had some very good years during that period and for many years afterward. Here is the factual performance during the period: 1929, -8.4%; 1930, -24.9%; 1931, -43.3%; 1932, -8.2%; 1933, +54%; 1934, -1.4%; 1935, +47.7; 1936, +34%; 1937, -35%. Investors who held stocks from 1933-1939 (the depth of the economic depression) had an average annual return of +14.3%! All the data for this point is from Ibbotson SBBI 2008 Classic Yearbook (the industry bible for statistics).

I do not think this will be the next depression. We may see a recession but the financial markets will start to price in a recovery well before we start to feel better.