Great news! GDP shrinks 3.8% in Q4

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The final quarter of George Bush's presidency ended with the worst quarterly performance of our GDP since 1982, when Ronald Reagan was in office. Not since the first quarter of 1982, when GDP plunged at a 6.4% annualized rate, have we seen such dismal numbers.

But he 3.8% decline in Q4 2008 was not as bad as some had expected. What's next? Probably a downward revision of that 3.8% number, followed by a much worse result for 2009.

The key factor behind the shrinking economy was consumer spending, which shifted into reverse. Consumers cut back on spending by 3.5% in the fourth quarter, following a 3.8% reduction in the third quarter. Spending on durable goods, which generally requires financing to close the deal, plunged 22.4% -- the most since early 1987. And non-durable spending, or spending on items like food and clothing, fell 7.1% -- the deepest cut since 1950.

Two pieces of surprisingly good news : rising savings and wages. The savings rate rose to 2.9% in the fourth quarter, up from 1.2% in the third quarter. And wages, surprisingly, rose 2.6%, although that increase was the smallest since 1982 when the government first started tracking this data.

Our nightmare continues, though. That's because the 43rd president pushed hard for home ownership, tax cuts, and borrowing -- 30:1 in the case of the leading financial institutions. All this created the illusion of prosperity by making debt freely available to people who could not pay it back.

This illusion of prosperity began to shatter back in 2006 when subprime mortgage companies started to file for bankruptcy. In 2007, we had major financial panics that caused the Federal Reserve to slash interest rates. But that did not stop the implosion of the formerly leading lights of our financial system -- e.g., Lehman Brothers and the rest of Wall Street, which is on economic life support.

What does all this have to do with the GDP report? The numbers suggest that consumers and businesses are buying less because they can't get the finances to make purchases. There are two ways to fix this problem. One is to let prices fall so low that people can afford to buy without borrowing. The other is for the government to make loans directly to people who want to buy.

By creating the illusion of prosperity through debt, the deflationary spiral reflected in these latest economic numbers will continue to cause the mother of all economic hangovers for years to come.

Peter Cohan is President ofPeter S. Cohan & Associates. He also teaches management at Babson College. His eighth book isYou Can't Order Change: Lessons from Jim McNerney's Turnaround at Boeing.

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