Deep Scars From a Brutal Recession

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In a 2009 interview, Bill Bonner of Agora Financial described the difference between a recession and a depression. "In a recession, you have growth, and then the economy runs too hot, and then it has got to cool down for a while," he said. "And when it's cooling down, people get laid off. And then when it warms up again, they get hired back at the same jobs and things go on. But that's not what's happening now. People are not getting laid off. They're getting fired. And they're fired permanently because the jobs are not just cooling off; those jobs are disappearing." 

You'd be hard-pressed to come up with a clearer description of our current job market. There are currently 14 million unemployed people in the country; roughly half have been out of work for six months or longer. One-third have been out of work for more than a year. Not since the Great Depression have we seen figures even close to those levels. During the unemployment spike of the early 1980s, the average bout of unemployment lasted half as long as it does today -- 20 weeks versus 40 weeks.

By most standard measures, the past three years has been a severe recession. By Bonner's definition, it's been a depression.

Here's what's really tough to swallow: "For individuals, the likelihood of finding a job declines as the length of unemployment increases," as a Pew Economic Policy Group study notes. Even when the long-term unemployed do find a new job, it's likely to pay far less than the previous one, and the odds of lapsing back into unemployment stay high. It's a depression scar. And depression scars don't just last months. They can last years, decades, even lifetimes.

This is especially true for young workers, who make up a disproportionate number of the current unemployed. There's a momentum to job success that tends to reward those who begin their careers when the economy is good, while holding back those who start when the economy is stalling -- not just in their first job, but for the bulk of their careers. "Graduates' first jobs have an inordinate impact on their career path," wrote former White House economic advisor Austan Goolsbee.

In a study of men graduating from college between 1979 and 1989, Yale economist Lisa Kahn found that those beginning their careers during recessions earned considerably less than those graduating in relative boom times. That much might be expected. But what's astounding is how long the gap lasted. Seventeen years after graduation, Kahn found that those who began their careers in tough economic times still made less than those who started when the economy was strong, even adjusting for age differences. The gap wasn't trivial, either. For every 1 percentage point increase in the unemployment rate during the year someone graduates, wages over the following 17 years drop by 4.4% per year. Those who started their careers when the economy offered abundant opportunity built contacts, gained experience, and developed resumes that gave them momentum throughout their entire career. Those who stepped into economic havoc were never able to fully shake it off.

Older workers are hardly immune. Testifying before Congress last year, Till von Wachter of Columbia University explained: "The average mature worker losing a stable job at a good employer will see earnings reductions of 20% lasting over 15-20 years," when laid off during a recession.

And then there's the stress. Being laid off during a recession can reduce life expectancy by as much as 1.5 years, von Wachter found. Japanese workers who started their careers during the bubble collapse of the 1990s now make up 60% of all clinical depression and stress cases, according to the Japan Productivity Center.

Overall, the economy will recover, of course. The question is when, not if. But it's increasingly likely that the recession will leave a wider gulf among social groups than already exists. Years from now, two groups will exist: those who made it through the recession with their career intact and those who didn't. The latter group will be made up of two sets: those who were unlucky enough to enter the job market during the downturn, and those who, for whatever reason, were laid off.

Some people -- many people -- will buck the trend, of course. If you're graduating into today's economy with a degree in computer engineering, the future may have never been brighter. For those with an entrepreneurial flame, a down economy provides some of the most fertile soil to start a business. If you're one of them, great! Go get 'em! But here's reality: A large chunk of workers laid off over the past few years won't measure the recovery in weeks or months. They'll measure it in years or decades -- if at all.

Two important points come out of that. First, rising inequality tends to lead to resentment. I recently spoke with a professor from American University in Cairo. What pushed Egyptians to stand up in the Arab Spring earlier this year? Many factors, not least of which was dramatic income inequality, she told me.

"You can't keep people tame for long when one group automatically does so much better than another," she elaborated, inevitably comparing it to the current Occupy Wall Street protests. Income inequality is the single most underappreciated factor in the Arab Spring, she said. The comparison isn't meant to put Occupy Wall Street on the same level as the Arab Spring; it's just to point out that economic problems lead to social problems.

Rising income inequality has been brewing in this country for decades, but in the past, the less-well-off could cover it up through debt accumulation -- if you couldn't get a raise, you could at least take out another home equity loan. It's not like that anymore. The less-well-off are growing tangibly, materially, distant from a lifestyle that used to be within reach. Whether that's a healthy reversion -- I think it is, to a degree -- isn't the point. They're angry, they feel cheated, and they're going to stomp their feet until things change.

Second, the single most important factor affecting the budget deficit is the unemployment rate. Are the government's current unemployment projections factoring in how long the scars of this recession could last? I don't think they are. People aren't paying enough attention to that. The only thing worse than forecasts of huge budget deficits are forecasts of huge budget deficits built on overly optimistic assumptions.

"This is a big thing. This is a half-century change we're looking at," Bill Bonner said. "And this is not going to happen fast. It's going to happen very slowly." Think he's wrong? Share your thoughts below. 

Check back every Tuesday and Friday for Morgan Housel's columns on finance and economics.

Fool contributor Morgan Housel doesn't own any of the shares mentioned in this article. Follow him on Twitter @TMFHousel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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