What to Expect From the Stagnant Economy

How to cope with 6 hardships that may be with us for a while.

By SHARE

Perhaps we should nickname the economic recovery Godot, since it's in no hurry to show up.

The recession supposedly ended in mid-2009, yet two years later, the economy is barely growing and the unemployment rate may be headed back toward 10 percent. After a few hopeful months when it looked like companies would start hiring again and consumers would boost their spending, both sectors have pulled back, as if retrenching for another recession. Economists who had been optimistic earlier this year are now slashing their forecasts for the rest of 2011 and for 2012, saying we'll be lucky if the economy can eke out meager growth of 2 percent or so, barely enough to keep up with population growth.

[See 10 states that are losing business.]

Is this all we have to look forward to? Maybe so, at least for a few years. Economists Carmen Reinhart and Kenneth Rogoff, authors of This Time Is Different: Eight Centuries of Financial Folly, have been gaining many adherents to their theory that unlike typical business-cycle recessions, the debt-fueled financial crisis we've been going through may take a decade or more to work itself out. If they're right, then we're less than halfway there, since the housing bust, jobs shortage, credit squeeze, and household-wealth wipeout all began within the last five years.

There are certainly plenty of worrisome signs that big debt-related problems could worsen. This summer's debt-ceiling fiasco in Washington produced epic posturing but only a meager improvement in the nation's debt outlook—plus it led to the first-ever downgrade of America's credit rating by Standard & Poor's. American consumers have begun to pay down their own record levels of debt, but still have a long way to go. Europe may be in even worse shape, with sovereign debt overload in many nations that threatens the whole euro zone, along with its banking sector.

It now seems increasingly likely that those problems will cause years of economic stagnation in which the economy isn't shrinking, but isn't growing by much, either. In other words—it's not going to get better any time soon. If so, here's what to expect:

Less of everything. The conventional idea is that consumers cut back during recessions, then binge when it's over as they indulge their "pent-up demand." But no matter how pent-up demand may be right now, many people simply don't have the money (or credit) to spend on homes, cars, appliances, and other big-ticket items. The Economic Policy Institute, a liberal-leaning think tank, estimates that lost production and lower economic growth cost every American $5,850 in 2009 and 2010. If so, that's money consumers may never recover, since incomes are down and there's no reason to think they'll suddenly jump.

How to cope: Many Americans have already adjusted to the lean economy by trading down to store brands, eating out less, choosing used items over new, eliminating "window shopping" trips to the mall, and simply cutting out purchases that aren't necessities. Using cash instead of credit cards is another good way to guard against overspending, since it reduces payments you'll have to make in the uncertain future. It's also smart to think twice about taking on debt to pay for a car, vacation, or bigger house than you really need, even if the payments seem affordable. Economists warn that a weak economy like we've got now is very vulnerable to shocks, which means something that might otherwise seem manageable—such as a policy mistake in Washington or a modest rise in energy prices—could tip the economy into recession, triggering fresh layoffs and more cutbacks.

[See who will benefit from the slowing economy.]

"Fractional employment." This is a phrase used by Carl Camden, CEO of the staffing company Kelly Services, who says that the whole nature of employment is changing in ways that many workers and companies still don't fully appreciate. "Job life cycles have become incredibly short," he said in a recent study published by consulting firm McKinsey. "Jobs aren't permanent, locations aren't permanent, and workers are returning back to what I would call a free-agent type of work style." Camden believes that independent contractors and other types of part-time workers—even at the highest professional levels—will shift from about 25 percent of the workforce today to as much as 50 percent. If unemployment were low that might not happen. But an expanded pool of available workers allows many firms to hire on whatever terms they choose. So many companies will have a lean full-time staff to handle work that always needs to be done—like accounting, management, and certain types of production—while relying on temps or part-timers for project or contract work.

How to cope: Either make yourself permanently indispensable to your company, or prepare for a career with a portfolio of employers instead of just one or two. That makes networking more important than ever. Even those who think their jobs are safe might be smart to ask their boss's permission to freelance on the side. It's always wise to strategize about who your next employer might be or where your next income stream might come from. And if you're committed to a pleasant 40-hour workweek, prepare to lose jobs and promotions to somebody who works 50 or 60 hours.

[See 7 ways Obama can gain credibility on jobs.]

More broken promises. Some companies and even some state and local governments have been unable to make the pension or healthcare payments promised to workers long ago. Expect more of that. As healthcare costs skyrocket, companies are sure to keep cutting back on benefits, especially for less-than-full-time workers. Many governments are in worse shape, especially since citizens aren't likely to tolerate the tax hikes that may be needed to cover all the benefits pledged to public-sector workers. And for years, politicians have misled voters about what kinds of benefits and services they can expect from government. "For the last 40 years, most Americans have been expecting more than their government is capable of delivering," economist Tyler Cowen wrote in his recent book, The Great Stagnation. "Instead of admitting its limitations, or trying to manage our expectations, government starts lying to us about what is possible."

How to Cope: Assess how dependent you are on benefits provided by others, and build a cushion in case those benefits don't materialize. For example, it seems likely that the Social Security retirement age will be raised, and that Medicare and Medicaid beneficiaries will have to pay for a larger share of their healthcare, to keep those programs solvent. "Means-testing" could reduce payouts that go to higher-income recipients. Prepare for those types of changes instead of getting blindsided.

[See what Bernanke wants Congress to do]

Higher taxes. Politicians will never acknowledge this, but taxes on most people are going to rise, no matter what. There's simply no way to resolve the nation's budget problems with spending cuts alone, or even with tax hikes limited to the wealthy. The well-regarded Bowles-Simpson debt-reduction plan, for example, calls for a mix that's about two thirds spending cuts and one third tax increases. Even though that plan is tilted toward spending cuts—and also includes many reforms that would simplify the tax code—it would still raise taxes by 9.3 percent, on average. Conservative Republicans insist that they'll never approve tax increases, but the fact is they may end up with no choice. At some point the only alternative will be to eviscerate popular programs like Medicare and Social Security, which voters seem unlikely to tolerate. Besides, the federal tax burden has declined over the last decade and seems destined to revert back toward historical norms.

How to cope: Don't panic, but don't buy into politicians' claims that tax increases will never happen, either. The first change might be the end of several tax cuts that are supposed to be temporary, such as the Bush-era tax cuts and the reduced payroll deduction passed under President Obama. A good guess is that they'll expire at the end of 2012 or 2013, which would be a de-facto tax hike for most U.S. taxpayers. It's also possible that there will be lower exemptions for mortgage interest and for the value of employer-provided health insurance, with changes phased in over time. There could be other tax hikes—on gasoline, for example--as part of a deal to lower income-tax rates. Saving money, paying down debt, and keeping spending under control are the best ways to prepare.

[See 5 reasons taxes are going to rise.]

Continued volatility. The manic stock market could be with us for a while, thanks to high levels of uncertainty about the direction of government policy and the economy's resilience. Part of the problem is that economists and investors are trying to make sense of things they've never seen before, like huge amounts of government debt and the possible end of American economic dominance. History books can be a guide, but an imperfect one at best.

How to cope: If you're trying to time the market, be prepared to lose. Otherwise, invest conservatively and tune out the day-to-day drama if possible.

Lower living standards. But you already knew that, right? Over the last decade, household income for the typical middle-class family has fallen by about $5,000, according to the Economic Policy Institute. That includes some families that have lost their jobs and homes and endured severe stress, along with others that are scraping by thanks to more hours on the job or a spouse's income. Even the affluent have seen their wealth erode, on account of falling home values and a stock market that's still far below its 2007 peak. Such losses may moderate, but it will still be a long time before Americans regain all the wealth they've lost over the last several years, and even longer before the middle class gets its mojo back.

How to cope: Take the long view, pay down debt, save like mad, and make sure you have the skills to compete in an unforgiving economy. If that means going back to school or getting new training to stay on top of your game, do it. Also keep in mind that many of the traditional things we aspire to--like a spacious house, a luxury car, or an enviable vacation--don't enhance our lives all that much, as many people have learned upon giving them up. Spending less money on stuff and investing more in education, communities, and our own self-sufficiency may even be the way Americans prepare for a new renaissance. Unlike Godot, a true economic recovery will arrive someday.

Twitter: @rickjnewman 

  • Read: How the Debt Fiasco Damaged the Economy.
  • Check out the four states that are gaining business.
  • Read about countries with more problems than America.