Check the major newspapers. Everyone is writing about the economy. For almost five years now, they’ve been predicting strong economic growth just around the corner. And for almost five years, they’ve been wrong. Stumped. Surprised.

The recession ended three years ago, they say. How can unemployment still be so high? How can growth be so slow?

So they make up explanations, usually political. Their economic models failed. Their credibility is in doubt. They must blame someone else. So they blame the government.

Taxes are too high, they say, even though taxes are lower than they were before the recession. Regulations are too strict, they say, even though corporations are making record profits. The stimulus slowed growth, they say, even though it created or saved over 3 million jobs.

And they never mention the housing bubble. Even though everyone and their dog knows that the collapse of the housing bubble caused the recession.

From the end of World War II to the late 1990s, housing prices tracked inflation. There were booms and busts in the 1970s and 1980s, but they always came back to the same long-run average. Then, from 1998 to 2006, they rose approximately 90 percent, after adjusting for inflation. They’ve been falling ever since.

Real housing prices are now about 10 percent above their long-run average, as is the price-to-rent ratio. Which means they still have further to fall, but we can finally see the light at the end of the tunnel.

If you’ve taken Econ 101, you’ve probably heard of the “housing wealth effect.” It says that, for every dollar that housing wealth declines, consumption shrinks by 5 to 7 cents. Since the peak of the housing bubble, we’ve lost almost $8 trillion in housing wealth. That’s $400 to $560 billion less consumption. And that doesn’t include indirect effects, like the resulting stock market decline, which lost another $4 trillion in wealth.

It takes an even bigger chunk out of overall output when you add residential investment, which fell 24 percent in 2008, 22 percent in 2009, and 4 percent in 2010.

Given that knowledge, it’s hard to imagine anyone predicting a strong economic recovery while housing prices still have further to fall.

But the housing market is improving. Residential investment has started to grow again, as has construction employment. Whereas there was a huge glut of unsold homes in 2009, that inventory is almost back to normal levels. Existing home sales have been increasing for the last six months, though new home sales are still stuck near their post-recession low.

The decrease in unemployment is what everyone is talking about, but it’s mostly due to people dropping out of the workforce — being so discouraged that they stop looking for work — rather than a significant increase in jobs. The number of job openings was unchanged in November. 200,000 new jobs in December may sound like a lot, but it would take 100 more months just like it – that’s 8 years — to return to full employment.

A lot is riding on a turnaround in the housing market, including Barack Obama’s re-election. If the administration wants to increase its odds of staying in the White House, it’s not taxes or regulations or government spending that need easing. It’s struggling homeowners.

They can start by appointing an FHFA director who will encourage borrowers with government-backed loans to refinance at lower interest rates. And they need to be more aggressive in investigating widespread mortgage servicing fraud at major lenders.

We are nearing the end of the Great Housing Bubble. It has gone up, and now it’s almost done coming down. Let’s hope we learned our lesson…at least for a little while.

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This op-ed was published in yesterday’s South Florida Sun-Sentinel.

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This makes a huge difference. A businessman can slash his workforce in half, produce about the same as before, and be considered a big success; an economy that does the same plunges into depression, and ends up not being able to sell its goods.

– Paul Krugman (Princeton University)

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…the first stimulus bill in 2008, a $700 billion package geared toward government spending to stimulate the economy, and financed with borrowed money, has obviously failed to create new jobs.

He never offers any evidence to support this claim.

I’ve disproven this hypothesis before, but I’ll do so again — first by repeating what I said last time, then with even more evidence. If you’ve already read the first part, you might want to skip to the new stuff, though it can’t hurt to refresh your memory…  

President Obama signed the American Recovery and Reinvestment Act (ARRA) on February 17, 2009. Almost immediately, GDP growth turned around:

Private sector job growth also turned the corner immediately following the ARRA:

A few weeks after Congress passed the ARRA, the stock market unexpectedly began a strong, steady rise:

It’s true that GDP and job growth has been slower during this recovery than previous post-WWII recoveries, but recoveries following financial crises are almost always weaker than recoveries that follow traditional recessions. Compared to other debt-burdened recoveries, this recovery has been better than usual.

Another reason for the slow GDP and job growth is the lack of stimulus. No, that’s not a typo. The ARRA may have injected $787 billion into the economy, but state and local governmentscut their budgets by roughly the same amount. Overall, government spending hardly budged from its long-term trend:

A lot of economists have tried to measure the historical “government multiplier,” or “bang for your buck,” but only a few have studied periods that are comparable to today: deep recessions where interest rates can’t go any lower. Such responsible studies estimate that the multiplier ranges from 1.5 to 2, which means that $1 in government spending increases GDP by $1.50 to $2.

Stimulus critics predicted that interest rates would rise because the government borrowed too much, competing with private investors for scarce lending. Instead, the opposite happened:

In fact, interest rates are the lowest they’ve been in many decades:

Some stimulus critics also predicted that inflation would soar because the government would print money to pay for the stimulus. Actually, inflation is lower than it was before the recession, lower than it was in the 1980s and most of the 1990s, and out of dangerous deflation territory, thanks to the ARRA:

But if you want to measure the effects of the stimulus, says conservative economist Robert Barro,  you need “‘experiments,’ in which the government changes transfer in an unusual way — while other factors stay the same.” Fortunately, we have four such “econometric” research papers.* (We won’t discuss papers that use “models” because, as Barro says, they tend to assume what they’re trying to prove.) Here are their findings:

1. James Feyrer and Bruce Sacerdote, both from Dartmouth, compared jobs growth in each state and county to the amount of stimulus funds spent in that state or county. They used the seniority of each state’s/county’s legislators to determine whether they received the funding because of economic need or political patronage. That allowed them to correct for any possible reverse causation, whereby the jobs growth determined how much stimulus funds were received (rather than the other way around, which is what we’re trying to measure). They found a multiplier of 1.96 to 2.31 for low-income spending, 1.85 for infrastructure spending, and 0.47 to 1.06 for the stimulus overall.
2. Gabriel Chodorow-Reich (Berkeley), Laura Feiveson (MIT), Zachary Liscow (Berkeley), and William Gui Woolston (Stanford) compared jobs growth in each state to the amount of federal Medicaid matching funds spent in that state. They only looked at aid that states received based on pre-recession Medicaid spending, not the aid distributed based on economic need during the recession, to avoid the reverse causation problem mentioned earlier. They found a multiplier of 2.
3. Daniel J. Wilson, of the Federal Reserve Bank of San Francisco, compared jobs growth in each state to the amount of stimulus funds spent in that state. He used pre-recession Medicaid spending, school-age population (a proxy for education need), and highway act (unrelated to unemployment) to determine whether they received the funding because they were hit harder during the recession or because of these non-cyclical needs. That allowed him to correct for any possible reverse causation. He found that the ARRA “created or saved about 2 million jobs in its first year and over 3 million by March 2011.”
4. John B. Taylor, of Stanford, measured the change in consumption at the time when the tax cuts boosted personal disposable income the most. He found no significant increase in consumption due to the tax cuts. He also measured the change in state and local government spending at the time when federal aid gave them the biggest boost. He found that the increase in federal spending was too small to significantly outweigh the decrease in state and local spending.

There you have it: All the evidence points to a stimulus that worked exactly as it was supposed to. If anything, it was too small and had too many tax cuts and not enough spending.

On the tax cuts, it’s worth mentioning, however, that this is not a regular recession. It’s a “balance-sheet recession,” where consumers won’t start spending again until they pay off the debt hanging over them. The tax cuts may not boost consumption immediately, but they help consumers pay off debt and thus speed up the recovery. Of course, this only works if the tax cuts are directed to low- and middle-income Americans with debt to pay off, not to the rich. This is why President Obama is advocating payroll tax cuts, not tax cuts for the rich that Prof. Mishra and Congressional Republicans are so fond of.

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* A hat tip to Ezra Klein for compiling these papers (and several more) in one handy blog post.

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