You may not have heard yet, but the United States is in a recession. All recessions are caused by the same thing – artificial growth of the economy followed by a natural contraction. The current recession we are in was caused by government spending, artificially low interest rates, speculation in real estate causing artificially high valuations, debt based on those valuations, and cheap and easy credit. For thirty years, we have spent well beyond our means. Because of this, car companies built too many factories and home improvement big boxes built too many stores. The economy must now contract to its rightful size.
In a recession, many things happen. As the supply of money contracts, consumers consume less. This leaves excess inventory on the shelves. In order for the market to clear out the excess inventory, prices drop and companies cut back on production. This drop in prices is called deflation. With deflation and contraction, less production is needed resulting in a loss of jobs. In a healthy recession, wages would also drop with deflation. This shouldn't be a big deal. As prices go down, people need less money. As wages drop, industry can afford to hire more people and unemployment will subside. Everything should balance out, but this is where the problem causing debt comes in to play.
Debt and deflation don’t mix. If your wages are reduced, you will still have the same sized house payment, credit card payment, and car payment. In fact, if your interest rates aren’t locked in, you may end up paying more. The average American has approximately $8,000 in credit card debt, $14,000 in auto and education debt, $10,000 in home equity debt, and $84,000 in mortgage debt. Because Americans have so much debt, the natural tendency to resist wage rate reduction is greatly strengthened. Unions opposed wage reductions, individuals resist wage reductions, and since debt is so pervasive in our culture, managers (who have debt of their own) will resist it as well. The government is in no better position than its citizens. Lower wage rates mean lower tax income, and due to the massive amount of government debt, it too will resist wage reduction. "More consumption is the answer," they say.
Because of our consumer culture, we have become a nation of indebted people. The economy grew at an unsustainable rate for too long. Now that the economy is contracting, credit is scarce, and people are losing their jobs. And due to our debt, the best remedy for fixing the economy - letting wages fall to create jobs - is really going to hurt. That is, IF the government lets it happen. If they don't, the only option is to try and create another bubble, or raise inflation to the point where our currency becomes worthless. Neither option is very attractive. Still, maybe it's time we take our medicine (no matter how bitter it is), learn a stern lesson, and move on. Let's let the market do its job and resist government intervention instead. The more the government resists market corrections, the more unemployment we will have, and the longer that unemployment will last.