Shrinking GDP, Citibank Plan Analyzed

The government said Friday the economy shrank at an annual rate of 6.2 percent. Meanwhile, the Treasury Department announced it is converting some preferred shares it owns in Citigroup to common stock, a move that helps stabilize the bank, but increases risks for taxpayers.

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From NPR News, this is ALL THINGS CONSIDERED. I'm Melissa Block.

MICHELE NORRIS, host:

And I'm Michele Norris.

The first snapshot wasn't so good, but the second is downright ugly. The U.S. government's second look at how the economy performed in the last three months of last year shows it shrinking at a 6.2 percent annual rate. That's a much faster decline than the original estimate of 3.8 percent. Meanwhile, U.S. banks aren't looking so good, either. In a move that some are calling nationalization, the government said it is prepared to deepen its involvement in Citigroup.

The stock market didn't like either development. The S&P 500 hit a 12-year low today. NPR economics correspondent John Ydstie joins me now. John, the incredible shrinking economy, I guess we could call this. Why was it so much worse at the end of last year than we thought?

JOHN YDSTIE: Well, both the numbers, the previous negative 3.8 percent reading, and then today's 6.2 percent decline, are estimates - and actually, there will be a third number in a few weeks that will be the final reading. That first estimate is made without complete information on things like exports and inventories. So, the government's green eyeshade guys project what the final numbers will look like. Well, they missed it by a mile, which gives you some idea just how fast the economy was falling at the end of last year.

NORRIS: Now, this is interesting because we heard the White House officials yesterday, in releasing their budget, painting a much rosier picture out ahead. What exactly did the estimators get wrong in this case?

YDSTIE: Well, they initially thought exports grew in the fourth quarter and that business inventories expanded. Turns out they both shrank. Also, consumer spending was weaker than projected in that first estimate. What it adds up to is the fastest rate of contraction in the U.S. economy since the beginning of the recession in 1982, and that was a deep and painful recession.

NORRIS: What does this tell us about how deep and painful this recession will be?

YDSTIE: Well, I think it's further evidence that this could turn out to be the most severe recession of the post-World War II era. A number of economists said today that it suggests the recovery may be delayed, though most still think it will come in the second half of this year. And, you know, in past recessions when there's a quick and deep decline in the economy like we've experienced, there's usually a fast recovery as well.

But there's a lot skepticism that will happen this time because the financial system is so weak it can't provide adequate lending, the oxygen that an economy needs to grow.

NORRIS: John, that brings us to Citigroup, one of the most powerful financial companies in the world. The U.S. government already owns $52 billion worth of preferred shares in the company. Now, the Obama administration says the government will deepen its involvement by converting those shares to common stock. What does that change mean, and why are they making that change?

YDSTIE: Well, preferred shares - the ones the government bought initially -are little bit like a loan. And the government's purchase of them, as a way to bolster the capital of Citigroup and other banks, has been viewed skeptically by the markets because it's like the government was being tentative, not totally committed.

NORRIS: And just a point of clarification, how does common stock differ from these preferred shares?

YDSTIE: Well, if you have common stock, you're all in. If the bank fails, you stand to lose everything. If it succeeds, you do well. The government is willing to make this conversion because it does strengthen the bank's capital position. It's part of the Obama administration's new bank-rescue plan. And this conversion of $25 billion of its preferred Citigroup shares is the first case.

There's no new money going in. It's just a conversion of existing shares. Now, for outside investors, this might signal greater government commitment to keeping Citigroup viable. But if you currently own Citigroup common stock, the value of your holdings are diluted when the government converts its shares. In fact, the government is going to end up owning 36 percent of Citigroup's shares.

NORRIS: So, with this conversion, are we talking about nationalization?

YDSTIE: Well, along with common stock comes voting rights and more control of the company. In fact, the government is demanding as part of this deal that Citigroup overhaul its board of directors. So, I guess it's one level of nationalization, though the administration says it has no intention of long-term involvement in the banks or running them on a day-to-day basis.

NORRIS: Thank you, John.

YDSTIE: You're very welcome.

NORRIS: That's NPR economics correspondent John Ydstie.

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Economy Shrinks At Fastest Pace In 25 Years

The U.S. economy, locked solidly in reverse gear, posted a massive 6.2 percent contraction at the end of 2008 — its worst showing in a quarter century, the Commerce Department reported Friday. Economists had expected a 5.4 percent drop.

The gross domestic product for the last quarter of the year came in far worse than economists had estimated, underscoring the depth and severity of the recession that has seen consumer spending plummet by more than at any time in 28 years.

"It's significantly worse than what the consensus forecasts of economists have been," Bernard Baumohl, chief economists at the Economic Outlook Group, told NPR. "No one really has a clue when it comes to how severe this recession is."

GDP previously was reported down at a 3.8 percent pace in the fourth quarter. The latest numbers sandbagged gains earlier in 2008 and brought the full-year GDP growth estimate to just 1.1 percent, the slowest expansion since 2001, the Commerce Department said.

Virtually no sector of the economy was spared:

• Consumer spending, which accounts for more than two-thirds of domestic economic activity, dropped at a 4.3 percent rate, its biggest fall since 1980.

• Exports tumbled at a 23.6 percent annual rate, their steepest plunge since 1971. The figure was revised from the 19.7 percent drop estimated in last month's report.

• Inventories, after being estimated up a surprising $6.2 billion, were revised to show a $19.9 billion decline in the fourth quarter.

• Business investment fell at a 21.1 percent rate, the largest drop since 1975, hitting the equipment and software sectors as well as commercial construction.

Companies have been aggressively scaling and cutting workers, adding to a collapse in consumer spending, home values and the stock market. Sales of cars, furniture, appliances and clothes all were down sharply.

"The question at this point is are we looking at a 'lost decade' for the United States economy or are we in the final throes of a recession, the last convulsive stage of an economy that is ready to shake off the imbalances and begin a recovery," Baumohl said.

Economists predict consumers and businesses will keep cutting back in the first six months of 2009.

Unemployment, already at a 16-year high of 7.6 percent, is expected to reach nearly 9 percent by the end of the year, according to the Federal Reserve.

The Commerce Department report comes on the same day the government reached agreement with troubled Citigroup to expand federal rescue efforts for the banking giant by converting $25 billion worth of preferred Citi shares to common stock.

The move would give the government a 36 percent stake in the company, making taxpayers the largest shareholders. It is designed to give Citigroup the cash it needs to stay afloat.

From NPR staff and wire reports

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