Thinking

Was the Great Recession a Natural Calamity?

Tip of the hat to Adam Tooze for flagging Annie Lowry’s excellent round-up of the Great Recession’s impact on American society. After ‘the economy tipped into the deepest contraction of the post–World War II era’, Lowry writes, ‘the Great Recession’s scars remain’. The recession exacerbated troubling movements already underway: erosion of middle-skilled jobs, vertical polarization of the labor market, decline in labor market participation, economic insecurity, racial polarization, vertical polarization, regional polarization, and the opioid crisis. ‘A sicker, more unequal, more racially divided country: This is the legacy of the Great Recession.’ Her conclusions are worth quoting in full and bring the framing into sharp relief.

When the next recession comes the data on what to do about it will be there. Economists have pulled together plenty of studies of the dollar-for-dollar effectiveness of initiatives like extending unemployment insurance and increasing the size of the food-stamp programs, and the relative ineffectiveness of things like corporate tax cuts. Social scientists, social workers, and local officials have urged the importance of acting as quickly as possible to intervene, with efforts to stabilize financial markets, increase the deficit, and make monetary policy more accommodative. The country has now gone through three consecutive jobless recoveries, with downturns tending to amplify long-existing trend to hollow out the middle class, polarize the labor market, and hit already ailing regions hard. It seems likely that the next recession will do much the same.

The question is whether policymakers will take such evidence of the pain and scars left by the Great Recession into account. Congress is today on the verge of pushing forward a tax cut aimed at rich families and profitable corporations that will add more than a trillion dollars to the debt, with no real need for new economic stimulus at the moment. Meanwhile, it has declined to do much for the poorer families that are still feeling the worst effects of the last recession and have not yet recovered. The risk is that next time, they will get left even further behind.

In short, recessions are naturally-occurring calamities like hurricanes or earthquakes. The policy questions they raise are about the effectiveness of various measures to deal with them. Macroeconomic studies provide insights into the shock; microeconomic studies allow us to explore the impact of the shock on different markets and social groups. We have learned a lot since 2008 and these acquired knowledges should be brought to bear ‘the next time’. A rational policy framework must incorporate all these insights to fight the next one. This is not Lowry’s personal frame of reference. This is the dominant frame used by economists and laypeople to think about the Great Recession.

All frames are necessarily partial; they illuminate some aspects of reality and leave others in the dark. The recessions as natural calamities frame is especially problematic. For the scale and virulence of the Great Recession was not the result of a random draw; nor was it independent of economic policies pursued. The scale and virulence of the Great Recession was due above all to the unprecedented amplitude of the financial cycle. The recessions as natural calamities frame leaves out the most important policy lesson to be learned from the catastrophe: financial booms are extremely dangerous and must be tamped down vigorously. The principal policy failure did not occur in 2009-2010; it occurred in 2004-2006. Policymakers and regulators failed to appreciate the build-up of great financial imbalances. And that failure led directly to the catastrophe of the Great Recession.

US financial cycle

Source: Claudio Borio.

 

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