I want to draw your attention to this post by Eli Dourado. In the post Mr. Dourado makes the point, too frequently neglected, that the operative timeframe for short term solutions is the short term and we’re not in the short term any more:
The case for stimulus is based in monetary non-neutrality. If we double the money supply, the real productive capacity of the economy does not increase—real productive capacity has nothing to do with monetary factors. However, because people are tricked, and because some wages, prices, and contracts don’t adjust instantaneously, output may go up briefly. Business owners see an increase in nominal demand for their products and mistakenly assume that it is an increase in real demand. They see this as a profit opportunity, so they expand production. As prices, wages, and contracts adjust to the new money supply and their assumption is revealed to be false, they cut back on production to where they were before.
If we view the recession as a purely nominal shock, then monetary stimulus only does any good during the period in which the economy is adjusting to the shock. At some point during a recession, people’s expectations about nominal flows get updated, and prices, wages, and contracts adjust. After this point, monetary stimulus doesn’t help.
He cites three different areas as evidence that the short term window has passed: corporate profits, duration of unemployment, and household debt service payments as a percentage of disposable income. I’ve seen links to this post in a half dozen different places in the econblogosphere lately and I think it’s worth a glance.
Mr. Dourado reproduces graphs from the St. Louis Federal Reserve in support of his observations. I’ll use those as the point of departure for my comments, more riffing on his post than a critique. Rather than considering the timeframe 1997 to present, the timeframe Mr. Dourado elects for his graphs, I’m going to open them up to the full duration supported in each case.
The graph illustrates after-tax corporate profits adjusted for inventory from 1948 to the present. I actually see two different curves. There’s one curve, increasing exponentially presumably with inflation, from 1948 to about 1990. After 1990 it’s off to the races with a brief decline during the recent recession.
I can only attribute that to automation indirectly. What I really think it reflects is the impact that just-in-time inventory systems have had on the return to capital. JIT systems preceded the Internet period (which I’d suggest is about 1996 to the present) and enabled companies to stock considerably less inventory. They’ve really taken hold during the Internet period. It’s truly amazing how “transshipping” has grown. Transshipping is when the end customer places the order with a retailer, the retailer places an order with a wholesaler, the wholesaler places the order with the manufacturer, and the product is produced and shipped directly to the customer by the manufacturer (or some variant of that scenario). Little or no stocking of inventories. Amazon.com is a combination transshipper and retailers service company.
I suspect that some other factors, like China’s pegging the yuan to the dollar and changing policies with respect to the taxing of capital gains, may also be operative. But I don’t see a continuous transition in operation with the present just a continuation of past trends. Something really changed in the 90s and only accelerated in the Aughts.
This graph illustrates the mean duration of unemployment from 1948 to the present. In this graph I do see the present continuing the past trend: peak mean duration of unemployment, subsequent to economic downturns, has been increasing as has been the trough mean duration of unemployment, which has occurred just before the start of a downturn. Yes, the data is a bit noisy. But I think there’s a persistent trend going back sixty years.
The greatest anomaly represented is the present. Even assuming that peak mean duration of unemployment has increased exponentially over time today’s duration of unemployment seems very long to me. Something else must be happening.
This graph illustrates household debt service payments as a percent of disposable personal income. I think I see a long term trend here, too: people take on more debt during booms and pay it down during busts. However, here, too, the period of the Aughts is an anomaly. There was no paying down of debt following the downturn of the early Aughts, only an acceleration.
I conclude with two observations. First, I think that focusing too closely on the period 1997 to the present is an error. It assumes that the early part of that period was normal while the later part of the period has not been. I would need a lot more evidence to support that supposition. Quite to the contrary I think that 1997 to 2006 is a great departure from the past while the last five years more closely resembles a return to trend.
Second, Great Moderation my Aunt Fanny. Grand Illusion, more likely.