At Econbrowser David Papell and Ruxandra Prodan present an interesting analysis comparing the lengthy economic downturns of various countries over the last 80 years including financial crises, other economic downturns, developed countries, and developing countries. Their conclusion:
History does not always repeat itself, and we do not know the ultimate shape and duration of the Second Great Contraction. The overarching message of Reinhart and Rogoff (2009), however, is that the “this time is different†syndrome leads people to mistakenly believe that the current financial crisis will be different from past financial crises. Taking comparable historical experience as a guide, the Great Recession will not ultimately affect potential GDP, but the Great Slump is not yet half over.
Have no fear. There is bound to be a superabundant supply of explanations of how the rooster’s crowing caused the sun to rise.
A few years ago I read about a British intelligence analyst (don’t remember the name) who, upon retirement in the late 1940’s after a long career, quipped something to the effect of: “Every year I always predicted there would be no war. I was only wrong twice.”
“Taking comparable historical experience as a guide, the Great Recession will not ultimately affect potential GDP, but the Great Slump is not yet half over”
For whom!? Greece is likely to be an economic basket case for decades unless it defaults, and we know for a fact people entering the U.S. workforce during a recession generally never make up their lost income. The authors also appear unaware of decades-long systemic misallocation of capital in the American economy and its pernicious effects. But no, none of that will affect GDP.
Ben,
My take on that last sentence is that it wont have a lasting effect, but it can indeed have a short term effect. And keep in mind they are talking about potential GDP. If we engage bonehead policies actual GDP could be below potential for sometime (e.g. NIRA and the Great Depression). In regards to our chances of avoiding bonehead policies…not very good, IMO.
@Steve,
My problem with their take that potential GDP probably won’t be impacted is that tens of millions of people earning lower wages over a lifetime means that GDP growth will in fact be below potential. Any increase in GDP without an accompanying increase in wages means capital misallocation and lower aggregate demand, which means sub-par economic growth in the long-term.
It’s a bit coldblooded to discuss this so dispassionately but the question is lower GDP relative to what? As I read the article they’re analyzing GDP relative to prior trend while Ben Wolf is comparing it to potential GDP, presumably under circumstances of maximum economic activity.
This statement:
does not necessarily equate to GDP lower relative to previous trend. My own guess is that the trend is already lower than potential due to misallocation and it’s pretty hard to guess what it might be under other circumstances.
@Dave
The most sustainable economic growth occurs when wages rise in tandem with productive capacity, what some economists call the virtuous cycle. Workers spend their money, business make money and invest in new productivity, wages go up etc. Over the last thirty or so years however, wages and productivity have been decoupled as capital has been allocated to high profit but largely non-productive financial endeavors.
The difference in wages and productivity gains can be used as a measure for economic underperformance because the share of national income which actually goes to those wages is no longer sufficient to consume every good and service produced. This perverts the incentives in the system: if capital allocated to production is generating lower returns (as consumers have relatively less and less money to buy) then more and more of it gets shifted to speculation, which generates greater returns but is systemically dangerous due to the inherent risks.
@Dave
Reading your comment again, yes there’s reason to expect GDP may return to its pre-recession trend. But when we look at that trend against historical averages we see it has been weakening for over a decade, maybe more. That lost growth is what I think needs serious attention.