Michael Bordo and Joseph Haubrich claim just the opposite:
There’s a belief among policy makers that serious recessions associated with financial crises are necessarily followed by slow recoveries—like the one we’ve experienced since mid-2009. But this widespread belief is mistaken. To the contrary, U.S. business cycles going back more than a century show that deep recessions accompanied by financial crises are almost always followed by rapid recoveries.
The mistaken view comes largely from the 2009 book “This Time Is Different,” by economists Carmen Reinhart and Kenneth Rogoff, and other studies based on the experience of several countries in recent decades. The problem with these studies is that they lump together countries with diverse institutions, financial structures and economic policies. They also conflate two different measures of speed—how long it takes a country to get back to its previous business-cycle peak, and how fast the economy grows once the recovery has started.
Milton Friedman had a different way of looking at recoveries from cyclical downturns: the “plucking” model. Friedman imagined the U.S. economy as a string attached to an upward sloping board, with the board representing the underlying long-run growth rate. A recession, in this view, was a downward pluck on the string; the recovery was when the string snapped back. The greater the pluck, the faster the bounce back to trend.
As Friedman wrote in 1964, “A large contraction in output tends to be followed on the average by a large business expansion; a mild contraction, by a mild expansion.”
In a recent working paper for the National Bureau of Economic Research, Joseph Haubrich of the Federal Reserve Bank of Cleveland and I examined U.S. business cycles from 1880 to the present. Our study not only confirms Friedman’s plucking model but also shows that deep recessions associated with financial crises recover at a faster pace than deep recessions without them.
We measured the depth of a contraction by the percentage drop in quarterly real gross domestic product from peak to trough. We measured the strength of the recovery in several ways: first as the percentage change in quarterly GDP in the first four quarters after the trough, then also looking further into the expansion. So, for example, since the 1920 recession lasted six quarters, we looked six quarters into the subsequent expansion.
We found that recessions that were tied to financial crises and were 1% deeper than average have historically led to growth that is 1.5% stronger than average. This pattern holds even when we account for various measures of financial stress, such as the quality spread between safe U.S. Treasury bonds and BAA corporate bonds and bank loans.
By contrast, the Reinhart/Rogoff analysis focuses on how long it takes the economy to return to its precrisis output level. Since contractions related to financial crises are generally deeper and longer than other recessions, they are followed by recoveries that take longer than normal to see output return: Since 1887, the growth of real GDP over both the recession and the recovery was 1.2% in recessions with financial crises and 2.2% in those without.
But that says little about how fast the economy grows once the recovery starts. As we found, since the 1880s, the average annual growth rate of real GDP during recoveries from financial-crisis recessions was 8%, while the growth rate from nonfinancial-crisis recessions was 6.9%.
Two cases underlying the averages were the financial-crisis recession of 1907-08 (which led to the founding of the Federal Reserve) and the infamous nonfinancial-crisis recession of 1937-38. In 1907-08, the recession drop in GDP was 12% and the recovery was 13%—perfectly consistent with Friedman’s plucking model. In 1937-38 the drop was 13% and the recovery 7%.
Thus the slow recovery that we are experiencing from the recession that ended in July 2009 is an exception to the historical pattern.
H. M. Stuart
Alexandria
Should have known it was from the WSJ editorial page.
1) Most recessions from 1880 to the present were not caused by international banking crises. When you look at rue international banking crises, going back further as was done by R and R, they are longer.
2) When you look at debt driven financial crises, they are much longer and deeper. Private debt levels hit record levels with this recession, as they did before the Great Depression.
3) Prior recoveries have been getting weaker. The reasons are many and not all understood, but I suspect building debt will eventually found to be implicated pretty heavily.
4) The authors seem to be in the debt does not matter crowd.
Steve
Should have known it was from the WSJ editorial page.
My good Steve,
No one misunderstands or doubts the manner in which partsanship directs your emotional understanding of the world. However, to say “it was from the WSJ editorial page” prefaces your comments which follow with a basic misrepresentation which should be corrected.
The article was not written by the Wall Street Journal editoriual staff as you seek to imply. Rather, its authors are
Michael Bordo, who
and
Joseph Haubrich, who
In addition, Googling “critique Rogoff Reinhart” brings us a plethora of other criticisms of Rogoff and Reinhart’s methodologies, one pervasive one being that U.S. recessions and recoveries ultimately cannot be usefully evaluated by reference to other nations with much different laws, economies, and monetary systems, particularly with respect to evaluating U.S. political policy responses to such U.S. recessions and recoveries.
H. M. Stuart
Alexandria
As I remember correctly, the left-wing guys that you promoted had to go all the way to the Dark Ages to prove their conclusion, while more objective guys quoted by WSJ looked exclusively at the US, which made their comparison much more useful.
“When you look at debt driven financial crises, they are much longer and deeper.”
Actually, no, they are not, as Bordo and Haubrich conclusively proved.
Nope. You didnt read it. The 1907 crisis was not debt driven. If you stop and think about it for just a little bit, it makes sense that a liquidity driven crisis should have a fairly quick recovery.
Objective and WSJ in the same sentence? Russian humor?
Steve
Wait a second, Steve, are you trying to deny that WSJ is the most objective newspaper in US?
Its business section is still ok. Its editorial page is just another Murdoch production.
Steve
“Its editorial page is just another Murdoch production.”
And? You say like it somehow proves something. The entire NYT is Pinch production – and it is far more biased. Washington comPost openly admits that even its news pages have practically no conservatives. My point is – WSJ is the most objective newspaper. I don’t like liberal cultish hatred of Murdoch – it’s immature.
1) Reinhart and Rogoff have nifty credentials also.
2) Yes, there is a cottage industry devoted to proving they are wrong, largely driven by partisan affiliation. When you drill down into their claims, they are never comparing apples to apples. They generally fail to explain why there is good correlation across nearly all countries on the severity and length of recovery for all nations after a real, debt ridden financial crisis, but why that should not apply to the US. However, if you want to limit comparisons to within the US, then only the Great Depression really applies.
3) It is interesting that many of the same people worrying over our current public debt levels ignore private and corporate debt. We hit record levels of private debt before this crisis, just as we did before the Depression. Our economy has been financed by credit since about 1980. A rapid recovery presumes a rapid increase, again, in credit usage. I wish these people would defend the presumption that there is no limit to the levels of private and corporate debt we can sustain.
4) There was already instability in the markets before they tried to corner the copper market in 1907. The SF earthquake had been a drain on national liquidity (gold standard). At any rate, I find it a bit difficult to compare a liquidity driven crisis to the Depression or our current crisis where banks had liquidity issues coupled with massive amounts of real debt and actual insolvency. In the first case, stop the bank runs and you expect recovery. In the second case, stop the bank runs, and you still have insolvent banks, plus consumers who are left with record levels of debt, unlike the 1907 panic.
Steve
I am not an economist nor have I ever studied that particular discipline beyond some basic courses during a Masters in Systems Management. That said, there are a couple graphs that I find interesting:
http://www.google.com/publicdata/explore?ds=d5bncppjof8f9_&met_y=ny_gdp_mktp_cd&idim=country:USA&dl=en&hl=en&q=us+gdp This is a graph of US GDP from 1960 to present. The slope is virtually always up with an increasing slope until 2007-8 when it dropped and then began upward again although at a lower point. By 2010, the GDP exceeded the GDP of 2008.
http://seekingalpha.com/instablog/428250-michael-clark/591021-it-s-private-debt-not-public-debt-that-got-us-into-this-mess This one graphs out private and public debt from 1920 to 2011. The crushing load of private (i.e., you and me) as a percentage of GDP seems to me to be unsustainable. If, by some miracle, US citizens have finally decided to control their private debt and cut it back to sustainable levels, the economic doldrums are likely to continue for some time as demand will remain somewhat compromised. After all, we cannot at this point live in excess of our income by borrowing against our inflated home equity. Given the economy problems in most of the remainder of the world, our manufacturers cannot look overseas for demand to meet their supply capabilities.
We are left with a seemingly tired economy. GDP has recovered. Private employed job growth has been fair (overall joblessness remains high because public employment has decreased significantly), spending is fair to less than fair, investment has recovered fairly well despite recurrent speculations by “experts” that the equities market will soon collapse worse than ever, and the housing market appears to be recovering to some extent (at least in the last few months). For my part, I am happy to read the speculations by the economists but hope that the government will resist the temptation to “fix things.” At this point, a gradual recovery and return to more supportable debt load appears preferable to once again stoking up the furnace of debt based consumption.
I searched for “causes of recessions”. The first for links all had different causes for recessions in general and two or three for this one in particular. The one that makes the most sense to me goes along with your private/public debt chart.
The finance guys I listen to on the radio called this recession a debt recession as opposed to an inventory recession. An inventory recession is caused by over production, more products that the market demands. Thus, workers are laid off, lose jobs or work less hours because too few of the products and services they provide are being bought. Once inventory goes below a certain level, the economy begins firing up again to meet the demand for products.
In a debt recession, people don’t spend money because they’re tapped out. They’ve been borrowing and living on credit, but they’re maxed out and have to save and spend as little as possible until their debt is lowered to some acceptable level. This is more difficult and takes longer than buying up inventory.
When I posted this, I was simply looking for a couple graphs on debt and GDP. Since it is Saturday and I have less to do than usual, I just now went back and actually read the second article (seekingalpha.com). I recommend this piece. It dissects the impact of public versus private debt but then goes on to discuss the potential impact of public assumption of private debt as is now occurring. Finally, there is an excellent discussion of the place of government regulation of corporate activities. This paragraph,
“I am not suggesting that government debt is not a problem. I’m reminding the reader where this crisis began: with the DEREGULATION of Big Business. The proper role of Big Business is to pursue profits; and the proper role for Big Government is to regulate (provide laws and police powers to enforce these laws) Big Business. Where there are no laws — DEREGULATION — there will be only criminals, at least until we all pass into the Spiritual Kingdom in which selfishness and greed are no longer human problems.” is especially thought provoking.