By Samuel Brittan
Published: March 12 2009 14:46 | Last updated: March 12 2009 14:46
As can be imagined, international economic organisations, whatever else they do or do not do, spawn vast numbers of research papers. Most of them are worthy but of limited interest, a hypothetical example being "Forward Markets and Cash Crops in Ruritania". But occasionally something of real interest arrives. A recent example is an International Monetary Fund working paper entitled "What Happens During Recessions, Crunches and Busts?"* Although there is no such thing as "letting the figures speak for themselves", this paper is relatively theory-light.
Specifically it asks the question: "Are recessions associated with credit crunches and asset price busts different from other recessions?" The authors have examined 122 recessions in 21 Organisation for Economic Co-operation and Development countries over the period 1960-2007. This approach has the apparent defect of treating economies such as Portugal's as being as important as that of the US. But it has the advantage of providing more cases to examine. Moreover, international business cycles are sufficiently synchronised to prevent the study from being overwhelmed by the idiosyncrasies of a few countries.
The authors find that the typical recession in the period lasted four quarters and led to an output loss of 2 per cent of gross domestic product. One out of six recessions was associated with a credit crunch, one in four with a house price bust and one in three with an equity crash. Recessions associated with such financial stresses result in average output losses two or three times greater than other recessions.
Although financially generated recessions last only three months longer than other recessions, there is often a lag between the financial events themselves and the associated recessions. A typical credit crunch lasts 2½ years and is associated with a 20 per cent decline in credit. An equity price crash lasts for about the same time, but is associated with a drop of about half in the value of equities. Housing busts last even longer, namely 4½ years, and bring with them a 30 per cent fall in real house prices. The most robust of the relationships is between house price falls and the depth of recessions. Despite the volatility of equity prices their relation to the real economy is more uncertain. Paul Samuelson has quipped that the stock market has forecast eight of the past five recessions.
There is, however, worse to come. Recessions associated with oil price shocks bring with them a drop in output 0.8 percentage points greater than in other recessions. Although oil prices of about $45 a barrel are now regarded as very low, in the first half of 2008, when the recession was gathering force, they reached heights of about $135 compared with less than $20 at the end of the 1990s.
Taken by themselves the results of the IMF study are gloomy rather than catastrophic. Their results do not claim to represent more than average experience. In any case we are not doomed to repeat the past exactly. The 19th-century philosopher Hegel said that the only lesson of history is that "peoples and governments have never learnt anything from history, or acted on principles deduced from it." His disciple Karl Marx, who seems to be back in fashion, said that history does repeat itself - first as tragedy, then as farce. Nevertheless, history is all we have to go on.
This encourages me to ventilate the view that, "The recession will be over sooner than you think", to quote the title of an article in CentrePiece by two US academics, Nick Bloom and Max Floetotto. The bit of history they emphasise is that of uncertainty exhibited in the equity market, measured by the implied volatility of the S&P100, apparently known as the "financial fear factor". This reached an all-time peak at the time of Lehman Brothers' collapse last September but has since fallen back by 50 per cent, and "other measures of uncertainty have also fallen".
The authors predict that US GDP will start to rebound from the autumn of this year. The indicators used by these economists may seem a flimsy basis from which to base such forecasts. But no more so than the more heavyweight multi-equation models that have let us down so badly at crucial moments. My own intuition suggests that the US will start to recover before other big economies partly because of national "can do" attitudes, especially under the Obama administration.
In any case the US is admirably free of concerns about budget and balance of payments deficits and Federal Reserve "printing of money". Whether these attitudes are a matter of hard conviction or merely reflect a feeling that the US is better placed to flout orthodoxy than other countries is neither here nor there.
The most encouraging thing I have read was the interview in the Financial Times this week with Lawrence Summers, economic counsellor to Barack Obama, who called for a short-term demand stimulus by governments. He added that the old global imbalance agenda of "more demand in China, less demand in America" should be shelved. "There is no place that should be reducing its contribution to demand right now." Amen.
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