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Monday, September 20, 2010

Shiller: Seven More Years of Hard Times?

Are we headed for many years of stagnation, or is this time different?:

Seven More Years of Hard Times?, by Robert J. Shiller, Commentary, Project Syndicate: Much of the talk emerging from the August 2010 Jackson Hole Economic Symposium ... has been about a paper..., “After the Fall,”... by ... Carmen Reinhart and Vincent Reinhart. ...
According to the Reinharts’ paper, when compared to the decade that precedes financial crises like the one that started three years ago, “GDP growth and housing prices are significantly lower and unemployment higher” in the subsequent “ten-year window.” Thus, one might infer that we face another seven years or so of bad times. ...
The research ... found ... that median annual growth rates of real per capita GDP for advanced countries were one percentage point lower in the decade following a crisis, while median unemployment rates were five percentage points higher.
How did this happen? They note that, in general, debt levels and leverage rose during the decade preceding these crises, propelling increases in asset prices for a long time. Reinhart and Rogoff describe a “this time is different syndrome” during the pre-crisis boom, whereby these bubbles are allowed to continue for far too long, because people think that past episodes are irrelevant.
There seems to be the germ of a new economic theory in the work of the Reinharts and Rogoff, but it remains ill defined. It seems to have a behavioral-economics component, since the “this time is different syndrome” seems psychological rather than rational. But it is still not so sharp a theory that we can really rely on it for making confident forecasts.
Moreover, there are reasons to suggest that this time really might be different. I hate to say so, not wanting to commit the sin defined by their “syndrome,” but this time might be different because all of the modern examples of past crises came during a time when many economists worldwide were extolling the virtues of the “rational expectations” model of the economy. This model suggested that a market economy should be left alone as much as possible, so that is what governments tended to do. ...
But that mindset is waning, and government and business leaders now routinely warn of bubbles and adopt policies to counter them. So, this time really is at least a little different.
In that case perhaps all of those crisis-induced bad decades are no longer relevant. But any such hopes that the aftermath of the current crisis will turn out better are still in the category of thoughts, theories, and dreams, not science.
It is not true that if you break a mirror, you will have seven years’ bad luck. That is a superstition. But if you allow a financial market to spin wildly until it breaks down, it really does seem that you run the risk of years of economic malaise. That is a historical pattern.

Policymakers seemed resigned to the "nothing we can do about the stagnant recovery" outcome, but why not at least try for a different outcome? Policymakers need to stop sitting on their hands, recognize the danger of extended stagnation, and avoid the mistakes of the past by taking take action now. But don't bet the house -- if you still have one -- on that happening.

Update: I feel like a broken record on the call for more help for labor markets, but as I said back in April when I announced I'd given up any hope that policymakers would do anything more:

I'll still complain -- there's no reason to let policymakers off the hook -- but it's time to give up the hope that anything more will be done to help the unemployed find jobs.

Every once in awhile I can't help but get my hopes up again, e.g. the Fed is making noises it might do more after it's meeting this week, only to be disappointed when nothing comes of it. I should know better by now.

    Posted by on Monday, September 20, 2010 at 03:39 PM in Economics, Financial System | Permalink  Comments (73)


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