Measuring Business Cycles
Date: Mon, 14 Apr 2003 09:31:44 -0700
From: Bradford DeLong email@example.com
Subject: Measuring Business Cycles
Is the American economy still in a recession? It is clear to all that the U.S. economy reached a peak of economic activity--and the 1990s boom came to an end--in or around March of 2001, and that thereafter a recession began. But when did that recession end? In December 2001? Or is it still ongoing? The National Bureau of Economic Research [NBER], the semi-official arbiter and tracker of the U.S. business cycle, continues to stand mute about when and whether the recession came to its end.
The reason that the NBER and its Business Cycle Dating Committee stand mute is that recent economic and economic policy changes have opened up a crucial ambiguity that had always been implicit in the way the NBER thought about business cycles. Since the start of the Great Depression, it has almost always been very clear when a recession has come to an end: in the months after the end of a recession, industrial production has grown strongly, total sales have reversed their decline and started to rise, firms have stopped laying off and have started hiring people, and the unemployment rate has reversed its upward climb and started downward. All four of these changes in the trends of economic variables have happened at once, or, at most, within a very few months of each other. Thus it has not mattered exactly how one defines the end of a recession, or even whether one has a definition at all: to paraphrase the Supreme Court justice, I may not know how to define it, but I know it when I see it.
Recently, however, this rough-and-ready know-it-when-I-see-it way of operating has begun to prove inadequate. The first signs are visible, in retrospect, in the so-called "jobless recovery" of the early 1990s. Production and sales reached their troughs in March 1991, and thereafter began a clear recovery. The unemployment rate, however, kept rising. It rose by more than a full percentage point between the semi-official recession trough of March 1991 and the unemployment rate's peak at 7.6% in June of 1992. From the standpoint of what I at least think is the most important business-cycle indicator--workers' justified anxiety about losing and the difficulty of finding a replacement job--the worst cyclical moment for the American economy came a full fifteen months after the recession's semi-formal end.
And things are worse this time. As measured by trends in production, the recession that began in March 2001 was one of the shortest and shallowest ever: over in less than nine months, and amounting to an extremely small decline in domestic product. As measured by sales, the same is true. But, as Jared Bernstein at the Washington D.C.-based Economic Policy Institute has pointed out, as measured by employment this is one of the worst recessions if not the worst recession since the Great Depression itself: 2.1 million fewer people are at work in the U.S. economy today than at the business-cycle peak two years ago. Figure on normal growth of the labor force, and the shortfall of employment today relative to what it would have been had the boom maintained its pace amounts to 4.7 million jobs.
So why the breakdown of the old business-cycle standards? A first reason is that America's central bank, the Federal Reserve, has acted differently in the past decade and a half. Most earlier recessions were not totally undesired by the Federal Reserve: higher unemployment brought with it a welcome reduction in inflation that had or that was threatening to exceed the Federal Reserve's level of comfort. Most earlier recessions came to an end when the Federal Reserve changed its collective mind, concluded that inflation was no longer a threat, and shifted their primary short-term task from reducing inflation to boosting production. Recessions came to an end when the Federal Reserve lowered interest rates to step on the gas pedal--and this easy-money acceleration caused all business cycle indicators, production, sales, employment, and the unemployment rate, to have the same turning point.
A second reason is that for much of the not-so-recent past--from roughly 1970 to roughly 1995--the underlying trend of productivity growth was relatively slow. With slow trend productivity growth, it is extremely unlikely that you will find yourself in a situation in which production is rising and employment is falling: there is simply not enough of a labor productivity-growth wedge between those two series for such to be the case. Since 1995 or so, however, the productivity growth trend underlying the American economy has been quite rapid: not 0.7% per year of trend productivity growth, but 2% or 3% or perhaps even more. And so far there is every sign that rapid underlying potential productivity growth persists.
Thus the NBER Business Cycle Dating Committee's current dilemma. This time there was no sudden, sharp turnaround in Federal Reserve policy to give all macroeconomic business cycle indicators the same turning point. This time rapid underlying productivity growth means that a respectable if subnormal recovery in terms of output growth is associated with falling employment and a rising unemployment rate. If we are to continue to use the word "recession," we finally have to decide exactly what one is. Is a recession a period of falling production alone? Or is a recession a period in which the labor market the typical worker faces becomes worse? On the answer to that question hinges the answer to whether the American economy is still in recession.
But perhaps the most important thing to recognize is not that the U.S. economy is or is not in recession, but that the old categories simply do not fit. The U.S. is still in an employment recession--but in the past employment recessions were also accompanied by falling output, which is not the case. The U.S. is in a production recovery--but in the past (save for 1991-1992) production recoveries were also accompanied by improving labor markets, which is not the case. Changes in economic policy and in the underlying productivity trend have created a situation in which neither "recession" not "expansion" as they were used in the second half of the twentieth century adequately describes the current situation. And that, I think, is the most important thing to grasp about America's current phase of the business cycle.Posted by DeLong at April 15, 2003 04:36 PM | TrackBack