Those still nursing tender bruises from the Crash aren’t going to like this idea but Dan Davies is interestingly correct here – we’ve not had a proper recession for ages. Decades in fact. Because we’ve not had a recession that is simply a turn of the business cycle, we’ve had a series of disasters which we’ve attempted to cure. Davies’ point is that we’re not prepared for the coming recession, which will be a normal one, simply because we’ve got out of the habit of dealing with normal recessions. There’s an interesting implication of this though:
If we look back in time, we’re currently in the (surprisingly weak and slow) recovery process from a financial market meltdown in 2008 caused by the global real estate bubble. That bubble was itself basically caused by the interest rate policy response to the early 2000s recession associated with the dotcom and telecom bubbles. And it’s certainly possible to argue that a contributor to that telecom debt bubble was the “global savings glut” brought about by the late 1990s Asian and Russian financial crises. There’s a strong sense in which the world never completed the 1994-5 business cycle, having been interrupted in doing so by successive “committees to save the world”.
We’ve been living a sort of Groundhog Day existence ever since, constantly waking up to news of a financial crisis and trying over and over again to lower interest rates in just the right way to fix it. But financial meltdowns aren’t the usual way in which recessions happen, and emergency credit lines and taxpayer bailouts aren’t the usual way that they’re prevented or managed. What normally happens is that there’s a shock of some sort to business confidence – say, political uncertainty or trade restrictions, as we’re seeing at the moment – and companies react to this by cutting back investment plans. Lower investment means lower overall demand in the economy, which justifies the original lack of confidence and triggers another round of belt-tightening, which also turns into a self-fulfilling prophecy. Things only come to an end either when there’s nothing more to cut and capital expenditure can’t be delayed any more, or (more hopefully) when the government realises that it has to make up the shortfall with deficit spending.
As a pencil sketch – all you can do in a single article – that’s rather good. So, fine, let’s run with that. We’ve not had a normal recession for ages, one will come along soon enough and we’ve forgotten how to deal with it.
However, we can take this idea a little further too. Off into the wild spaces of Austrian theory. There a recession happens because of the built up malinvestment across the economy. Essentially, when it’s too easy to finance stuff then too much bad stuff gets financed. We need the regular recession to flick off the froth and get back to a more sensible allocation of capital.
My own view is that there is no one correct macroeconomic theory but that all of them contain elements of the truth. The trick is to work out which theory to apply to which happenstance. Reorganising the Soviet economy wasn’t going to be done by a bit of Keynesian demand management, there was a century of misallocation to chew through. Getting out of 2008 was different because it was the financial system that had fallen over, we didn’t just have that cyclical decline in business investment. Etc. Austrians can – perish the thought, eh? – be a little too fervent in the insistence that all recessions are about misallocation that must be purged.
But note the underlying thing we can pick up from Davies here. We’ve been staving off that normal recession for decades through that management. Perhaps it’s not all that good an idea to continually do that? He really does say that the Crash stemmed from those attempts to stave off after all. Thus, in a sense, we could argue that we’re going to get the recessionary horrors come what may. Even Keynesian demand management might not be the correct solution if it just gives us once in a generation collapses rather than more regular downturns?
That is, perhaps the Austrians are at least in part right? We need the regular purges for fear of something worse?