What, Theoretically, Is a “Recession”? (Early) Monday Focus for September 15, 2014

Nick Rowe produces an explanation of his point of view with which I have only linguistic quibbles:

**Nick Rowe: What’s special about monetary coordination failures?: “This is a response to Brad DeLong’s and David Glasner’s good posts…

…[that] forced me to think…. Apples and bananas are perishable, but gold lasts forever. One apple tree produces 100 apples per year, regardless. One banana tree produces 100 bananas per year, regardless. Trees cannot be produced. Gold cannot be produced. Gold is the medium of account. Apples and bananas are priced in gold. Those prices may be sticky…. There are two parallel economies… a barter economy… a monetary exchange economy….

I am now going to hit both economies with some shocks. 1. Increased demand for gold (g increases), holding prices fixed…. In the barter economy, absolutely nothing happens to the allocation of resources…. There is an excess demand for gold and an excess supply of apples in the apple/gold market. There is an excess demand for gold and an excess supply of bananas in the banana/gold market. But that affects nothing. Agents want to buy gold with apples and bananas, but they can’t…. In the monetary economy there is a recession…. There is an excess demand for gold and an excess supply of apples in the apple/gold market. There is an excess demand for gold and an excess supply of bananas in the banana/gold market. And that affects everything…. Sales of apples and bananas fall until the stock of gold is willingly held…. 2. A switch in demand from apples to bananas… holding prices fixed. In both barter and monetary economies, we get exactly the same result. Banana producers can sell as many bananas as they want, and buy as many apples as they want. Apple producers will be unable to sell as many apples as they want, and unable to buy as many bananas as they want…. 3. An increased demand for fruit trees relative to current consumption of apples and bananas (r falls)…. In the monetary economy, there is a recession. The price of fruit trees rises…. This lowers the rate of return on owning a fruit tree, and this lowers the opportunity cost of holding gold, which increases the demand for gold. It’s exactly the same as… my first case…. In the barter economy, nothing happens to the allocation of resources….

For the second shock… monetary coordination failures play no role in this sort of ‘recession’. But would we call that a “recession”?… There is an excess demand for bananas. For both the first and third shocks, we get a reduction in the volume of trade in a monetary economy, and none in the barter economy. Monetary coordination failures play a decisive role in these sorts of recessions, even though the third shock that caused the recession was… simply an increased demand for fruit trees because agents became more patient. And these sorts of recessions do look like recessions, because there is an excess supply of both apples and bananas…. I think this is all in Benassy, somewhere…. If you said ‘this is all ISLM, only ISLM with and without barter’, you would be basically right…

In my lifetime, I have seen people claim that recessions have been caused by:

1. A decrease (relative to expectations) in the supply of liquid cash money.

2. An increase in the desire to hold liquid cash money.

3. An increase in desired holdings of long-term savings vehicles to transfer wealth from the present into the future

4. An increase in the desire to hold assets that are safe stores of nominal value in the short run–the flip side of a desire to deleverage.

5. A recognition that previous expectations that roundabout methods of production were not as profitable as had been believed, and a consequent increase in the demand for more direct relative to more roundabout methods of production.

6. A belief that the Kenyan Muslim Socialist is about to make owning capital and engaging in enterprise unprofitable.

7. A belief that the Kenyan Muslim Socialist is about to alter incentives to make taking a Great Vacation extremely attractive.

8. A sudden forgetting of the most productive methods of transforming factors of production into useful commodities.

9. A sudden recognition that the supply of a key factor of production will be significantly lower than had been anticipated and that we need to massively shift resources to sectors that use that factor less intensively.

10. A sudden fall in the perceived value of the productive skills possessed by a substantial part of the labor force.

Now my (1) and (2) are Nick Rowe’s (1), and my (3) and (4) are Nick Rowe’s (3). But my Bagehot-Minsky-Kindleberger (4) is not really in IS-LM. And Hayekians say–vociferously and angrily–that (5) is not (3), that their recessions are not simply adverse Keynesian IS-shocks. And there are (6) through (10)…

Presumably Nick would say that (6) through (10) are all versions of his (2), and that people should not call them “recessions” because in each case there is not a general glut but rather the flip-side of an excess supply of (most) currently-produced goods and services is an excess demand–for leisure by entrepreneurs, for leisure by workers, for leisure by everybody, for capital that uses the now-scarce factor efficiently, or for leisure by the now structurally-unemployed workers.

Now it seems to me that Nick and I could make two kinds of arguments against those who claim that (5) through (10) are important.

Our first set of arguments is that they have valid boxes, but that these analytical boxes are empty: that it is possible to envision a recession along their lines, but when you dig deeper you find that in the real world the real macroeconomically-significant market failure that caused the decline in aggregate output relative to potential was some version of my (1) through (4) and his (1) and (2).

Our second set of arguments is that whether or not their boxes are empty in the empirical world, their boxes are not analytically macroeconomic ones–that they need to go find some other name than “recession” to describe what they think the result of their problem is.

I suspect that the first set of arguments is the better one to make–the second set smells a little too much to me like linguistic quibbling, and presupposes a bright line that may be hard to maintain if we ever shift from a pure fiat money system back to a system in which liquid cash requires costly resources to produce and can be produced (i.e., gold standard, silver standard, BitCoin mining).