As chief acolyte of the “hysteresis view”, I must protest!: Benoît Cœuré: Scars that never were? Potential output and slack after the crisis

As Chief Acolyte of the “hysteresis view”, I must protest! The very sharp Benoît Cœuré thinks “hysteresis” means that the sharp downward shock to the level of production in 2008-2010 has caused a permanent fall in the long-run growth rate. But that is not what we ever said: We said that not all of the sharp downward shock to the level of production in 2008-2010 would be made up, not even after decades. We are now one decade after the shock, and so far “not all” means “20%”—only one-fifth of the gap between production after the downward shock and the previous trend has been recouped. I hope and expect that 20% to grow over the next two decades. But it is not going to reach 100%: the “hysteresis view” has proved correct: Benoît Cœuré: Scars that never were? Potential output and slack after the crisis: “To be clear… I do believe that deep recessions can have effects on the supply capacity of the economy that may take some time to unwind…

…The crisis has affected the “intensive margin” of the euro area labour market… people working involuntarily in part-time or temporary positions. But it is not plausible that those effects could be as dramatic and long-lasting as the “hysteresis view” would suggest. Since these workers remained attached to the labour market, they represented a broader definition of slack rather than a new category of structurally unemployed workers…. Such people… had been scratched by the crisis, but not necessarily scarred. This is not to say that these scratches are not deep…. Current estimates of structural unemployment do indeed confirm that the initial revisions were exaggerating the impact the recession would have on labour force participation. And they might currently exaggerate the impact the current expansion might have on lowering structural unemployment…. In other words, it may well be that potential growth fell by less than we estimated during the depths of the crisis, and it is rising by less than we believe as the economy strengthens…. Both the sudden drop in estimated potential growth in 2009, and the sharp rebound thereafter, are likely to be statistical artefacts, at least to some extent….

I would argue that there are two, largely complementary, reasons for cautious optimism. Both are related to the fourth industrial revolution, or the digitisation and automation of our economies. The first… [is] the time it… takes for new technologies to reach critical mass. History suggests that technology usually takes considerable time…. It could be less of a concern that we are not yet seeing the effects of digitisation…. It may simply be a matter of time…. Second… transformation of business models along the lines of digitisation is typically more difficult in periods of weak demand…. This is different from hysteresis effects, where some observers argue that we are permanently entering a “1% economy” of low growth, low inflation and low neutral rates of interest as firms invest less in new capacity and technology, causing productivity growth to stabilise at lower levels and weak potential growth to become self-fulfilling…. Another scratch so to speak, not a scar…

April 26, 2018


Brad DeLong
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