Tag: Business Cycles

Must-Read: Atif R. Mian, Amir Sufi, and Emil Verner: Household Debt and Business Cycles Worldwide

Posted on by Brad DeLong

Must-Read: Atif R. Mian, Amir Sufi, and Emil Verner: Household Debt and Business Cycles Worldwide: “An increase in the household debt to GDP ratio in the medium run…

…predicts lower subsequent GDP growth, higher unemployment, and negative growth forecasting errors in a panel of 30 countries from 1960 to 2012…. Low mortgage spreads predict an increase in the household debt to GDP ratio and a decline in subsequent GDP growth when used as an instrument. The negative relation between the change in household debt to GDP and subsequent output growth is stronger for countries that face stricter monetary policy constraints as measured by a less flexible exchange rate regime, proximity to the zero lower bound, or more external borrowing. A rise in the household debt to GDP ratio is contemporaneously associated with a consumption boom followed by a reversal in the trade deficit as imports collapse. We also uncover a global household debt cycle that partly predicts the severity of the global growth slowdown after 2007. Countries with a household debt cycle more correlated with the global household debt cycle experience a sharper decline in growth after an increase in domestic household debt.

Must-Read: Cardiff Garcia: Alan Taylor on financialisation, business cycles, and crises

Posted on by Brad DeLong

Must-Read: Cardiff Garcia: Alphachat: Alan Taylor on financialisation, business cycles, and crises: “With collaborators Oscar Jorda and Moritz Schularick, the authors summarise their decades-long work on financialisation, which we discussed with Alan…

…From the paper:

Our previous research uncovered a key stylized fact of modern macroeconomic history: the “financial hockey stick.” The ratio of aggregate private credit to income in advanced economies has surged to unprecedented levels over the second half of the 20th century. The goal of this paper is to show that with this “great leveraging” key business cycle moments have become increasingly correlated with financial variables. Our long-run data show that business cycles in high-debt economies may not be especially volatile, but are more negatively skewed. Higher debt goes hand in hand with worse tail events.

A great deal of modern macroeconomic thought has relied on the small sample of US post-WW2 experience to formulate, calibrate, and test models of the business cycle, to calculate the welfare costs of fluctuations, and to analyze the benefits of stabilization policies. Yet the historical macroeconomic cross country experience is richer. An important contribution of this paper is to introduce a new comprehensive macro-financial historical database covering 17 advanced economies over the last 150 years. This considerable data collection effort that has occupied the better part of a decade, and involved a small army of research assistants.

Must-read: Paul Krugman: “Robber Baron Recessions”

Posted on by Brad DeLong

Must-Read: But… but… but…

Is this the wrong graph somehow?:

FRED Graph FRED St Louis Fed

Yes, investment spending is weak relative to its past business-cycle peak values. But all of the relative weakness is in residential construction:

FRED Graph FRED St Louis Fed

You can say that business investment should be even stronger–high profits, high profit margins, depressed wage costs mean that capital’s complement labor is cheap, very low financing costs (if you can borrow risk-free). But business investment is also a function of capacity utilization, and you would not expect it to be high in a low-pressure economy, especially one in which confidence is low that the trend growth of nominal GDP will be sustained.

Why is this the wrong graph?

Paul Krugman: Robber Baron Recessions: “Profits are at near-record highs…

…thanks to a substantial decline in the percentage of G.D.P. going to workers. You might think that these high profits imply high rates of return to investment. But corporations themselves clearly don’t see it that way: their investment in plant, equipment, and technology (as opposed to mergers and acquisitions) hasn’t taken off, even though they can raise money, whether by issuing bonds or by selling stocks, more cheaply than ever before….

Suppose that those high corporate profits don’t represent returns on investment, but instead mainly reflect growing monopoly power… [with] corporations… able to milk their businesses for cash, but with little reason to spend money on expanding capacity or improving service… an economy with high profits but low investment, even in the face of very low interest rates and high stock prices.

And such an economy wouldn’t just be one in which workers don’t share the benefits of rising productivity; it would also tend to have trouble achieving or sustaining full employment. Why? Because when investment is weak despite low interest rates, the Federal Reserve will too often find its efforts to fight recessions coming up short. So lack of competition can contribute to ‘secular stagnation’ — that awkwardly-named but serious condition…. If that sounds to you like the story of the U.S. economy since the 1990s, join the club.

Must-read: Charles Steindel (2009): “Implications of the Financial Crisis for Potential Growth: Past, Present, and Future”

Posted on by Brad DeLong

Must-Read: Charles Steindel (2009): Implications of the Financial Crisis for Potential Growth: Past, Present, and Future: “The scale of the recent collapse in asset values and the magnitude of the recession…

…suggest that activities connected to the increase in values over the 2002-07 period—notably, expansion of the financial markets, homebuilding, and real estate—were overstated. If this is true, aggregate U.S. economic growth would have been overstated, implying that previous rates of potential gross domestic product (GDP) growth may also have been overstated and that the trajectory of potential GDP may be slower going forward. Slowing growth in the finance, homebuilding, and real estate sectors could hold back aggregate growth. A detailed examination of these sectors’ direct contributions to GDP, however, suggests that overstatements of past growth would likely not have made a large difference in recorded GDP growth. Slower growth in these sectors would have, at most, a moderate direct effect on aggregate economic activity. The recent experience’s longer term effects on GDP would seem to stem largely from factors other than the retrenchment in these sectors.

What to teach the undergraduates about business cycles

Posted on by Brad DeLong

Let me promote this to “highlighted” status, and flag it: it is time I once again tried to think hard about just what the “macro” weeks of introductory economics are for:

Time to Start Teaching the Undergraduates About Business Cycles: How to begin? What is the vision I went them to take away and remember?

How about this:

For some reason–it can be any of a large number of reasons, this time it is the blowback from excessive leverage and irrational exuberance, but it can be for any of a large number of reasons–the people in the economy decide that they are spending too much on currently-produced goods and services. They decide that they want to spend less and so build up their holdings of financial assets. People cut back on their spending on currently-produced goods and services, planning to use the margin they will create between income and spending to build up their holdings of financial assets.

The problem is that one person’s spending is another person’s production, and that one person’s production is another person’s income. Businesses see demand for what they produce fall off. They see their inventories of unsold goods rise. Businesses thus lay workers off in order to avoid making even more stuff that they cannot sell: production falls.

And as production falls businesses stop paying the workers they have laid off: incomes fall.

People spend what they had planned on currently-produced goods and services. But they find that their incomes are less than they had thought they would be. Thus the margin they had hoped to create between their incomes and their spending does not exist. People find that they have not managed to carry out their plans to build up their holdings of financial assets. But they still want to. So people try to cut back on their spending on currently produce goods and services yet again to build up their holdings of financial assets. And the process repeats. Spending, production, and incomes fall again.

Why don’t spending and production and incomes and production fall to zero in this downward spiral?
Because at some point incomes drop so low that people give up on the idea of building up their stocks of financial assets.
They still would like to build up their stocks of financial assets–if their incomes were normal. But keeping their standard of living from falling too much becomes a higher priority.

The economy settles down at a spot where spending on currently-produced goods and services once again equals production and income. It finds itself at a short-run macroeconomic equilibrium where inventories are neither rising and causing businesses to fire more workers or falling and causing businesses to hire more workers. This equilibrium, however, has a lot of unemployment: a lot of unemployed workers looking for jobs, and few vacancies looking for workers.

How bad do things get as a result of this collective decision to try to build up stocks of financial assets?

For that we need to build an economic model. And we need to build different economic model then the production function base growth economic model we been dealing with over the past two weeks…

Must-Read: Atif R. Mian, Amir Sufi, and Emil Verner: Household Debt and Business Cycles Worldwide

Posted on by Brad DeLong

Must-Read: Atif R. Mian, Amir Sufi, and Emil Verner: Household Debt and Business Cycles Worldwide: “A rise in the household debt to GDP ratio predicts lower output growth…

…and higher unemployment over the medium-run, contrary to standard macroeconomic models. GDP forecasts by the IMF and OECD underestimate the importance of a rise in household debt to GDP, giving the change in household debt to GDP ratio of a count… A rise in household debt to GDP is associated contemporaneously with a rising consumption share of output, a worsening of the current account balance, and a rise in the share of consumption goods within imports. This is followed by strong external adjustment when the economy slows as the current account reverses…. The pre-2000 predicted relationship between global household debt changes and subsequent global growth matches closely the actual decline in global growth after 2007 given the large increase in household debt during the early to mid-2000s.