A long economic recovery is not necessarily a better one

Recessions are a natural part of capitalism, not something to be avoided at all costs

Rana Foroohar




At the beginning of July, the US’s current economic expansion will officially become its longest one since 1854, the year National Bureau of Economic Research data on business cycles started. Unemployment is at a 49-year low. Asset prices are near record highs. And the US Federal Reserve signalled yet again last week that it was leaning towards lowering rates due to “uncertainties” in the economic outlook and muted inflation.

That intuitively makes sense when you consider how rocky geopolitics are at the moment, and how bifurcated this recovery has been, mostly favouring large multinational companies and individuals with lots of assets.

But it is also rather stunning how quickly the Fed has gone from tightening monetary policy to preparing to ease it, and concerning that the central bank will be working from a historically low rate base as it attempts to navigate the next recession, whenever it comes.

Even more disturbing, this oddly long economic cycle is not singular. A Deutsche Bank research paper looked at 34 US economic expansions over the past 165 years and found that the past four business cycles have been longer than average. In fact they account for four of the six longest cycles. Since 1982, longer cycles have become the new normal.

Why is this? Optimists would say that less frequent recessions are a result of positive structural shifts and better policy choices that have made the US economy less prone to downturns. A January Goldman Sachs research paper points to better inventory and supply chain management (much of it the result of technological improvements) and the declining share of the US economy that is linked to more cyclical sectors, thanks partly to offshoring of manufacturing. At the same time, the growth of the US shale industry has reduced the risk and impact of oil price shocks, once a major recession trigger.

Other explanations of the lengthening economic cycle highlight the ways the world economy has evolved. Technological advances and globalisation, particularly China’s reintegration into the market system and higher levels of cross-border trade, have increased productivity and growth while dampening inflation.

Meanwhile, the end of the Bretton Woods exchange rate system gave US central bankers more freedom to extend economic cycles, because they no longer had to worry about maintaining a fixed relationship between gold and the dollar.

The result was fewer recessions but also a rise in both public and private debt, as governments worldwide were able to fund more deficit spending, and companies took advantage of low rates set by central bankers who could be less focused on price stability, once Paul Volcker tamed inflation in the 1980s.

Debt has papered over myriad problems in the US economy in recent years, from rising inequality to stagnant wages. It also helps mediate squabbles between various political interest groups. Both Republicans and Democrats have largely embraced a “markets know best” approach since the 1980s because it allowed them to avoid making unpopular choices about dividing up the national wealth pie.

Why choose between guns and butter when you could simply deregulate markets, unleash the financial sector, and hope rising asset prices would let you turn the other way?

All this begs the question of whether longer really is better when it comes to business cycles. Recessions are a natural and normal part of capitalism, not something to be avoided at all costs. Indeed, the Deutsche Bank economists argue that productivity would be higher and American entrepreneurial zeal stronger if the US business cycle had not been artificially prolonged by monetary policy.

But the longer the period of expansion, the harder it is to take away the punch bowl. I agree that policymakers did have to intervene after the 2008 collapse of Lehman Brothers to avoid a bigger downturn — the human costs were already too high. But I also do not believe, as some optimists do, that “this time is different”.

Long periods of expansion invariably result in too much leverage, followed by a correction, and usually a recession. Non-financial corporate debt, which tends to rise until a recession hits, has exceeded prior peaks and gone from 35 per cent of US gross domestic product in 1985 to 46 per cent today. Yet corporate bond default rates have been at very low levels for a decade and a half.

I worry about what will happen when investors and traders put those two facts together and start pricing in a rise in defaults. It makes me wish that perhaps US policymakers had opted for smaller, more frequent doses of pain rather than brewing up history’s longest expansion.

The White House wants to keep the music playing at least through the 2020 election. President Donald Trump this week blasted the European Central Bank head Mario Draghi on Twitter for “unfairly” promising “more stimulus” and then hinted he might demote Fed chair Jay Powell if he failed to do the same. Mr Trump’s tirades remind me of my kids when I’ve let them stay up too late and eat too much ice cream. Maybe a tech productivity surge will eventually come along and turn this market-driven recovery cycle into something that spreads prosperity more widely. More likely there will be hell to pay for leaving the lights on too long.

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