Brad DeLong has a paper about an interesting question. As the economy moves from the industrial age to the information age, what happens to the nature of macroeconomic vulnerabilities?
He claims that the 20th century vulnerabilities were:
- Slumps caused by a collapse in investment (Keynes' animal spirits)
- Slumps caused by tight monetary policy
- Slumps caused by financial market breakdowns, such as currency crises
- Inflation caused by a central bank losing its reputation for stabilizing prices
- Inflation caused by inability of government to finance spending without printing money
I cannot think of any examples of (4). Also, I think that the "oil shock" of the 1970's is another type of macroeconomic disturbance worth mentioning.
Along the way, DeLong says that
There is reason to fear that the runup in asset prices in the 1990s may have reduced American asset markets' effectiveness as part of a rational social capital allocation mechanism.
I think there may be a deeper issue here, which is that the stock market emerged during the age when allocating physical capital was important. Today, it is human talent--particularly research and development--that has to be allocated correctly for optimal economic performance. I have talked about that issue in several essays, including
Finally, DeLong concludes by talking about factors that will make macroeconomic policy easier and harder. He says that in the future the policy environment will be made easier by: reduced inventory cycles, as firms do a better job of controlling inventories; and faster productivity growth, which reduces the likelihood that workers will have unrealistically high expectations for wage growth relative to productivity growth.
To these, I would add that as the economy grows more complex with greater varieties of goods, elasticities of substitution should rise. This should make it easier to adjust to shocks in a single sector. Also, workers are increasingly relying on generic skills rather than firm-specific learning. That means that when someone loses a job, it is easier for them to find another one. In the old days, a shock to General Motors caused many layoffs at GM and its suppliers, and the laid-off workers stayed unemployed. Today, when people lose their jobs at Arthur Andersen or WorldCom, they are more likely to find other positions in the economy than to remain in limbo for many months.
DeLong says that the information economy increases macroeconomic vulnerability by: making it more difficult for the stock market to value assets, increasing the opportunity for large price fluctuations; the government may lose focus on macroeconomic issues, particularly during a boom; financial arrangements will become more complex, making it harder for regulators to spot vulnerable institutions before they collapse.
Discussion Question. If it is the nature of financial institutions to become more complex and harder to regulate, is the current outcry for "reform" in the wake of corporate accounting scandals likely to achieve successful long-range results?
