Arnold Kling  

A Recalculation Data Point

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From David Altig, via Mark Thoma.

This statistic, the percentage of job losses that are permanent, is a useful way to distinguish Keynesian recessions from Recalculations. In a Keynesian recession, you are temporarily laid off because of excess inventories and deficient aggregate demand. You wait to be recalled by your firm. This was true of recessions from the end of the second World War through the 1980 recession. Even the 1975 recession, which was a "supply shock" (higher oil prices, requiring some permanent readjustments), had a relatively low share of permanent job losses.

In a Recalculation, you permanently lose your job and you have to find something else. The Recalculation model increasingly holds as we move away from an economy dominated by manufacturing. Even though the 1990 and 2000 recessions were relatively mild, a large share of the job losses were permanent.

As commenters have been pointing out, recalculation is always taking place in the form of creative destruction. See Lectures on Macroeconomics, especially number 3. The problem now is that the economy cannot handle the amount of adjustment that is required to deal with the sudden change in the housing and financial markets.

What does a "jobless recovery" mean? I do not like the term. Around 2003, when the term was first coined, I instead described it as a "productivity-cushioned recession." Either term describes the same phenomenon--GDP growing significantly faster than employment.

During the prior jobless recovery (or productivity-cushioned recession), inflation was relatively low. That would suggest that my inflation bet may be wrong. On the other hand, during the prior episode the government was not issuing trillions of dollars of new debt. Ultimately, I think that all this debt will produce a lot of inflation, with very little net gain in employment relative to what would have taken place without it.


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CATEGORIES: Macroeconomics



COMMENTS (19 to date)
Daniel Kuehn writes:

Recalculation has always struck me as being similar to Keynesian concerns about the difference between planned and actual investment, and revisiting the "general glut" controversy.

Are there deep roots connecting recalculation and Keynesianism? You talk about Keynes as if it's all an aggregate demand story, which is not how I remember the General Theory. To be honest, it's the Keynesian in me that's made me nod my head to your posts on recalculation as the cause of the crisis much more frequently than posts on Cafe Hayek or mises.org, or similar venues.

Lord writes:

But they rise with every recession, only this one is worse because the recession is worse. Is there really that much dispute over the causes of the recession? In my mind, the real distinction is how to deal with one. Liquidationism was tried in the 30s and was a disaster because real debt burdens rose due to it. Accommodative policy is best but loses traction given the severity, but that hardly means it shouldn't be used.

Nathan Smith writes:

"Ultimately, I think that all this debt will produce a lot of inflation, with very little net gain in employment relative to what would have taken place without it."

When you think about this statement it becomes very odd. "Ultimately" signals that we're talking about the long run. But can fiscal or monetary stimulus raise employment in the *long run?* What traditions in macro theory would make such a prediction? Not Keynesian theory I think, even though it's the most favorable to stimulus. The quote attacks a straw man-- it suggests that advocates of stimulus think it will cause a long-run net gain in employment-- and then concedes too much to him, for surely we can predict (at best) NO net gain in employment "ultimately."

The following claims would be more interesting:

1) Stimulus will produce little or no net gain in employment even in the SHORT run, and may even reduce it, because Ricardian equivalence will hold, or perhaps even a sort of super-Ricardian equivalence where private spending is reduced by *more* than government spending increases because the classes that would have invested expect to pay more than their share of future debt.

2) Current stimulus will make unemployment higher in the medium run and living standards lower in future, by introducing new economic distortions.

I'd certainly nail my flag to (2). I might not go quite so far out on a limb as (1), but all the evidence so far seems to favor it. Unemployment is rising *pari passu* with stimulus spending.

q writes:

i am unclear why money printed by the fed would cause inflation when credit money didn't during the boom. the credit money allowed malinvestment (house price bubble) but it didn't push up CPI inflation or create a bubble otherwise.

Daniel Kuehn writes:

q -
Not a consumer price bubble, but it did cause an asset bubble and asset price inflation.

I've always wondered why inflation measures downplay asset prices so much, personally. Given the long history of damaging asset price bubbles, why do we focus so damned much on consumer and producer prices alone?

Floccina writes:

I second Daniel Kuehn's comment. Becuase I was thinking to trade up, I found it dpressing in the Bush years that home prices were inflating.

Charlie writes:

Isn't inflation good in this environment, as negative real interest rates are needed to match savings and investment? Even if I believe the recalculation story, negative real interest rates are needed to incentivize the loans and investment that will encourage the risky endeavors into the productive enterprises of tomorrow.

What does Recalculation predict? What result (or collection of results) would unambiguously support or deny Recalculation vs some other theory?

Absent this formulation and test, Recalculation and any other theory is merely a "musing". I wouldn't call it a "theory".

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Keynsianism needs the same treatment. How can one speak of "Keynsian Theory" when it is inexact, talks about vague aggregates, and is without specific predictions?

Worse, each individual looks at Keynes and decides at the moment what "Keynesian Theory" might predict. This is hopelessly vague.

The scientific method requires that some economist lay out his theory, make his falsifiable predictions, and go up against some other economist with a similarly exact formulation. Then, let events show who, and which thoery, is likely right or wrong.

Maybe the economy is too unknown to make overall or quantitative predictions. If so, the musings should contract to some area where prediction is possible. All concerned should stop musing about what they cannot predict.

More science, less storytelling. Or, at least call it storytelling.

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By the way, I like Recalculation, and I find Keynes idiotic, what little I know about him and his musings.

fundamentalist writes:

"Liquidationism was tried in the 30s and was a disaster because real debt burdens rose due to it."

Real debt burdens always rise in a depression because of the deflation involved. The inflation during the boom makes unprofitable firms appear profitable and survive as long as price inflation continues. When prices stop rising, but especially when they fall, those firms fail. The real problem with the Great D was that wages continued to rise for those still employed throughout the decade of the 1930's. In addition, FDR tried to make the US a socialist nation and his policies created so much fear and uncertainty among businessmen that they refused to invest.

fundamentalist writes:

"Liquidationism was tried in the 30s and was a disaster because real debt burdens rose due to it."

Real debt burdens always rise in a depression because of the deflation involved. The inflation during the boom makes unprofitable firms appear profitable and survive as long as price inflation continues. When prices stop rising, but especially when they fall, those firms fail. The real problem with the Great D was that wages continued to rise for those still employed throughout the decade of the 1930's. In addition, FDR tried to make the US a socialist nation and his policies created so much fear and uncertainty among businessmen that they refused to invest.

fundamentalist writes:

Daniel: "Not a consumer price bubble, but it did cause an asset bubble and asset price inflation."

Exactly. For the most part, monetary expansion causes asset bubbles; price inflation happens when the guv goes on a borrowing and spending spree. So we're likely to see both cpi and asset inflation in the next few years. Cpi inflation won't hit until idle resources are consumed, but before unemployment falls very much. The stock market is up mainly because of monetary pumping and will continue to rise until a few years after the Feds raise interest rates.

fundamentalist writes:

Charlie: "negative real interest rates are needed to incentivize the loans and investment that will encourage the risky endeavors into the productive enterprises of tomorrow."

The Feds are attempting to spur inflation, but usually what happens is the money goes into other assets, like the stock market.

fundamentalist writes:

Andrew: "What result (or collection of results) would unambiguously support or deny Recalculation vs some other theory?"

If you view the recalc theory as a subset of the Austrian theory, the evidence is overwhelming. The theory got its start with Richard Cantillon who wrote a book on economics in the early 1700's, long before Adam Smith. Smith quotes him. Cantillon noticed that an increase in the money supply causes a burst of activity in the capital goods market that is unsustainable. Cantillon made a fortune from betting against John Law and his Mississippi company in Paris of 1720.

In the early 20th century, many economists noticed that depressions take place primarily in the capital goods sectors. Finance experts, those trained by observing markets and not by following financial economic theory, have always considered the capital goods industries as being the most volatile. Their stocks are the first to soar in the recovery and fall in a depression. Consumer goods stocks are considered defensive stocks because profits don't vary as much as profits in capital goods businesses.

Hayek refined the theory to show that monetary pumping causes excessive investment in capital goods industries. However, a shortage of capital goods needed to make those investments successful causes the bust. Sometimes, the Feds bring on the bust prematurely by raising interest rates to stop the price inflation they caused. Recalculation is just the process of liquidating the excess investment in capital goods and re-establishing the correct ratio of capital goods to consumer goods production.

Lord writes:

"The real problem with the Great D was that wages continued to rise for those still employed throughout the decade of the 1930's. "

False. Wages dropped 25% between 30-33. They only rose later and only in select areas in an attempt to create inflation through policy.

Doc Merlin writes:

@Daniel Kuehn:
Recalculation is actually an Austrian idea, only they see every recession as a result of it. You get malinvestments, they pile up eventually people try to de-leverage and get out of bad inventements and then the economy has a recession as everyone is spending time and effort switching around investments.

The reason you probably don't find yourself agreeing with the Austrians is that they tend to blame the Fed for most of the malinvestments. Due to being a centrally planned ban the fed cannot properly price credit, it being THE bank in the US means that we get huge malinvestments just from the bank's activities.

Note: I probably don't have to remind people of this here, but I will anyway. Malinvestments are a very general term. Any time a person makes a 'bet' on a future condition that ends up turning out to be wrong, he has made a Malinvestment.


@q:

"i am unclear why money printed by the fed would cause inflation when credit money didn't during the boom. the credit money allowed malinvestment (house price bubble) but it didn't push up CPI inflation or create a bubble otherwise."

CPI is a worthless measure of inflation, it really is absolutely horrible. You could go to the grocery store and see prices double. You could also see commodity prices rise even more. CPI didn't measure them however, because it relied so much on technological goods that were dropping in price (cars, tvs, computers, etc).
We had HUGE inflation, it just didn't appear on CPI.

Doc Merlin writes:

@arnold

You seem to be saying that recalculation isn't what causes most recessions. Why are you saying that?

Lord writes:

Though perhaps you meant real wages which did rise, but real debt rose faster. Perhaps I should have said it failed unless what you want, think you need, is a depression, then liquidationism is just the thing.

willis writes:

"Ultimately, I think that all this debt will produce a lot of inflation, with very little net gain in employment relative to what would have taken place without it."

Sadly, this observation, just like all others will go un-noticed by this administration. Their attidude is that they won and everything else is irrelevant.

James A. Donald writes:

Clearly, the crisis is in part a recalculation depression.

But is also in part a socialization crisis. The government has raised the minimum wage, employer costs for unemployment insurance, increased regulatory uncertainty, etc.

If the government prohibits in advance some deals people make, and second guesses other deals people have made, and then unpredictably punishes them for unfair deals, people will make fewer deals. You cannot hire someone at below the basic wage, and if you hire them above the basic wage the terms of employment are likely to be retroactively changed, and anything you invest in likely to be deemed to cause global warming, or undermine our cultural heritage, etc.

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