Reinhart and Rogoff Say This Time Is Not Different

Economic historians fault Fed economists’ ‘rosy scenario’ and idiosyncratic analysis

An improved job market, the Dow at 13,000, and rising consumer confidence and spending are among the factors that have emboldened some economists to declare the U.S. economy in full recovery mode. A Bloomberg article published Monday quotes the economist Allen Sinai saying “We’re entering a sweet spot for the economy. We’re in a self-reinforcing cycle.” But the economic historians Carmen Reinhart and Kenneth Rogoff, writing in a Bloomberg View article published the same day, argue that financial history does not offer encouragement to the notion that happy days are here again.

Kenneth Rogoff (Photo: AP)Reinhart and Rogoff (left), best known for their epic financial history tome, “This Time is Different: Eight Centuries of Financial Folly,” wrote their article, “Five Years After Crisis, No Normal Recovery,” in response to a controversial Federal Reserve working paper. That paper argues that post-financial-crisis recoveries enjoy the same pace and strength of normal post-recession recoveries. The view of the Fed therefore would buoy those who, like Sinai, are making calls in real time that the economy is bouncing back.

But Reinhart and Rogoff, while expressing hopes for better times, advise that we dare not misconstrue history’s lessons. “It is mystifying that [the Fed economists] can make this claim almost five years after the subprime mortgage crisis erupted in the summer of 2007 and against a backdrop of an 8.3% unemployment rate (compared with 4.4% at the outset of the financial crisis),” the economic historians write.

They say the data show that the economy snaps back within a year or two after normal recessions and growth returns to trend. After systemic financial crises in the postwar period, however, economies have needed 4 1/2 years to reach pre-crisis levels of output.

What’s more, “in 10 of 15 severe post-WWII financial crises, unemployment didn’t return to pre-crisis levels even after a decade” and double-dip recessions occurred “in 7 of the 15 crises.”

In other words, a resumption of GDP growth, which they say is hard to establish in real time, is insufficient to establish recovery. “As we emphasized in our book, ‘This Time Is Different,’ it is essential to measure where an economy stands compared with pre-crisis levels of important variables such as output, unemployment and housing prices,” they wrote.

Post-crisis recoveries are markedly different from those following normal recessions, they say, and most likely involve some permanent loss in output capacity.

Reinhart and Rogoff say the Fed study errs in asserting that once a post-crisis recovery begins, it is typically as strong as those following normal recessions. But the Fed staff economists go wrong by botching the dates their study uses to time economic recoveries.

For example, the Fed authors use the second quarter of 1998 as the time Japan’s GDP bottomed out. But in so doing they conveniently leave out nearly a decade of Japanese economic pain that preceded the 1998 turnaround from a double dip. In their book, Reinhart and Rogoff date Japan’s crisis from 1991, not 1998—“like almost all studies of that country’s mega financial crisis.”

Because the economic recovery has been anemic rather than the vigorous V-shape the “rosy-scenario crowd” expected, analysts of this camp resort to changing the goal posts in this fashion, say Reinhart and Rogoff. 

“But considering the huge and rising debt levels in the U.S., and the very limited extent to which deleveraging has taken place in the household and government sectors, we would be pretty happy to see a few straight years of trend growth, even if that falls short of the V-shaped recovery that some see around the corner,” they say.

Page 2 of 2
Single page view Reprints Discuss this story
This is where the comments go.