Saturday, September 17, 2011

Does rapid TFP growth make recessions end quickly?

Tyler Cowen believes that having rapid TFP growth makes recessions end more quickly:
It also seems to me that the long run comes more quickly when TFP is relatively high, which again brings us back, at least partially, to the supply side.  This view is supported by theory.  When the economy has a lot of broad-based technological innovation, at least somewhat evenly distributed, job creation is easier, income effects are more likely to positively cumulate, and monetary and fiscal policy are more likely to gain traction.
The post to which he links regards the depression of the 1870s, and says this:
1873-79 was quite turbulent, but afterwards the global economy adjusted to deflation.
First, I would like to point out that 1873-1879 is six years. That doesn't sound "quick" to me! Recall that that particular depression is typically called the "Long Depression". This despite the high TFP growth at the time.

And six years is twice the amount of time from the 2008 financial crisis until now. If a six-year depression is "quick," why should we conclude, after three years, that our current depression is being prolonged by supply-side factors? That does not make sense to me.

Also, there are other obvious counterexamples. The recessions of the early 1980s were very short and "V-shaped," despite the extremely low rate of TFP growth at the time:
By contrast, the early-2000s recession, though shallow, was much longer and "U-shaped", despite the recovery in TFP growth.

Therefore, it seems to me that the historical record does not show an inverse relationship between TFP growth and recession duration. That doesn't mean a relationship isn't there, but it would require serious and careful econometrics to tease out. I know of no study that has done that yet.

If supply-side factors are prolonging our current malaise, this does not appear to be the channel through which they are working.


  1. Productivity growth (actually labor productivity growth, which is largely determined by TFP growth) makes recessions end more quickly only when the inflation rate is held constant across recessions. What matters is the rate of growth (in money terms) of the marginal value product of labor. If the MVPL is growing quickly, it catches up with compensation rates quickly, and businesses start to hire. I believe this view is consistent with all the examples you cite (deflation in the 1870's, high inflation in the 1980's, low inflation in the 1990's).

    As you probably know from my Twitter stream, I'm rather skeptical of the distinction between inflation and productivity growth in any case. I would rather just say, "How many hours were worked?" and "How many dollars worth of stuff was produced?" and then divide. Trying to measure the general price level is useful for making rather dubious welfare comparisons and for little else, and I would argue that it has been positively harmful for macro policy. (Why do economists want to use unobservable welfare as their numeraire rather than observable labor?) Be that as it may, once you've done this unnecessary step, you can go back and undo it by adding the inflation rate and the productivity growth rate to get the macroeconomically relevant number. And if you believe the contemporary myth in which monetary policy regimes are classified by their target inflation rate, you can say that, holding the regime constant, higher TFP growth will be associated with shorter recessions.

  2. The most recent research of which I am aware indicates there never was a "Long Recession". So I am not sure it is evidence against Tyler's claim.

  3. @David:

    Yes, I saw that. BUT,

    A) My hypothesis is just the null hypothesis (I am not asserting that high TFP growth prolongs recessions!), so if there's big uncertainty surrounding the 1873 recession duration, that still mitigates against Tyler's use of that episode to support his claim, and

    B) The revised estimate of falling GDP for 2 years is still longer than any of the recent NBER recessions, despite the big difference in TFP growth.

  4. "1873-79 was quite turbulent, but afterwards the global economy adjusted to deflation."

    'adjusted to deflation' means that many (most?) of the US population suffered.

    In the end, Tyler Cowen is a right-wing economist. His highest principle will always be redistribution of wealth upwards, and screwing the majority.

  5. Anonymous1:42 PM

    1873-1879 would have been a period of very rapid industrial change (driven by falling steel prices) requiring rolling adjustments to adjust to those changes.

    If you want to see how rapid change was go find a picture of a battleship built in 1860 and one built in 1885.

  6. Anonymous5:59 PM

    1873-1879 appears to have been a global recession triggered by the Franco German war and Latin American debt defaults.