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The Great Depression in Economic Memory

2010-09-01 12:53
Jean Pisani-Ferry argues that In extraordinary times, history is, in fact, a better guide than models estimated with data from ordinary times : The Great Depression in Economic Memory, by Jean Pisani-Ferry, Commentary, Project Syndicate: The dispute that has emerged in the United States and Europe between proponents of further government stimulus and advocates of fiscal retrenchment feels very much like a debate about economic history. Both sides have revisited the Great Depression of the 1930в s - as well as the centuries-long history of sovereign-debt crises - in a controversy that bears little resemblance to conventional economic-policy controversies. The pro-stimulus camp often refers to the damage wrought by fiscal retrenchment in the US in 1937... So, are we in 1936, and does the budgetary tightening contemplated in many countries risk provoking a similar double-dip recession Clearly there are limits to the comparison. ... Nevertheless, the 1937 episode does seem to illustrate the dangers of attempting to consolidate public finances at a time when the private sector is still too weak for economic recovery to be self-sustaining. (Another case with similar consequences was Japanв s value-added tax increase in 1997, which precipitated a collapse of consumption). Fiscal hawks also rely on history-based arguments. The economists Carmen Reinhart and Kenneth Rogoff have studied centuries of sovereign-debt crises, and remind us that todayв s developed world has a forgotten history of sovereign default. A particularly telling example is the aftermath of the Napoleonic wars of the early nineteenth century, when a string of exhausted states defaulted on their obligations. The 1930в s are relevant here as well, given another series of defaults among European states, not least Germany. What history tells us here is that defaults are not the privilege of poor, under-governed countries. They are a threat to all... Again, there are limits to comparisons... In normal times, history is left to historians and economic-policy debate relies on models and econometric estimates. But attitudes changed as soon as the crisis erupted in 2007-2008. Indeed, central bankers and ministers were obsessed at the time by the memory of the 1930в s, and they consciously did the opposite of what their predecessors did 80 years ago. They were right to do so. In extraordinary times, history is, in fact, a better guide than models estimated with data from ordinary times, because it captures variance that standard time-series techniques ignore. If one wants to know how to deal with a banking crisis, the risk of a depression, or the threat of a default, it is natural to examine times when those dangers were around, rather than to rely on models that ignore such dangers or treat them as distant clouds. In times of crisis, the best guides are theory, which captures the essence of a problem, and the lessons of past experience. Everything in between is virtually useless. The danger w...
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