Research Lecture: U.S. Economic Recovery Pace Slightly ‘Above Average’ by Historical Standards

November 20, 2012

What is the appropriate yardstick by which to measure the pace and trajectory of the recovery from the Great Recession? In the run-up to the Nov. 6 election, that was the subject of heated debate by economists and supporters of both presidential candidates.

In October, Alan Taylor, a professor of economics in the University of Virginia’s College of Arts & Sciences, waded into the debate with some of the most comprehensive research to date, examining the recovery patterns of 223 recessions in 14 advanced countries over the last 142 years. Co-authored with Federal Reserve researcher Oscar Jorda and Moritz Schularick, economics professor at the University of Bonn, the research generated coverage in leading financial news outlets, including the New York Times, Financial Times and MarketWatch.

Taylor will give a public lecture on his research Nov. 27 at 5:30 p.m. in Nau Hall, room 101, in recognition of his appointment as the Souder Family Professor of Arts & Sciences.

Taylor’s research found that recessions caused by systemic financial crises are more severe – deeper and longer-lasting – than normal recessions, with recovery to pre-recession peak economic output requiring roughly five years, on average, versus three years for normal recessions.

That finding echoes earlier research by Harvard University economics professors Carmen Reinhart and Kenneth Rogoff, authors of the influential tome, “This Time is Different: Eight Centuries of Financial Folly,” Taylor said.

The latest iteration of Taylor’s research, a National Bureau of Economic Research working paper titled “The Great Leveraging” – updated in October – broke new ground in examining how the amount of credit issued in the years leading up to a recession impacts the following recovery. Taylor and his colleagues spent years assembling data on national credit levels, based on aggregate bank loans, along with “shadow banking and credit” – things like securitized student and auto loans, credit cards and mortgages.

He found that “whether you’re in a normal recession, or one that coincides with a financial crisis, if you have a larger private credit boom prior to the start of the recession, that is more of a drag on the downside, so the recession is longer and deeper.”

In the run-up to the Great Recession, the U.S. (and many other nations) had an “unusually high” credit boom, which has slowed the current recovery.

“We had both a financial crisis, rather than a normal recession, and we went in with historically high levels of private credit that had grown substantially in the previous decade,” Taylor said. “Those two headwinds explain why things look so grim right now in the U.S. and many other countries.”

Taking those dual headwinds into account, the United States is actually doing a little bit better than the average expected from the historical record, he said. In the recent recession, U.S. economic output per person peaked in December 2007, bottomed out in the second quarter of 2009, and has slowly been climbing back since. Currently, almost five years later, output stands at roughly 98 percent of the pre-recession peak.

The above-average trajectory of the U.S. recovery is hardly a given, Taylor points out. In contrast to the U.S., the U.K. economy has seen a double-dip recession with a recovery trajectory significantly worse than the historical average.

Comparing basic economic output indicators, the U.K.’s economy is worse right now than it was at the same point in the Great Depression of the 1930s, Taylor said.

“I’m sure no one in the U.K. thought they would see that in their lifetime,” he said.

The U.K., like every other country, will need to balance its books in the long run, but its recovery has fallen off track because Britain imposed austerity too fast, Taylor said. In fact, the U.K.’s fiscal contraction, as a percentage of output, is one of the largest ever undertaken during peacetime by an advanced economy.

Many economists predicted the resulting double-dip recession based on study of the Great Depression, the last truly comparable global financial recession, Taylor said. This should be a warning to U.S. policymakers as the U.S. faces a looming “fiscal cliff,” a combination of tax increases and mandatory government spending cuts set to start taking effect Jan. 1 that could upset growth and recovery here.

Taylor will discuss all that and more at his Nov. 27 lecture, this semester’s final entry in a new lecture series designed to allow faculty members to share their work with the greater University community, as well as the public, and to showcase the intellectual resources made possible by the College’s endowed professorships.

Taylor’s new chair, the Souder Family Professorship in Arts and Sciences, was created in 1987 by a gift from William F. Souder Jr., a 1933 alumnus of the College. Taylor was elected to the chair in August 2011.

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