There is a tendency to think of a nation’s “aggregate supply,” or potential output, as something that exists outside the realm of influence by short-term economic policy. The economic potential, after all, comes from the education of its people, the richness of its land, the quality of its machines — all things that a central banker can’t do much of anything to influence.Of course when you've reached a point where chronic unemployment still means record profits on Wall Street, why should policymakers do anything at all? This isn't the precise definition of "structural downturn"but from the point of view of most people, it might as well be.
In other words, supply is “exogenous” to a policymaker’s economic model. But that may turn on its head in circumstances like the present. They write:
The implications for monetary policy may differ sharply from what is commonly presumed because much of the supply-side damage could be an endogenous response to weak aggregate demand. If so, then an activist monetary policy may be able to limit the amount of supply-side damage that occurs initially, and potentially may also help to reverse at a later stage such damage as does occur. By themselves, such considerations militate toward a more aggressive stance of policy and help to buttress the case for a highly aggressive policy response to a financial crisis and associated recession.In other words, when there is weak demand and people remain out of work, the cyclical downturn can become a structural downturn. That means that policymakers should move particularly aggressively to keep that from happening.
Wednesday, November 06, 2013
A new report from Fed economists basically argues that the absolute worst policy response to the deep recession we've experienced these past 5 years would be... pretty much exactly the austerity policies our representatives are currently pursuing.