That is, to the ineffectiveness of monetary policy at present. There are those, like Plosser, who believe this is unconditionally true, and there are those, like Michael Bordo, who praise the power of monetary policy, arguing, against the conventional wisdom, that historically it has been even more effective following financial crisis but conclude that “this time it´s (really) different”.
According to Michael Bordo:
There’s a belief among policy makers that serious recessions associated with financial crises are necessarily followed by slow recoveries—like the one we’ve experienced since mid-2009. But this widespread belief is mistaken. To the contrary, U.S. business cycles going back more than a century show that deep recessions accompanied by financial crises are almost always followed by rapid recoveries.
The mistaken view comes largely from the 2009 book “This Time Is Different,” by economists Carmen Reinhart and Kenneth Rogoff, and other studies based on the experience of several countries in recent decades. The problem with these studies is that they lump together countries with diverse institutions, financial structures and economic policies. They also conflate two different measures of speed—how long it takes a country to get back to its previous business-cycle peak, and how fast the economy grows once the recovery has started.
Milton Friedman had a different way of looking at recoveries from cyclical downturns: the “plucking” model. Friedman imagined the U.S. economy as a string attached to an upward sloping board, with the board representing the underlying long-run growth rate. A recession, in this view, was a downward pluck on the string; the recovery was when the string snapped back. The greater the pluck, the faster the bounce back to trend.
As Friedman wrote in 1964, “A large contraction in output tends to be followed on the average by a large business expansion; a mild contraction, by a mild expansion.”
In a recent working paper for the National Bureau of Economic Research, Joseph Haubrich of the Federal Reserve Bank of Cleveland and I examined U.S. business cycles from 1880 to the present. Our study not only confirms Friedman’s plucking model but also shows that deep recessions associated with financial crises recover at a faster pace than deep recessions without them.
But (after all, we have to reach “Rome” – my bold):
Thus the slow recovery that we are experiencing from the recession that ended in July 2009 is an exception to the historical pattern. This can largely be attributed to the unprecedented housing bust, a proximate measure of which is the collapse of residential investment, which still is far below its historic pattern during recoveries. Another problem may be uncertainty over changes in fiscal and regulatory policy, or over structural change in the economy.
The legacy of the unprecedented housing bust calls into question whether in the future, expansionary monetary policy could make recoveries more consistent with the depth of recessions. Expansionary monetary policy(!) in the past three years seems to have had only limited traction in stimulating the economy and speeding housing recovery. To catalyze full recovery in housing, we may need policies other than looser monetary policy.