Wednesday 23 October 2019

Brendan Keenan: 'Central banks' support of record expansions a break with the past'

Then head of the US Federal Reserve Alan Greenspan kept markets high by adding liquidity and encouraging risk-taking - the so-called ‘Greenspan put'. Photo: Reuters
Then head of the US Federal Reserve Alan Greenspan kept markets high by adding liquidity and encouraging risk-taking - the so-called ‘Greenspan put'. Photo: Reuters
Brendan Keenan

Brendan Keenan

Once upturns come, can recession be far behind? Once upon a time, a poet might have said something like that, but not anymore, it seems. Currently, the US is celebrating the longest continuous upswing on record. If celebrating is the right word. The trend in growth has been unmistakeably upwards, but there is always a nagging worry when no one seems to know exactly why what is happening is happening.

We do know that this month marks the 121st since the present expansion began. Official recessions are a bit more complicated than the popular two consecutive quarters of shrinking output and gross domestic product, and the US National Bureau of Economic Research calculates this period of uninterrupted growth started in June 2009.

That is the longest since these records began in 1854, but the one it beat was the previous expansion, which ended with the 2001 recession.

Four of the six longest expansions since 1854 have occurred in the past 30 years. That reminds one of the global warming statistics - even to the point of thinking that something artificial is interfering with the natural cycle of economics.

The previous record upturn more or less encompassed the 1990s, just as this one has the 2010s. But compared with this decade, the 1990s look like a golden age, as President Clinton's administrations used the long boom to eliminate government borrowing. Quite a difference from today's debt-ridden landscape.

Other things may be more familiar. If there is an artificial element to this elongation of the business cycle, arguably, it starts on Black Monday in 1987, when the stock market crash broke several records and the newly appointed Alan Greenspan drove the Federal Reserve to the rescue.

The economy had not tanked, just the market, so it looked very much as if the Fed was willing to support investors, not just the system in general. Events since then have confirmed that impression.

Market crashes can lead to recessions, of course, but not always. The problem in 1987 was the surge in share prices as people began to see the implications of the internet (not that anyone saw all of them). We can see now that many of the valuations were ludicrous but the 'Greenspan put' sent the market soaring on to the even more ludicrous heights of 2001.

Then it all happened again, on a larger scale. As luck would have it, there was also the Millennium Bug fear. Greenspan injected a couple of trillion in case the world's computers crashed. They didn't, but there never seemed to be the right moment to take the money out again.

The 2001 crash was a big one, but so was the rescue. A combination of all that liquidity and apparent absence of risk delivered the credit bubble, which was more like the 1920s than anything seen in between.

It was not a record-breaker for longevity either, but 70 months is not bad.

The new title-holder looks a more solid affair. Against expectations, it has created a lot of jobs. Employment levels are also breaking records and unemployment is below 4pc. Yet it seems to have brought little joy.

The protest vote for Donald Trump came when the recovery was in full swing. America's politics have become more bitter since the end of the great recession, not less.

In its last report on the US, the OECD set out the reasons behind this angst. There is still a legacy of reduced incomes and bigger debts from the crash. Joblessness and poverty are concentrated in cities whose industries have folded, with the recovery strongest in coastal areas and already prosperous cities.

This has been exacerbated by fewer opportunities for the climb up the social ladder which is central to the American dream. The resulting frustration has been expressed in support for those who claim to have magic formulae for economic growth, rather than those who might provide a helping hand.

The underlying forces, though, may be too powerful for politicians to do much about - or even central bankers. If there is something artificial about the longer expansions and deeper, shorter recessions, it seems it must come from central banks, but it is not clear what it is meant to achieve.

They may not have created the ultra-low interest rates which characterise current conditions, but they are often quite explicit about using them to avert recessions and, if one comes, to bring it to an end as quickly as possible.

They used to cover up doing that sort of thing, but after the blame heaped on the European Central Bank for apparently snuffing out a eurozone recovery in 2010, it is all quite open now. Yet as every central banker knows, managing the economic cycle is a very inexact science, if it is a science at all.

Delivering last year's Geary lecture at the ESRI, then governor of the Central Bank, now chief economist of the ECB, Philip Lane, spoke of three 'trilemmas' facing central bankers.

That makes nine options in total, which is rather too many for this column, but they include the tensions between globalised trade, free movement of capital and the scope for separate national policies on interest rates and currency values.

The subject of the lecture was the effects of globalisation on central banks' fundamental task of maintaining financial stability but, while sticking to it in his detailed talk, Lane recognised that the globalisation of trade, technologies and international production chains has also had "profound implications" for living standards, and the distribution of income across borders and between different types of workers.

There is a consensus that these effects explain why record expansions have been accompanied by increasing discontent among the populace in several countries.

In the US, the value of output almost doubled after 2000, while real wages for the typical worker continued to stagnate, at least until very recently.

The former governor saw the structures of the EU and the creation of the euro as attempts to solve the trilemmas. It is impossible to imagine the situation of separate European states with independent currencies in today's globalised world but, to put it mildly, it is clear the present structures have not been entirely successful. The talk right now is all of another recession, and the assumption is that central banks will move early to counteract it.

Last week, lenders were willing to accept lower returns on German government bonds than they could get by depositing money with the ECB. That represents an odds-on bet on an interest rate cut. Similar bets are being placed in the US, with the returns on 10-year loans less than those on three-month loans.

This is the so-called inverted yield curve, much touted as the great harbinger of a coming recession.

After a 121-month expansion, what else would one expect? As the boss of the debt-managing National Treasury Management Agency Conor O'Kelly told an Oireachtas committee, it is only a question of when, not if. That leaves the question as to whether it is really such a good idea trying to postpone the when.

Ireland illustrates one difficulty with extended periods of growth. The economic cycle has always been longer than the political cycle, but the gap has grown.

The failure of fiscal policy to prepare for the next recession while the economy is growing strongly, or even to cool it down, may have something to do with recession always seeming a long way off - further, usually, than the next election.

Shorter cycles might keep everyone more on their toes. Lane made the point that monetary policy on its own can only do so much to smooth the ups and downs in a more volatile globalised environment.

The central bankers say they require appropriate fiscal policies from governments to reduce the economic volatility which globalisation tends to produce.

As they see it, this has not been forthcoming, but it often seems that, rather than countering loose government policies with tighter monetary ones, they feel obliged to try to smooth the cycle as best they can by themselves.

Many of their predecessors would have taken the opposite view, even if that meant shorter upswings and more downturns. It may be another long time before we can decide who was right.

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