Great Stagnation or Lousy Data?
By David Henderson
Price controls really do matter.
Any claim we make based on aggregate data is only as good as those data. Brink Lindsey has pointed out that, contrary to Tyler Cowen, the so-called Great Stagnation that Tyler writes about is not so much a stagnation as a reversion to a lower long-term growth trend. Byran Caplan posts about it here.
Lindsey shows that the annual growth rate of real per capita GDP fell from 2.5 percent in the period from 1950 to 1973 to a still-healthy 1.9 percent in the period from 1973 to 2007. But something happened between 1971 and 1975 that virtually every economist doing economics then knows about but that few of them and few of the younger economists ever take into account: Nixon’s price controls. (The only economist I can think of who did calculations as if price controls had existed is Alan Reynolds.) Taking price controls into account, growth from 1950 to 1973 doesn’t look as good as Lindsey’s numbers and growth after doesn’t look as bad. In other words, the difference becomes smaller.
On August 15, 1971, Nixon froze all prices for 90 days. Then he put the economy through various phases of price controls and, early in 1973, started relaxing price controls. The removal of price controls occurred from early 1973 to sometime in 1975.
So what? Here’s what. When prices are repressed, the recorded inflation rate is below the true inflation rate. That means that a measure of real GDP during the period of price control will overstate real GDP growth. When prices are decontrolled, the recorded inflation rate is above the true inflation rate. A measure of real GDP during decontrol will understate real GDP growth.
One way, then, to get a better measure of growth is to skip the period from 1971 to 1975. Measure real GDP per capita from 1950 to 1971 (the price controls were imposed late in the year) and then measure it from 1975 (as I recall, prices, except for oil and gasoline, were pretty much decontrolled by early 1975) to 2007. Doing that, we get the following for growth rates of real GDP per capita:
1950 to 1971: 2.28 percent.
1975 to 2007: 2.09 percent.
Notice how much the difference narrowed from Lindsey’s numbers. This cuts the measured difference by a hefty two thirds.
Now, you might say that I’m cheating because I’ve left out 1973-75 recession. I have 3 responses:
1. Precisely because almost the whole recession occurred during price decontrol, the size of the recession was overstated. Real GDP growth looked worse than it was.
2. When you measure growth over various eras, you usually go peak to peak or trough to trough so you can leave out the short-term effects of recessions. So taking 1950 to 1971 and 1975 to 2007 is, even aside from my price control point, a more legitimate comparison.
3. Touche. So let’s keep those years but estimate 1973 real GDP four percentage points lower and then see what we get. Why 4 percentage points lower? On the assumption that the price controls distorted prices by 2 percentage points a year for two years.
If we then do the calculation, we get a narrowing, but it narrows less. We get the following annual growth in real GDP per capita:
1950 to 1973: 2.29 percent.
1973 to 2007: 2.0 percent.
Notice that we cut Lindsey’s measure by half.