The (developed) world's 4th longest expansion
By Scott Sumner
As I write this post, Australia just announced 1.1% RGDP in the fourth quarter, and 2.4% over the past 12 months, both higher than expected. Thus once again the “Lucky Country” dodged a recession (GDP had fallen 0.5% in the third quarter.)
It seems pretty likely than in two more quarters Australia will beat the record for the world’s longest expansion, currently held by the Netherlands (103 quarters, or almost 26 years.) When I saw the list of the longest economic expansions, I was struck by number four on the list, France, from 1975-92, a total of 68 quarters. Younger readers might not understand why I was surprised by this expansion. Take a look at the French unemployment rate since 1960:
How can this be? It looks to me like French unemployment was about 3.5% at the end of the 1975 recession, and then rose at about 0.5% per year, up to 9% in 1986. How can rising unemployment occur during a record expansion?
Here’s the French RGDP growth rate:
Here’s what I think happened. Between 1960 and 1986, France became considerably more socialist, particularly in terms of taxes, benefits and labor market regulations. As a result, the French natural rate of unemployment rose from about 2% to about 9%, where it has remained (more or less) ever since.
A rise in the natural rate of unemployment is not (necessarily) a recession. A recession is probably best thought of as a period when the actual rate of unemployment rises sharply above the natural rate.
Although Australia has had an impressive expansion, it does still have an unemployment rate of 5.7%, considerably higher than the US rate, and almost double the 3.1% rate in Japan. Unlike Australia, Japan has so-called “recessions” quite frequently. That’s because Japan’s working age population is falling at more than 1% per year. So their trend RGDP growth rate is barely above zero. Statistically insignificant fluctuations in Japanese RGDP can create 2 consecutive quarters of falling RGDP.
I encourage people to keep the following things in mind:
1. Unemployment fluctuates with the business cycle, and also with changes in the natural rate of unemployment. The natural rate of unemployment tends to be higher in more regulated labor markets, such as southern Europe, and tends to be lower in less regulated areas, such as Hong Kong. In order to ascertain whether rising unemployment is due to a (demand-side) recession, look to see if there is a slowdown in hourly nominal wage growth. If not, then the natural rate of unemployment may be rising. In addition, look to see if unemployment starts falling once the recession ends. If not, then the natural rate of unemployment has risen.
2. Don’t pay too much attention to “technical recessions”, with two consecutive quarters of falling RGDP. In a slow growth world, these may become more frequent. But in cases like Japan where the negative growth is not accompanied by rising unemployment, it’s not a true business cycle.
3. Learn from Australia. Right now, monetary policy in Australia is probably too tight. They are undershooting their targets. They are coasting on their past successes. Fortunately, their past successes gave them enough flexibility so that a mild undershoot didn’t lead to recession in 2016.
4. Countries will occasionally abandon policies that were wildly successful. The current head of Australia’s central bank is one example:
You might think a central bank looking at inflation significantly below its target, a relatively weak jobs market, and a policy interest rate well above zero would be keen on loosening up. In the case of Australia, however, you would be wrong.
A recent speech by Philip Lowe, who runs the Reserve Bank of Australia, explains why: monetary policy has to be focused on long-term economic stability, even if that means acting against what conventional indicators might suggest. The inflation target is more what you’d call guidelines than actual rules. If the choice were between a) having consumer prices rise a little more slowly than target and unemployment at the upper end of its range or b) encouraging a debt-fuelled boom with excessively low interest rates, the RBA would go with option A.
Germany’s Social Democratic Party introduced a major set of labor market reforms in 2004, which turned out to be one of the most successful reform packages in modern history. It was almost a mirror image of France in the 1975-86 period, as the Germany natural rate of unemployment plunged much lower. And now the new leader of the SDP wants to reverse these reforms. Sad!