The Obama economy: This time was different, at least at the beginning

The most difficult question in any election — but particularly in this election — is “compared to what?”
For instance: The recovery has been slow and painful compared to what we’d expect following a normal recession. But this wasn’t a normal recession. This was a global financial meltdown. So when asking whether our economic policymakers have done a good job, we need to ask, compared to what?
For the Romney campaign, the “compared to what?” test is easy, and the Obama administration failed it. “The historical record is clear,” wrote four of their economists in a white paper released by the campaign. “Our economy usually recovers quickly from recessions, and the more severe the recession, the faster the subsequent catch-up growth.” The absence of a quick recovery, they went on to argue, shows that “America took a wrong turn in economic policy in the past three years.”
That argument relied mainly on the work of Michael Bordo and Joseph Haubrich, who had shown that the American economy typically recovers swiftly from recessions. But when I contacted Bordo, he didn’t see this case as typical. “We found that a lot of the difference between what would’ve been predicted by the normal behavior of recessions and what we observed now is explained by the collapse of residential investment,” he said. “Put another way, if residential investment were what it was in a normal recovery, we would have recovered already.”
The unquestioned authorities on major financial crises and their lengthy hangovers are Carmen Reinhart and Ken Rogoff, the authors of “This Time is Different,” the key history of the subject. And, in a new paper, they try to set the record straight: “The aftermath of the U.S. financial crisis has been quite typical of post-war systemic financial crises around the globe. If one really wants to focus just on United States systemic financial crises, then the recent recovery looks positively brisk.”

The problem, they say, is that many of the attempts to look at this question — and, in particular, the politically motivated attempts to look at this question — have tried to compare our financial crisis with both normal recessions and what are called “borderline financial crises.” But what we had wasn’t a normal recession nor a borderline financial crisis (a term that comes from important work done by the World Bank in the ’90s). What we had was a systemic crisis. And by that measure, we’ve done pretty well.

What Reinhart and Rogoff saw when they compared our crisis with others in the same category is that we did a much, much better job at the beginning. “We have put a much higher floor on the initial contraction,” Reinhart says. “The initial contraction in these crises is unambiguously worse in most cases.”

That speaks well of the emergency measures we put in place in 2008 and 2009: TARP and the Federal Reserve’s efforts and the stimulus. But since then, our recovery has proceeded at a depressingly normal pace — evidence, perhaps, that we weren’t particularly wise to take our foot off the economic accelerator in 2011 and 2012. 

Reinhart and Rogoff’s findings are confirmed by a similar study by Moritz Schularick and Alan Taylor. They use a measure of pre-crisis credit build-up to sort more than 200 recessions since 1870. Once you account for the build-up of debt in our shadow banking sector, our contraction puts us firmly at the high end of their study — but our results have been somewhat better, largely because of our strong initial efforts to avoid a total collapse.

“The U.S. has done quite well,” Schularick and Taylor write, “steering out of the to-be-expected financial recession range based on the inherited level of excess credit, especially if the shadow system is considered. Most importantly a deep financial recession was avoided at the outset, and this level effect remained intact.”

So what can we say? Historically speaking, the United States did a great job averting a depression. It’s less clear that we’re outrunning the historical record on the recovery.

The economists had some theories on why that might be. “I have to wonder whether nationalizing banks during a crisis is the cleanest and swiftest way out,” says Reinhart. “Anything that delays the adjustment, that delays taking the hit, delays the recovery. The recovery in emerging markets is quicker not because policymakers are better but because there’s no choice: They have no resources to sustain a delay. I think taking the hit with the write-offs, even if it meant more propping up or taking over of institutions, cleans the air and cleans the balance sheets.”

Taylor, for his part, emphasized that fiscal policy was counterproductive at the state and local level, where balanced budgets reigned. At the federal level, he said, ”we did better. But it’s an open question whether we could’ve done better still.”

Which brings up another “compared to what?” question. Since the 2010 midterms, the path of economic policy has been quite different than what the White House would have preferred. The debt-ceiling brinksmanship derailed strong growth in 2011, for instance, and the American Jobs Act hasn’t come anywhere near passing.

It’s a fact of politics that presidents get more credit and more blame than they deserve for economic events, but it’s also true that when facing a divided Congress, they get more credit and blame than they deserve for the path of economic policy. There’s little doubt that Obama had more influence over the path of economic policy in his first two years, when we were working to avert a depression, than he has since the 2010 midterm election, when Republicans won the power to block most everything he wanted to do.

Perhaps not coincidentally, we seemed to have performed rather more impressively in 2009 and 2010 than we did in 2011 or 2012.