ROBERT LUCAS recently gave a very interesting interview. He comments on a host of important macroeconomic issues, but I was intrigued by his musing on the causes of business cycles. Mr Lucas says:



Noah Smith describes the conclusion to which Mr Lucas has apparently come:


Mr Lucas wouldn't be alone in thinking that "financial shocks" are responsible for different sorts of downturns and recoveries than are normally observed (though many would disagree that "real shocks" are responsible for the others". Carmen Reinhart, Vincent Reinhart, and Kenneth Rogoff have contributed to recent work exploring the dynamics of financial crisis-related cycles and have argued that they may be different from garden variety downturns. Richard Koo carves out a special case for the "balance-sheet recession". And so on.

Are there multiple types of recession? In one, trivial sense the answer is yes; every recession befalls a different economy in a different way with different outcomes. In another sense, however, Mr Lucas probably had it right the first time.

Consider the most recent American business cycles. Whether or not it looks "different" depends very much on the perspective one adopts. Consider the following two images (taken from the Minneapolis Fed's very convenient recession and recovery perspective tool):


Based on these images, one might easily conclude that there are in fact two kinds of recessions: those before 1990 and those after.

And I think that there's something to that, actually. There will always be interesting idiosyncracies associated with a given business cycle. But there is enough similarity between downturns, across eras, that it seems reasonable to assign to them a common cause. I'd venture that, to a first approximation, a recession occurs when the monetary authority is confused into thinking that monetary policy is looser than it actually is. Based on these images, one might very easily conclude that there are indeed two kinds of recession: those that occurred before 1990 and those that occurred after.

You might then get changes in the shape of downturns across time, depending on the prevailing source of the confusion. One such shape-shift occurred following the Volcker recessions of the early 1980s, after which the Fed successfully achieved a low and stable rate of inflation with a long-run disinflationary bias. If one assumes that the short-run Phillips curve looks the same at inflation rates close to zero as it does at higher inflation rates, one can easily mistake too-tight policy for adequate policy, because one will observe a weakening of the relationship between high unemployment and disinflation as the rate of inflation falls to zero. (And of course, one runs into an additional risk, that of hitting the zero lower bound.)

Maybe this time is different. Given the empirical challenge presented by macroeconomic analysis, it's probably worth assuming that this time isn't different until and unless you can decisively reject that hypothesis. It's just too easy to come up with just-so stories for single episodes; once one starts falling for such seductions, one may become forever lost in an empirical wilderness where nothing can be known with any certainty. It's best to pretend that reality isn't like that; if it isn't then you're in the right and if it is then it won't matter because policy prescriptions are useless.