Bye-bye Great Moderation

Who remembers the 'Great Moderation'? That period of unusually stable macroeconomic policy in advanced countries, when interest rates were remarkably low, inflation was just a distant nightmare, and markets were steady. Good days, eh? The reduction in volatility that marked the Great Moderation began as early as the 1980s and lasted until the Great Financial Crash (GFC) of 2008. It went on so long that some economists started to think it was a permanent feature, despite the universal rule that nothing is forever. The US National Bureau of Economic Research calculated that after 1984 the US only experienced two relatively mild recessions until the GFC. In the 15 years since the GFC we have lived through the complete opposite of the Great Moderation. What should we call it? The Great Rollercoaster? Just as it was a mistake to think the Great Moderation was permanent, it would be an error to think the Great Rollercoaster is forever. But we will exit the Great Rollercoaster into a very different world, in which the assumptions of the past have been up-ended, including what constitutes money and how value is determined.

The Great Moderation

Age of uncertainty

Several factors ended the Great Moderation. The GFC was the prime cause. It prompted central banks and governments to commit policy errors such as flooding financial systems with vast amounts of newly created fiat currency, known as Quantitative Easing (QE). In reality QE did little more than prop up zombie companies and 'rescue' banks that had failed., and accelerate the devaluation of fiat currencies. Hard on the heels of the GFC came Covid-19 and enforced government lock-downs, from which global supply-chains hardly had time to recover before war broke out between Russia and Ukraine, which delivered an enormous shock to energy markets. The Middle East is now more volatile than for years. In the midst of all this the world is trying at vast cost to decarbonize.

As the Great Moderation fell apart, the benign politics which accompanied it have collapsed too. In 2016 twin electoral wins for Donald Trump and Brexit astonished some opinions. In the seven years since then Georgia Meloni has risen to power in Italy, the right-wing AfD party in Germany is doing well in the polls, in France Marine Le Pen is now more popular than Emmanuel Macron, and now Geert Wilders, another anti-immigration populist, leads the largest party in the Dutch parliament after elections. Despite allegations of human rights' infringements President Erdogan has held onto power in Turkey, in China President Xi seems untouchable, and in Saudi Arabia Mohammed bin Salman is firmly in charge. Perhaps symbolizing US frailty, the national Christmas tree outside the White House was blown over by gusts of wind this week. We seem to have moved not just from an "age of plenty" into an "age of scarcity" (as J. M. Keynes put it in his 1940 essay How to Pay for the War) but into an age of uncertainty.

Half a loaf

In the spring of this year the highly respected former economic adviser to the Bank for International Settlements (BiS) William White published a paper titled The Case for Pessimism, in which he outlined the range of economic problems facing the world. Higher spending on guns and butter seems "likely to rise"; the costs of climate mitigation measures to achieve net-zero global greenhouse emissions by 2050 will be $4 trillion or about 6% of global gross domestic product (GDP) in 2023. Rising welfare costs (as a consequence of aging populations) will add to already heavy debt burdens. The implication of White's essay is that today we face a new war; how can we pay for it?

Almost inevitably he proposes "tax reform favoring investment over consumption" with "increased fiscal expenditures, associated with climate change and other high priorities...would be paid for by higher taxes/lower tax expenditures designed to fall specifically on consumption by the wealthy." What constitutes "wealthy" is undefined. Politicians "must lead the way even if it hurts their chances of reelection. Vested interests must cease to resist reforms that are in the public interest. Ordinary citizens must accept that...their only choice is between 'half a loaf or no loaf at all.'" White is a realist; he adds that these "requirements are difficult and unlikely to be met in practice..."

The half a loaf recommendation may be sensible but will be rejected by electorates everywhere. Young voters can see that their elders enjoyed a whole loaf - so why can't we? The Great Moderation has given way to the Great Rollercoaster, which one day will come to a halt. But until then - and no-one can know when that might be - we all need to strap ourselves in for the ride.