- The Washington Times - Wednesday, April 4, 2007

Talk about making a mountain out of a molehill — and a cardboard mountain, at that. In the last month or so, the media pitted Federal Reserve Chairman Ben Bernanke against former Fed Chairman Alan Greenspan about the chances of a U.S. economic recession this year. “Disagreement” was the pitch word of the day. Financial markets shivered.

On Feb. 26 Mr. Greenspan, speaking via satellite to a business group in Hong Kong, said: “When you get this far away from a recession, invariably forces build up for the next recession, and indeed we are beginning to see that sign. For example, in the U.S., profit margins … have begun to stabilize, which is an early sign we are in the later stages of a cycle.” He subsequently put the chance of a 2007 recession at 1 in 3.

Testifying before the congressional Joint Economic Committee (JEC) on March 28, Mr. Bernanke said, “Overall, the economy appears likely to continue to expand at a moderate pace over coming quarters,” adding that the forecast is subject to risks.

Is there really a conflict? There is always some possibility of recession, though Mr. Greenspan certainly didn’t predict one. Indeed, he implied the chances are 2 out of 3 that the current economic expansion would continue. That’s not bad.

Mr. Bernanke’s testimony didn’t give odds on the likelihood of continued expansion, but a prediction of only moderate growth subject to error doesn’t rule out at least some chance of recession.

All in all, there was no significant difference between the two forecasts. They are both slow-growth scenarios, consistent with most economists’ predictions. The so-called disagreement was the construct of a media trying to create some news.

However, there was a difference, quite real, in the two gentlemen’s remarks. Mr. Greenspan believes economic expansions contain the seeds of recession. In the latter stages of the business cycle, forces “invariably” build that lead to contraction.

In a 2004 speech then-Chairman Greenspan said, “So long as markets are free and human beings exhibit swings of euphoria and distress, the business cycle will continue to plague us.” He did acknowledge, however, that “flexible economic institutions appear to significantly ameliorate the amplitude and duration of the business cycle.” His September 2005 satellite address to the National Association for Business Economics was quite explicit: “The business cycle has not disappeared.”

Sen. Robert Bennett, Utah Republican, recalled as a member of the Banking Committee asking Chairman Greenspan if the business cycle had been repealed. Said Mr. Bennett, “Chairman Greenspan smiled that wry smile of his and said: ‘No, Senator, we have not yet repealed the business cycle, and there will be a correction, a recession — call it what you will — at some point in the future. We cannot predict when and we cannot predict how deep, but it will be there.’ ”

Taking a different view, Mr. Bernanke told the JEC last month, “There seems to be a sense that expansions die of old age, that after they reach a certain point, then they naturally begin to end. I don’t think the evidence really supports that. If we look at history, we see that the periods of expansions have varied considerably. Some have been quite long.”

But the issue isn’t the length of expansions but whether they naturally end and give way to recessions. Mr. Bernanke’s phrase, “periods of expansions,” means they’re interrupted, and we all know what the interruptions are called. Indeed, the business cycle has been endemic to our free economy throughout its history.

As economic Nobelist Paul Samuelson once said, when it comes to business cycles, “We are not on a path to Nirvana.” It’s uncertain how many cycles in U.S. history were “natural” due to aging, or “unnatural.”

Expansions can die for reasons other than senescence, whether because of shocks, bubbles, government policy, or a host of other causes, and Mr. Bernanke is not denying that nonaging factors can lead to recessions. Nevertheless, he and Mr. Greenspan appear to adhere to different views of the business cycle — and there are plenty to choose from. The business cycle is complex, and economists have yet to come up with persuasive evidence that puts competing theories to rest.

In Mr. Bernanke’s defense, some people feel it’s part of the Fed chairman’s job to create positive expectations consistent with economic reality.

Expectations can be self-fulfilling and positive expectations promote economic health. By saying expansions need not die of old age, he bolsters confidence and reduces the chances of a recession. It’s a psychological shot in the arm, and that’s something markets can use these days.

Alfred Tella is former Georgetown University research professor of economics.


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