SF Fed: This Time It Really Is Different

Tyler Durden's picture

It appears that after months of abuse for their water-is-wet economic insights, the San Francisco Fed may have stumbled on to the cold harsh reality that this post-great-recession world finds itself in. The crux of the matter, that will come as no surprise to any of our readers, is credit and "its central role to understanding the business cycle". Oscar Jorda then concludes, in a refreshingly honest and shocking manner that "Any forecast that assumes the recovery from the Great Recession will resemble previous post-World War II recoveries runs the risk of overstating future economic growth, lending activity, interest rates, investment, and inflation." His analysis, which Minsky-ites (and Reinhart and Rogoff) will appreciate - and perhaps our neo-classical brethren will embrace - is that the Great Recession upended the paradigm that modern macro-economic models omitted banks and finance and this time it really is different in that the 'achilles heel' of economic modeling - credit - cannot be considered a secondary effect. His analysis points to considerably slower GDP growth and lower inflation expectations as he compares the current 'recovery' to post-WWII recoveries across 14 advanced economies - a sad picture is painted as he notes "Today employment is about 10% and investment 30% below where they were on average at similar points after other postwar recessions."


Credit: A Starring Role in the Downturn

By Òscar Jordà

Credit is a perennial understudy in models of the economy. But it became the protagonist in the Great Recession, reviving a role it had not played since the Great Depression. In fact, the central part played by credit in the downturn and weak recovery of recent years is not unusual. A study of 14 advanced economies over the past 140 years shows that financial crises have frequently led to severe and prolonged recessions. Shining the spotlight on credit turns out to be crucial in understanding recent economic events and the outlook.

From the Great Depression until the fall of Lehman Brothers, the United States did not experience any large-scale systemic banking crises. Modern macroeconomic models generally omitted banks and finance. But that did not seem to be a problem as long as the financial sector remained reasonably stable. In the waning years of the 20th century, there was ample support for such models. In the United States, output grew 4% annually, inflation ran about 2%, and unemployment was around 4%.

The Great Recession upended this paradigm. Attention has focused once again on leverage and excess credit—the “Achilles’ heel of capitalism,” in the words of James Tobin’s (1989) review of Hyman Minsky’s book Stabilizing the Unstable Economy. Of course, this was not the first such rude awakening. Economic history is replete with financial crises that force economists to relearn the role that credit plays in their genesis and aftermath. This Economic Letter reaches back 140 years, examining the experiences of 14 advanced countries, to document the enduring influence of credit in the economic fortunes of nations. Credit is critical to correctly understanding current economic events. The Great Recession broke the mold cast in the typical post-World War II downturn. The recovery appears to be following a different model as well.

The march of economic history is punctuated by a few landmark events. One worth highlighting is the dramatic explosion of credit that followed World War II. Schularick and Taylor (2012) show that, up until then, real private lending had grown apace with economic activity. After World War II, and especially when the Bretton Woods international monetary system broke down in the early 1970s, credit grew at about twice the rate of output. The outsized role played by the financial sector in the past few decades has become a focus of controversy in studies of the recent crisis and the post-crisis period.

A cursory review of the 2008 global financial crisis lends support to the notion that excess credit was the culprit. Countries that experienced the largest credit booms, such as the United Kingdom, Spain, the Baltic States, Ireland, and the United States, are experiencing the slowest recoveries. Economies that entered the recession with comparatively low leverage, such as Germany, Switzerland, and emerging market countries, have emerged from the downturn quickly. This raises a question: Is excess credit always a bad thing?

Credit and the boom

It is easy to cast excess credit formation as the villain while memories of near financial catastrophe are still so fresh. However, there is an important counterargument that must be considered. To the extent that a sophisticated financial sector improves apportionment of resources and pricing of risk, credit can result in better economic outcomes. Research by Jordà, Schularick, and Taylor (2011) supports this view. This work uses the excess growth rate of real private lending relative to real GDP growth per capita as a proxy for leverage. It finds that periods with higher-than-average leverage tend to be periods of higher-than-average economic performance.

For all 14 countries over 140 years, when leverage is above average, economic expansions last about one-and-a-half years longer and the cumulative increase in output is 4% higher. Focusing just on the post-World War II period, the differences are even more pronounced. High-leverage expansions result in 38% accumulated gains in output, compared with 28% for low-leverage expansions. They last 9.7 years and produce average annual rates of growth of 3.4%, compared with 8.9 years duration and 2.4% growth rates for low-leverage expansions.

It is difficult to separate cause and effect. Does faster credit formation lead to faster growth or is it the other way around? Even assuming credit facilitates growth, are these gains enough to compensate for deeper recessions and the occasional financial crisis? Let’s first consider the type of recession that follows a credit binge.

Credit and the bust

Is the intensity of credit creation in the expansion phase systematically related to the severity of the subsequent recession? And is there a difference between how credit behaves in an ordinary recession versus how it performs in a recession associated with a financial crisis? The answers to both questions appear to be yes, and therein lie the lessons that can inform the economic outlook.

Broadly speaking, in a financial crisis, a large fraction of banking system capital becomes depleted. However, directly measuring such an effect can be difficult. An alternative is to look at the responses to capital depletion. Laeven and Valencia (2010) argue that, in a financial crisis, the banking system experiences significant financial distress that compels banking authorities to intervene. Examples of such intervention include liquidity support, guarantees on bank liabilities, asset purchases, nationalizations, restructuring, deposit freezes, and bank holidays. All these occurred after Lehman Brothers failed. Some were implemented even earlier, with the sale of Bear Stearns.

Jordà, Schularick, and Taylor (2011) find that, regardless of the genesis of the recession, more leverage results in deeper recessions and slower recoveries. Moreover, in financial crises, leverage is associated with a steeper and more persistent decline in consumption as households try to repair their balance sheets. Since consumption constitutes more than two-thirds of GDP, it is not surprising that losses in output follow a similar pattern.

Weakness in incomes and the process of deleveraging put downward pressure on prices, even in an environment of lower-than-normal interest rates that lasts several years. Looser monetary conditions take a long time to gain traction. During the first year of the recession, private real lending declines by a similar amount regardless of whether the genesis of recession is financial or nonfinancial. However, it takes on average about five years before lending approaches its pre-recession levels in recessions associated with financial crises, while lending usually recovers more quickly in nonfinancial recessions.

Simultaneous declines in the price and the quantity of credit are considered standard features of shrinking demand for credit. Such declines would be consistent with the behavior of consumption and prices noted earlier. However, Jordà, Schularick, and Taylor (2011) only collects data on interest rates for government securities, not for interest rates charged to private borrowers. Typical “flight to quality” responses of panicked investors into government securities and rationing of credit instead of market-clearing interest rates are examples of developments common in financial crises that can complicate credit trends.

In the current environment of lower-than-normal interest rates, it is perhaps investment, measured as a percentage of GDP, that has suffered the steepest and most persistent declines. Investment is the variable that fluctuates most over the course of the business cycle. Normally, investment recovers within two years of the start of the recession. However, it takes substantially longer, often several more years, for investment to recover in a financial recession. That has serious consequences. A slower pace of capital accumulation usually is detrimental to the long-run productive capacity of economies.

Lessons for the outlook

We are unlikely to learn how the United States will recover from the Great Recession by examining other post-World War II downturns. In the United States, the past six decades have completely lacked another financial event like the one experienced from 2007 to 2009. Two examples of how the economy has fared since the start of the 2007 recession illustrate this.

Figure 1 shows employment and Figure 2 investment in the 17 quarters following the start of the average post-World War II recession and the 17 quarters since the onset of the recent recession. These figures display how much more severe and prolonged the falls in employment and investment have been in the most recent recession and recovery, eclipsing anything else observed in the United States during the post-World War II period.

Importantly, a year into the recent recession, conditions did not seem substantially different than the average post-World War II downturn. But the financial crisis that followed the fall of Lehman Brothers appears to have extended the recession by an extra year and sunk the economy to extraordinary depths. Today employment is about 10% and investment 30% below where they were on average at similar points after other postwar recessions. Much of the slow recovery in investment is in structures and residential housing, as might be expected. However, investment in equipment has also rebounded somewhat more slowly than in previous recoveries.

What do the diverse histories of 14 advanced economies tell us? Quantifying the leverage built up in the 2001–07 U.S. expansion, we can compute how much the financial crisis is weighing on the recovery relative to the norm. Data on leverage leading up to the Great Recession and the Jordà, Schularick, and Taylor (2011) analysis suggest that, even years after the recession ended, economic performance should be subdued, as we are now experiencing.

Consequently, economic forecasts should take into account the effects of the recent financial crisis. Compared with the average U.S. post-World War II recession, the forecast for real GDP should be lowered 0.6–0.8 percentage point in 2012, 0.5–0.7 percentage point in 2013, finally returning almost to normal by 2014. Similarly, inflation forecasts should be revised down between two-thirds and a full percentage point over the next three years. Professional forecasters appear to be making these types of adjustments.


Any forecast that assumes the recovery from the Great Recession will resemble previous post-World War II recoveries runs the risk of overstating future economic growth, lending activity, interest rates, investment, and inflation. The data suggest that, this time around, credit cannot be considered a secondary effect. The interaction between the financial system and the real economy remains a weak spot of modern macroeconomic modeling. A careful analysis of 14 advanced economies over 140 years—data that extend far beyond the narrow post-World War II experience of the United States—reveals that the role of credit is sometimes central to understanding the business cycle.

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LawsofPhysics's picture

No shit, simply more proof that every eCONomist should be fucking shot.

Tell us somthing that we don't know, please.  

francis_sawyer's picture

ECONomists can keep writing their useless papers... Others can keep stacking...

theMAXILOPEZpsycho's picture

Something needs to be done for the poor. Property rights have their place in the good times, but I fear for all those americans on food stamps. Some can't even aford to go to the cinema thanks to the oil speculators. Others have to move out of their own apartment and back in with their parents or ask friends to give them rides. Its just not fair, plain and simple.

LFMayor's picture

Something needs to be done.  It's that line of horse shit that got us into this goddamn mess.  Progressives, busy to play at god to assuage their nagging inadequacies, decided that they could better mankind.  This used to be called philanthropy, and the uber wealthy gave back.  But then the progressives, seeing these people feel good about themselves and yearning to do the same, attempted it.  Alas, they were lacking money and in most cases the means and sense to produce it, so instead they decided to confiscate the earnings of others in order to salve their inadequate little egos.

How about this for doing something?  Put and end to the artificial Darwinian Interrupt.   Let the consequence of poor choices, be they lifestyle, substance abuse, or pursuit of tainted ideology, be the arbiter of success and reward.

The great leveling is at hand.  Play well, and live.

Ultros88's picture

In general agreement with the understanding that progressive initiatives as expansions of government are idiotic and ultimately counterproductive. The prime issue, I believe, is not so much the social 'safety-net' benefits but rather the excessive regulations that prevent independent productive initiatives. Poor people can, usually, do things that would enable them to make money but if, say, some woman wished to sell bread she baked at home... then some agents would eventually come a knockin'.

Government is severely bloated. It needs to be reduced to an enforcer of contract law, where there can be no 'hidden' or coerced contracts. If I want to cook and sell spam-burgers in a dirt floored shanty wearing only a loin-cloth, then I ought to be able to do so... you wouldn't have to eat my spam-burgers if you didn't like the hiegene standards, and I'd be sure to have a nice little notice saying that by entering my shack you agree to not hold me liable for any damages. Kinda like for sky-diving or something.

Upholding a simplified version of contract law ought to be entirely sufficient for efficient and proper governance. There is no public anyways, everyone is private. All governemnt is contract also, but you and I never signed up for any of the garbage we apparently have but our names to.

Winston Churchill's picture

Darwin has already solved that problem,progressives have

merely delayed nature.

CPL's picture

Paper burns nicely in Ivory towers.

TruthInSunshine's picture

There's a simple point lost on most as the charlatans of fractional reserve banking attempt to survive by being just "transparent" enough to deflect criticism of being the 'wizard of Oz' (the Fed's PR campaign hasn't really succeeded, though), and yet intentionally obfuscate enough to preserve even a modest notion among the public that they are the only ones competent enough to nurse an ailing global economy and foster anything remotely resembling economic stability and sustainability (which is not only a fallacy, but a perversion of the most fraudulent kind):


Economic stability and sustainability (and true wealth creation) depends not on how much fiat is created in an attempt to foster confidence and paper over the structural pot holes of the foundation of an economy, but rather, on how many additional units of marginally positive and desired things (i.e. real value/wealth) can be created by any given society.

We've seen the pattern and progression of the following correlative to know there is a cause & affect relationship at work:  As the charlatans of currency creation/dilution and their minions take over a greater % of the economic output of any given nation/society, a greater and greater % of that nation's/society's economic output, as measured in any real metric of value, is suppressed or permanently destroyed.

Wall Street and the banking/financial sector at large, being a literal minion of fractional reerve banking mechanics, nursed and subsidized at the expense of and off the teat of the productive sectors of the economy, will always and forever be the parasitic drain that puts its host (the rest of the nation) into shock, and if left unchecked, economic death, when fractional reserve central banks are allowed to set the rules of the game and control the volume of monopoly fiat.

jus_lite_reading's picture

>>""Today employment is about 10% and investment 30% below where they were on average at similar points after other postwar recessions.""<

Maybe that's because this is not a F$%^ing RECESSION BUT A DEPRESSION!!!


francis_sawyer's picture


"Any forecast that assumes the recovery from the Great Recession will resemble previous post-World War II recoveries... BLAH BLAH BLAH..."

...has no concept of exponential functions (there ~ fixed it)...


NotApplicable's picture

Say... is that a ZIRP in your pocket, or are you just happy to see me?

MunX's picture

Trust me. They know just as much about exponential functions and limits. Everything is going according to plan. Problem, reaction, solution.

Offtheradar's picture

My local grocer lets me buy beer and cigs with my snap card.  WooHoo!

NotApplicable's picture

A long-time restaurant owner was caught a few years ago laundering SNAP cards, but since his place had been part of the local landscape for so long, he did not lose his business license.

It did explain his competitive pricing, though.

Offtheradar's picture

People junking me ---- Its a fucking joke!  I only use my snap card for condoms and weed.  Take it easy on me....

Pure Evil's picture

Well, ok, at least your not buying crack and meth with your snap dollars.

Most important of all, any leftover funds at the end of the month should go back into the campaign to re-elect your glorious National-Socialist leaders.

Offtheradar's picture

OK, you got me.  But just a little crack here and there.  The meth is for my sister, I promise!

q99x2's picture

A parasitic Financial sector representing the bulk of the economy during this recovery sort of corresponds to the dangle of the angle. No?

Cognitive Dissonance's picture

This type of report is "allowed" to be produced simply to "produce" plausible deniability. As in "we really really are trying to understand what's going on" plausible deniability. Expect the Fed and all other central banks to print themselves, and us, into oblivion.

The seriously addicted is often quite aware of his or her addiction and it's solution, that being simply to stop. Sadly, this knowledge still doesn't prevent them from taking another drink or drug. The Fed and the other CB's are no different that your local junkie/pusher.


NotApplicable's picture

It's that good ole controlled dissent. Without it, two things would happen. First, there would be a hole which would fill from natural dissent (ala ZH), attracting attention away from the circus (Can't have that, can we?). Second, it would make the circus appear less credible (especially in hindsight, another undesirable outcome).

So, they critique their own flaws, while wrapping them in the plausibility you mention. That way, when it comes time to write the history, they've got a narrative filled with conventional wisdom to rely upon.

Cognitive Dissonance's picture

"That way, when it comes time to write the history, they've got a narrative filled with conventional wisdom to rely upon."

Exactly. Ever notice how "former" leaders quickly write their memoirs. Aside from the obvious payoff from the several million dollar advance, the real purpose is to fill in the glaring gaps and to revise embarrassing omissions in the conventional wisdom.

The thing we often forget is that the official story doesn't need to be flawless or even logical. Just plausible enough to those who want to believe. Because if the faithful were to lose faith........well, that way be dragons. So it doesn't take much to keep the choir on key and in sync.

It is only when you break ranks that the music is suddenly recognized as glaringly shrill.

NotApplicable's picture

I'm still amazed at all of the people who would sooner spit on a politician than vote for one, yet they are still well within the ranks.

It always comes out the exact same way. We'll be talking about something, when suddenly I hear, "How can [politicized group/person] be smart enough to understand [complex subject] but be so dumb as to not see [obvious risk of catastrophe]."

The only answer I've found that works is to tell them to replace the political group with a more recognizable group, the mafia. Then I ask them to repeat the question. Then they start to understand they've inserted their own goals into the minds of others, based upon the matching rhetoric.

While it doesn't help them to break ranks immediately, given enough applications over various topics, they start to realize the underlying truth. Of course, all of this leads to having to address their own cognitive dissonance, and most minds are too trapped to make the move, as it would destroy their entire self-image.

Thing is though, I'm seeing more and more people starting to realize that they're running out of alternatives. Guess we'll have to wait and see how it all plays out, huh?

Bartanist's picture

The answer is pretty obvious, since individually people feel helpless to alter the course and power of a coordinated effort that has been establised for what appears to be "forever"... or at least much longer than our lives.

Everyone within the system seems to have been corrupted or co-opted, which speaks to the power of the force behing the conspiracy. IMO, the only sensible options are to join it or find salvation within, which does not involve fighting a foe that wants you to fight it... and in doing so corrupt you.

This too shall pass. Eventually the infighting will start and if we are all around to see it, we can dance on their graves if we are so inclined. 

Mr. Lucky's picture

More Jekyll Island psyops.  Rinse and repeat.

mayhem_korner's picture



Are the gray shaded areas the 2-sigma ranges around the averages, or something else?

Cognitive Dissonance's picture

The gray shaded areas roughly demark the boundaries of fiat hell.

We now return you to your previously scheduled programming already in progress.

buzzsaw99's picture

Bullshit. The SF fed only cares about increasing the wealth divide via kleptocracy.

tony bonn's picture

"Today employment is about 10% and investment 30% below where they were on average at similar points after other postwar recessions."

i prefer to get my employment statistics from john williams. in one respect, this time is the same as the 1930s - an unnecessarily protracted economic depression with ups and downs but largely lateral performance propelled by incompetent, foolish, and knavish kleptocrats. there will be no recovery until bad investments are liquidated and the cancer banks are dismembered.

europe is about one hifreq trade away from explosion and the tidal waves will wash upon our shores.

Ted Baker's picture


NotApplicable's picture

Are you aware that nobody reads ALL CAP posts? Not only is it too difficult to recognize words, but it tells people that it isn't worth reading as the author has no interest in being heard.

Also, on the rare occasion I do read them, I read them in the computer voice of the National Weather Service (They print forecasts in all caps, I guess so more people will ignore them?).

Stoploss's picture

"Yes, having crossed into exponential territory has further aggravated any resemblance of any comparison to any event previously encountered, due to the sheer amount of excess leverage, incurred by institutions, with no regard for law, proper accounting standards, nor share holder interest."


Did yall leave that out??


Cognitive Dissonance's picture


Looks like we got the redacted version. Can't wait until 2112 to read the full paper.

Head_Shots_Work's picture

Let's bring back the 'Coinage Act of 1792' - in regards to the devaluation of our currency:

Penalty on the debasement of coinage:             

      Section 19.  And be it further enacted, That

                    if any of the gold or silver coins which

                    shall be struck or coined at the said mint

                    shall be debased or made worse as to the

                    proportion of the fine gold or fine silver

                    therein contained, ...through the

                    default or with the connivance of any of the

                    officers or persons who shall be employed at

                    the said mint, for the purpose of profit or

                    gain, or otherwise with a fraudulent intent,

                    ... shall be deemed guilty of felony,

                    and shall suffer death.

NotApplicable's picture

I'm sure they would all bet their lives on the quality of gold and silver eagles.

They would just claim that Fed Notes are not covered by this act (which they aren't).

Mr Lennon Hendrix's picture

Key phrase:  Lower inflation

Meaning what?  You know the drill!  Rev the presses!

See, economists still believe that credit based on a fiat standard has value.  It does not.

buzzsaw99's picture

After spending trillions buying bad assets banker bonuses are back to all time highs so all is well in our opinion.

carbonmutant's picture

Interesting that the FED's estimate of unemployment is higher than the BLS...

carbonmutant's picture

"modern macroeconomic modeling"

Ah, this is the source of the problem!

kraschenbern's picture

The article contained NOT A WORD about the moral hazard consequent to making bad debt a burden of the taxpayers.   The Great Debacle we're now in will continue until bad debt, and bad debtors are cleared from the market. 

NotApplicable's picture

Well of course not! Debt is our glorious burden, as it binds us all to society.

Oh, and instead of saying taxpayers, the correct label is dollar holder (or user). Taxation is merely the fine-tuning mechanism of the divide and conquer machine. Everytime you use it instead of dollar holder, you further fuel the machine.

Why so? We could tax everything and will still not make a meaningful reduction in debt. Besides, right now, less debt equals less money, and the ponzi cannot go on further in that fashion. It demands subsistence from all users of it, not merely those who are directly taxed.

kraschenbern's picture

You make a subtle but excellent point.  Barter whenever and wherever possible.

SDRII's picture

'To the extent that a sophisticated financial sector improves apportionment of resources and pricing of risk, credit can result in better economic outcomes." [snip]

How about a chart of stock market listings vs. the growth of derivatives (Jun-03 $150T to $700T plus





SheepDog-One's picture

'Since recovery from 'The Great Recession'....AHHH HA HA HA these clowns really crack me up!

Centurion9.41's picture

It is a sign when members of the mob start singing.

Anyone who thinks the CB/Bankster cabal dont "war game" the exact same economic theories, philosophy, & assertions found on ZH, are fools.  The fact is they do, you just don't hear about it.

Remember, the CB & banks are private entities that are acting off of the same exact incentives as the mob.  The only difference is the depth of relationships with politicians, businesses and the courts.

So, what's interesting is not what is said but why they are choosing to allow it to be said now and from this source....


Clowns on Acid's picture

Sacre Bleu ! The SF Fed is just NOW realizing the overextension of credit as an inportant variable in the "equilibrium" of an economy?

Y'mean that all those Fed meetings with BenDover Bernanke no one has ever broached this topic? When Frankin Raines, Barney "he made me bite the pillow" Frank and Chris "brown bag" Dodd wrere exclaming that Fannie and Freddie were AAA, were the feck was Oscar Jorda and Janet "the Red" Yellen when all of this was going down?

Janet the Red and Bendover did not cover "credit expansion" when they were studying the Great Depression so closely??

This is CYA time for these left wing fuck knuckles.  Where is the accountability for failure for these arseholes with exponential levels of fatal conceit?? 

Bartanist's picture

Employment where? In China? There is no business base and banks and government regulation (paid for by large business lobbyists) have squeezed our small business start-ups.

Investment where? In China? Like, people are going to throw their money into more cyber-spying companies. What is the point? There is no US asset base to invest in (unless you count the excess of ETF synthetic CDOs and other eerivatives. Not exactly productive, people employing assets) ... only fraudulent and fake assets, pumped up by the banks and their free money. It is too expensive for people to invest in.

But, it is nice of the Fed governor to put on the acting job and PRETEND that this is not the entire point of it all. I am sure he got roped into being a tool of Satan just like the rest of them. One day someone came up to him and told him that he was better than the rest and should align with those who were more like him... TOOL!