The Shadow of Depression

BERKELEY – Four times in the past century, a large chunk of the industrial world has fallen into deep and long depressions characterized by persistent high unemployment: the United States in the 1930’s, industrialized Western Europe in the 1930’s, Western Europe again in the 1980’s, and Japan in the 1990’s. Two of these downturns – Western Europe in the 1980’s and Japan in the 1990’s – cast a long and dark shadow on future economic performance.

In both cases, if either Europe or Japan returned – or, indeed, ever returns – to something like the pre-downturn trend of economic growth, it took (or will take) decades. In a third case, Europe at the end of the 1930’s, we do not know what would have happened had Europe not become a battlefield following Nazi Germany’s invasion of Poland.

In only one instance was the long-run growth trend left undisturbed: US production and employment after World War II were not significantly affected by the macroeconomic impact of the Great Depression. Of course, in the absence of mobilization for WWII, it is possible and even likely that the Great Depression would have cast a shadow on post-1940 US economic growth. That is certainly how things looked, with high levels of structural unemployment and a below-trend capital stock, at the end of the 1930’s, before mobilization and the European and Pacific wars began in earnest.

In the US, we can already see signs that the downturn that started in 2008 is casting its shadow on the future. Reputable forecasters – both private and public – have been revising down their estimates of America’s potential long-run GDP.