Star Economist Says Pandemic Savings Buildup May Boost Recovery

(Bloomberg Markets) -- Emi Nakamura, an economics professor at the University of California at Berkeley, was awarded the John Bates Clark Medal last year. The American Economic Association gives the medal annually to the “American economist under the age of 40 who is judged to have made the most significant contribution to economic thought and knowledge.” Nakamura’s work focuses on macroeconomic policy and business cycles, deploying novel datasets and empirical techniques to reexamine long-standing assumptions that have undergirded mainstream economic models for decades. Nakamura spoke with Bloomberg Markets in late August about how this perspective has become increasingly relevant as the pandemic has forced policymakers to throw out their old playbooks.

MATTHEW BOESLER: How has your work helped you think about the economic upheaval brought about by this pandemic?

EMI NAKAMURA: Well, one of the things I guess that wasn’t surprising to me in this period was that the adjustment happened a lot on the margin of employment and not very much on the margin of prices. For the most part, people who work on this topic weren’t expecting to see a very dramatic change in inflation. And that was true. That was sort of in line with the evidence that we’ve seen from the last recession and earlier recessions. The speed of adjustment of prices to these kinds of events—and wages—is just very muted and gradual.

And then another thing that’s related to work that I’ve been doing—and it’s also related to the [Aug. 27] Fed announcement at Jackson Hole [updating the Federal Open Market Committee’s longer-run goals and monetary policy strategy]—is this question of whether we should see business cycles as symmetric fluctuations around some kind of a natural rate of unemployment. That’s the traditional view in macroeconomics that you would see taught in Economics 100: that there’s some kind of long-term trajectory of growth, and we’re just fluctuating symmetrically above and below it.

But an alternative view is that it’s not symmetric, above vs. below, and instead you should view business cycles as more like shortfalls relative to an efficient level of output, and that there isn’t a symmetric sense in which you go above potential output.

The data is asymmetric in the sense that the increases in unemployment that happen during a recession tend to predict a subsequent fall in unemployment during the recovery, but the reverse isn’t true. Whenever you see these reductions in unemployment that happen during a recovery, they tell you nothing about the size of the next recession.

There were kind of two big ideas in Fed Chair Jerome Powell’s Jackson Hole speech. One of those, which was very interesting to see, was this idea that they were not going to be as aggressive in responding to deviations of unemployment below the natural rate. So it seemed to be in line with [what economist Milton Friedman called a] “plucking” view of the business cycle, that there’s an asymmetry between recessions—which represent these plucks—and expansions, which are really more like recoveries to a more natural state of the economy.

MB: Fiscal policy was rising in prominence relative to monetary policy well before this crisis, but now it seems the conversation has really changed. The fiscal response has been unprecedented: For the first several months of the pandemic at least, the government was able to fully maintain the pre-crisis trajectory of growth in household incomes through these very generous unemployment insurance payments. What should be the takeaways from that for our understanding of business cycles, and what is possible when it comes to stabilization policy?

EN: Well, one of the things that strikes me is that even though this policy has been called a fiscal stimulus, it feels very different. To me, one of the most important things about this recession that’s different from earlier recessions is there’s been a huge amount of restraint on the extent to which people can buy things and the extent to which people can work. Particularly the fact that there’s all this restriction on what people can buy means that it doesn’t really feel like this recession is exactly a demand shock or a supply shock.

A demand shock is when you don’t want to buy things because you have adverse expectations about the future or other reasons. A supply shock is when people become less productive. But this is a situation where there are a lot of restrictions on buying. There are lots of people who would have traveled this summer, and they can’t travel. They can’t go to restaurants and so on.

But the consequence of that in terms of fiscal stimulus is that it feels much closer to social insurance than sort of standard fiscal stimulus, in the sense that you’re giving people money so that they can kind of maintain their levels of wealth and income and so on. But you can’t really expect the same responses in terms of spending, obviously, because in many ways they’re restricted from doing the same spending that they would normally do.

Now, I think that when more of those restrictions on spending go away, then the truly unusual feature of this recession—that there’s actually this massive increase in savings—is going to make a big difference in terms of how the recovery looks. I mean, this is a really unusual thing.

During a recession, it’s not typical that people are building up these quite large buffers of savings. Not only at the very top of the income distribution, but actually down into the median of the income distribution, one sees accumulation of savings. And at the point where people are able to spend in a normal way, I guess one optimistic thing one can say about this business cycle is that certainly seems like it would allow for more possibility of a recovery.

MB: We’ve seen a lot of people have used that money, for example, to pay down debt. And so part of the question is just, why don’t we always do this in recessions? It seems like a good model. Does it change the way we think about fiscal stabilization going forward?

EN: So, before the last recession, the way we always talked about it—you know, we didn’t even learn very much about fiscal stimulus or the social insurance part of it at all until recently in grad school. And that was partly because, most of the time, these things take a long time to pass through Congress, or that was sort of the conventional wisdom. So the view was that fiscal policy of these types was just kind of too slow to respond effectively to recessions. That was the reason why monetary policy would be a tool of choice.

Then in the last recession, when interest rates hit zero and so on, the view was that, OK, now we’re in a situation where monetary policy can’t really function, and this is part of the motivation for why we need to think much more about fiscal policy.

I think there are two potential benefits of this kind of policy. One is stimulus, in the sense of getting back to the natural rate. And the second benefit is some kind of social insurance function. My sense is that this recession has been one where the social insurance benefits are particularly salient because of the fact that the shock has felt like it’s so targeted toward certain groups. There are people who can work from home, and then there are other people who can’t. And it’s a little bit idiosyncratic. If you’re in the airline industry or you’re in the hotel industry, you’re obviously much, much worse hit than people who are in other industries. And so I’ve felt like this has been particularly salient in this recession, the sort of sense of randomness in some people’s careers being completely destroyed and other people’s not.

But that said, I think there’s a general logic for social insurance, and there are other countries in the world that have much more of it than we do. But it has been sort of gratifying that in this recession, a big part of the stimulus really has gone to lower-income people, and it’s helped cushion the blow for that group of people that’s been particularly adversely affected by the shock.

Boesler is an economics reporter at Bloomberg News in New York.

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