------------ EH.NET BOOK REVIEW --------------
Published by EH.NET (October 2005)
Todd A. Knoop, _Recessions and Depressions: Understanding Business
Cycles_. Westport, CT: Praeger, 2004. xiv + 289 pp. $55 (hardback),
ISBN: 0-8018-8203-6.
Reviewed for EH.NET by David Glasner, Federal Trade Commission.
Like its subject matter, the study of business cycles is itself
something of a cyclical phenomenon. Not surprisingly, attention to
this branch of economics varies countercyclically with the overall
rate of economic activity and procyclically with measures of economic
distress such as unemployment, bankruptcies, and the like. Thus the
volatile 1920s and the disastrous 1930s were a boon to business cycle
theory and stimulated the first serious empirical studies of business
cycles. Attention wandered in the prosperous decades after World War
II, but the troubled period from the mid-1970s to the early 1980s
stimulated another burst of intellectual activity focused on business
cycles. But that stimulus, too, wore off and interest flagged in the
late 1980s and most of the 1990s, with only an evanescent stock
market crash and a short and shallow recession in 1991-92 to keep
interest from evaporating totally. More recently, the rapid
succession of crises in Mexico, East Asia and Argentina, followed by
the bursting of the U.S. stock market bubble and the subsequent mild
but lingering recession in the United States, with the intractable
Japanese recession casting a lengthening shadow on the overall
landscape have combined to cause another upturn in interest in
business cycles. This useful book by Todd Knoop of Cornell College
(in Mt. Vernon, Iowa, not Ithaca, NY), provides a historical survey
of business cycles and of important business-cycle theories, as well
as an up-to date (2003) survey of recent cyclical events.
The author explains in the preface that the book grew out of an
upper-level undergraduate class in business cycles that he has been
teaching for some time. Because there was no text available for such
a course, Knoop began to type out and disseminate his class notes to
students and eventually those notes were developed into the book
under review, which is therefore aimed primarily at an audience of
upper-level undergraduates. Specialists or advanced graduate students
will find little in the volume that they don't know already, but
researchers in other areas who want a quick introduction to basic
approaches to cycle theories or the main empirical issues related to
business cycles may find the text to be of some value.
Knoop begins in Part I (Chapters 1-2) with a general descriptive
overview of business cycle facts and terminology. In Part II
(Chapters 3-9), Knoop turns to a survey of the leading business-cycle
theories. In chapter 3, lightly touching on a number of the
pre-Keynesian monetary and real cyclical theories, he presents at
greater length a stylized version of a Classical macroeconomic model
which, owing to its adherence to Say's Law, can account for periods
of generally falling employment and output, only by attributing them
to misguided government policies or adverse economic shocks. In
successive chapters, Knoop surveys the contributions of Keynesian,
Monetarist, Rational Expectations, Real Business Cycle, and New
Keynesian theories. Part III concludes with an excellent survey of
macroeconomic forecasting. Part III is devoted to an historical and
empirical survey of the Great Depression (chapter 10) and post-war
business cycles (chapter 11), and then considers (chapter 12) whether
our "new economy" is substantially less vulnerable to the business
cycle than the "old economy." Part IV surveys recent international
business cycle experience: the East Asia crisis (chapter 13), the
Argentine Crisis (chapter 14), and the Great Recession in Japan
(chapter 15). Some concluding observations are offered in chapter 16.
Although the book is generally well written, it does suffer from
sloppiness in thinking or editing, so that the exposition at times is
obscure or confusing. On a more substantive level, I was troubled by
tendency to present the basic business-cycle models in terms of
overly simplified assumptions and categories. The resulting
theoretical paradigms, particularly the Classical, Keynesian, and
Monetarist models turn out to be strawmen rather than realistic
presentations of historical models that real people actually believed
in.
For example, the "Classical model" is characterized by perfect
competition, a vertical short-run aggregate supply curve that
determines real output with the price level determined by the
quantity theory of money. Under the usual interpretation of Say's
Law, such a model pretty much rules out business cycles. This
interpretation, by the way, is one of the most persistent
misconceptions in the history of economic thought. No Classical
theorist ever denied, as belief in Say's Law presumably would have
required, that there could be and were periods of acute and general
economic distress, but there is no hint in Knoop's presentation that
there is a disconnect between his version of the "Classical model"
and what Classical theorists actually thought about business cycles.
And they really did think hard about business cycles or financial
crises or periods of acute economic distress. Moving on to Keynesian
theory, Knoop would have us believe that Keynes's fundamental
contribution was to recognize that the "classical" assumptions of
perfect price and wage flexibility and continuous market clearing
(neither of which were entertained by any classical theorist of whom
I am aware) were not really valid, inasmuch as labor markets are only
imperfectly competitive and workers are reluctant to accept piecemeal
wage reductions. Keynes, of course, went to great lengths in the
_General Theory_ to prove (whether successfully or not is another
issue) that even perfectly flexible wages could not achieve
macroeconomic equilibrium under conditions of deficient aggregate
demand. In the process, Knoop elides two decades of debate about the
nature of the Keynesian model and the conditions under which a
Keynesian underemployment equilibrium may or may not hold. It is not
Knoop's failure to summarize these debates that is troubling, but
that he provides not even a hint of their existence. Instead we are
told (p. 49) "Keynes believed that wages were not fixed, only sticky.
If given enough time, workers will gradually reduce their nominal
wage demands as they observe other similar workers taking nominal
wage cuts. This will reduce real wages and move the economy back
toward full employment. The problem with this approach, however, is
that there are no assurances about how long the process will take.
... In Keynes's opinion, policymakers cannot afford to wait patiently
for this process to work itself out in the long run because, in his
words, 'in the long run we are all dead.'" One is at a loss to know
whether Knoop really believes that this is the key theoretical
contribution of the _General Theory_, in which Keynes believed that
he had advanced far beyond the insight of his famous observation
(published twelve years before the _General Theory_ in the _Tract on
Monetary Reform_) about mortality in the long run, or whether such
details of intellectual history simply don't matter to the author.
According to Knoop, the Monetarist model assumes that wages and
prices are perfectly flexible, but, since expectations are adaptive
not forward-looking, wage and price adjustments are slower than
required to maintain output and employment at their "natural" levels.
It is possible to interpret Monetarism in this way, but it surely
does not accurately reflect how most Monetarists believed that
markets actually work. It appears that Knoop has projected backwards
onto earlier paradigms a style of theorizing associated with more
recent Rational Expectations, Real Business Cycle, and New Keynesian
theories. In a way, this projection allows Knoop to highlight certain
differences among his simplified paradigms. But in doing so, he
mischaracterizes what the earlier models and disputes were actually
about. Now it may be that Knoop's evident sympathy for the New
Keynesian explanations for sluggish wage and price adjustment have
led him to overstate the importance of wage and price rigidity in the
original Keynesian paradigm. Nevertheless, the belief that wages and
prices are not flexible was not, as Knoop implies, the key difference
that distinguished Keynesian from Classical or Monetarist economists.
Knoop's discussion of the development of Rational Expectations, Real
Business Cycle, and New Keynesian models seems to me generally more
accurate, and more helpful than his treatment of the earlier
paradigms. While his presentation of the newer models is even-handed,
he does not conceal his preference for the New Keynesian models over
the other two paradigms. While acknowledging that there are many New
Keynesian models that focus on the macroeconomic implications of
various sorts of market failure, Knoop attributes a greater degree of
consensus about theory and policy than I think is warranted. In
particular, I doubt his assertion (p. 109) that New Keynesians accept
that there is single natural rate of unemployment and that there is
no long-run tradeoff between inflation and unemployment. I would also
observe in passing that, by demonstrating the link between market
failure at the micro-level and aggregate demand failures that require
remedial macroeconomic policy, the New Keynesians have unwittingly
vindicated the insight embedded in the much reviled Say's Law. It is,
precisely as Say's Law teaches, a failure of supply at the
micro-level that triggers a cumulative failure of demand at the
macro-level.
Although Knoop's discussion of the Great Depression correctly
highlights the recent research that shows that the Great Depression
was largely the result of a breakdown of the international gold
standard, he fails to note that this view of the Great Depression was
espoused by a number of important economists at the time, most
notably Ralph Hawtrey and Gustav Cassel. In fairness, however, it
should be acknowledged that the early interpretations of the Great
Depression as a breakdown of the gold standard have by now been
largely forgotten. However, the exposition would have benefited
greatly if it had included an explanation of the fragility of the
post-World War I reconstruction of the gold standard and had
discussed the destabilizing role of the huge post-war international
transfers (repayment of U.S. loans to its wartime allies and
reparations imposed on Germany).
To close on a positive note, Knoop's discussion of the problems of
macroeconomic forecasting, whether through the use of leading
economic indicators, market indicators, or econometric models, is
highly informative and insightful. The final chapters on recent
international business-cycle experience are also generally well done.
Despite occasional lapses in exposition, this book should be
accessible to students, and they will gain a good deal of information
about, and a fair understanding of, business cycles from reading it.
However, this could easily have been a much better book than it is.
The views expressed by the reviewer do not necessarily reflect the
views of the Federal Trade Commission or the individual commissioners.
David Glasner is editor of _Business Cycles and Depressions: An
Encyclopedia_ (1997). Later this year Cambridge University Press will
publish the paperback edition of his book _Free Banking and Monetary
Reform_.
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Published by EH.Net (October 2005). All EH.Net reviews are archived
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