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March 30, 2005
Soft Landing, Or Hard: How Do We Know Who Wins?
Something has been bugging me about this hard-landing/soft-landing discussion: What, exactly, are we talking about? In particular, what would constitute a "hard landing"? An outright recession? A really severe one -- like 73-75 or 81-82? Or even a relatively mild and short-lived downturn, like 90-91 or 01?
Or would you call it a hard landing if the U.S. economy were to grow, but substantially below trend? If so, for how long? Or, perhaps, you would call it a hard landing if the adjustment process results in substantial capital losses, even if the effect on overall economic activity is muted (as in the stock market "crash" of 87)? How persistent do those losses have to be to constitute a hard landing?
I herewith solicit your opinions on this. If you are a blogger and choose to post your answer on your site, I will dutifully link to it.
March 30, 2005 in The "Landing" Strip | Permalink
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Comments
Posted by:
steve kyle |
March 30, 2005 at 11:04 AM
It's a hard landing if I lose my job, and a soft landing if I don't. I suppose most people will think the same way.
Posted by:
Hee Hate Me |
March 30, 2005 at 12:04 PM
I am not sure that the difference between a hard landing and a soft landing is the difference between sub-par growth and outright recession. After all stuff like that happens all the time and you can pass from sub-par to recession in one continuous development. Though I do have sympathy for Hee Hate Me's view.
I would suggest that the real difference between hard and soft has to be the presence of a discontinuity.
If economic developments are continuous - basically mathematically speaking -, actors have the possibility to adjust, either because they react continually to the developments or because they are able to anticipate the developments. That's a soft landing, business as usual, a little bit different every day.
Throw in a discontinuity. Something like the Copernician revolution: all the evidence has been in for some time, no one was really paying attention, then suddenly one morning everyone wakes up and the earth is round and it is inconceivable that anyone ever thought otherwise. The world is suddenly conceptually different. That is my definition of a hard landing. In other words you need a highly disruptive event that no one anticipated and for which no one has been able to position himself. A little bit like you were playing football and suddenly you're playing soccer and no one told you the rules of soccer and you have to make them up as you play.
Nikkei 38K to 20K inside two weeks was a hard landing. Euro 0.8 to 1.3 in two years against the Dollar is a soft landing.
Posted by:
godement |
March 30, 2005 at 12:29 PM
David - you ask exactly the right question. We have all sorts of academic discussions prior to what the central policy question really is. I found Kash's summary interesting in that I thought Kash came down on the hard landing side but DeLong just fired off a post that seems to suggest Kash was too far on the soft landing side. OK, Kash is "fair and balanced". I guess I'm closer to Brad on this one but here's a bit of a query - I guess. Go back 20 years. Massive current account deficits and huge Federal deficits. Most economists were saying then we had an overvalued currency and it did devalue a lot in the late 1980's. But no recession. So what's different? I can discuss a few differences but then one needs to ask your question first.
Posted by:
pgl |
March 30, 2005 at 02:48 PM
I'll give it a shot.
A hard landing in this instance would be a spike in US interest rates such that 20% of home mortgagees default.
Posted by:
David Yaseen |
March 30, 2005 at 03:12 PM
A hard landing is one in which in 30 years we're teaching Mandarin in the schools. Other than that, I say we got off easy.....
Posted by:
donna |
March 30, 2005 at 04:04 PM
A hard landing is one in which our imports decline to match our exports before we can replace them by building coal and iron mines, steel and cement mills, generating and synfuel plants, and factories. This is likely.
A soft landing is when we invent a cure for the common cold and sell it at a high price so we can afford to build those mines, mills, plants, and factories before China and India and Russia can reverse engineer and duplicate it. This is unlikely.
Either landing is going to be hard for a high paid high skilled individual who is used to buying his low cost low skilled labor cheap because of immigrants and imports, and whose house is located in a zoning controlled high cost service industry metrocoastal area instead of an unzoned low cost primary and secondary production flyover area.
Posted by:
wkwillis |
March 30, 2005 at 04:40 PM
Nicely argued, David :)
Posted by:
anne |
March 30, 2005 at 06:33 PM
Anne, assuming it is THE Anne: I am hurt :).
I kind of like wkwillis's definition of a hard landing: imports fall to match US exports, rather than US exports rise to match US imports. Another, similar definition, investment falls to match US savings, rather than savings rise to match US investment.
Godemont's definition focuses on disorderly market moves, which may or may not lead to landings of some sort in the real economy. There were some big moves in the yen/ dollar in the fall of 98 if memory serves, associated with the unwinding of the positions of a few big hedge funds post russia/ LTCM. But that did not have any big impact on the real economy. I like Rajan's analysis of this issue: from a financial markets point of view, it is often better to get a big move over with fast, so you can move on (assuming the big move doesn't bankrupt anyone). from the real economy side, though, it is better if the adjustment occurs over time. If the markets knew the $ was gonna slide by 50% against a basket of asian currencies over the next five years to bring the US trade deficit down to zero, and the slide was gona be gradual, interest rates would adjust to compensate for the expected slide. If the dollar just fell, existing holder would take their losses, but low interest rates might prevail afterwards. US interest rates would not need to offset an expected depreciation.
I would tend to think several years of subpar growth, with external adjustment coming from a major significant slowdown in domestic demand growth would count, even if there is not an outright recession. in that scenario, external adjustment comes primarily from falling imports, with relatively little offsetting stimulus from rising exports. And, in that scenario, real interest rates a higher than they are now, generating the contraction in domestic demand. and remember, even if the US starts to adjust in 2006, it might still need to borrow 750-800 b. J curves and all. attracting that external financing may be difficult.
sorry that i am being long winded.
Posted by:
brad |
March 30, 2005 at 07:01 PM
three other quick points.
1) a big difference between mid-80s and today. Then the fiscal deficit was in the 5% of GDP plus range, and the trade deficit was in the 3% of GDP plus range. That is now reversed -- the external deficit is bigger than the fiscal deficit.
2) most of the deficit was with other advanced economies i think (though weak demand in Latam played a part too). emerging economies play a much bigger role now.
3) One development that would clearly falsify the roubini/setser hypothesis. CB dollar reserve accumulation falls way back, to 100 b or even 200 b annually, and it has no major effects on US financial markets. incidentally, this is one point where roubini and dooley et al agree. CB intervention is having an impact.
cheers
Posted by:
brad |
March 30, 2005 at 07:04 PM
If currency values dictate growth it is in the hands of CBs. Japans willingness to recycle export profits into US treasuries enable the games to continue. By US rates staying low it enables China to continue to build capacity to support cheap labor and a surplus of cheap goods to the world. A hard landing will ensue when it stops. Higher oil will most probably lead Japan to stop the intervention game. This will cause China to further build their oil reserves. The rising oil price will work as a tax to slow US consumption. The fed will view the rising oil price as inflationary and raise rates. This will inturn be a double tax. The remaining outcome is to your own imagination. A drop from this height will inevitably hurt.
Posted by:
BE |
March 30, 2005 at 10:05 PM
Brade,
You apparently assume that I was focusing on disorderly financial markets. I was not especially focused on financial markets. A few examples taken from real life will suffice:
1) political discontinuity: when China suffers a gigantic earthquake in the seventies, that is a discontinuity with revolutionary consequences for Chinese politics. That is a hard landing.
2) labor market discontinuity: when Thai workers burn down a Japanese owned factory in March 1997, the Japanese start running from every Asian emerging economy and do not stop until they get home. That is a hard landing.
2) product market: when Opec multiplies without warning the price of oil by 3 in 1973 and suddenly imposes an embargo on the consumers, no actor has time to adjust. That is a hard landing.
The point I am trying to make is that if we want to make this sort of dichotomy between hard and soft landing (and actually I am not personally saying that I want to), there must be a real difference in nature between both. If one says a US recession is a hard landing, I am sorry to say that the US economy suffers hard landings every 5 or 6 years, and hardly ever benefits from a soft landing.
The view that the difference would be an upward adjustment (export growth) as opposed to a downward adjustment (import decline) does not satisfy me either for the simple reason that all adjustments that I have ever witnessed contain a mix of both to a certain extent.
This is the reason why I posit that a necessary component of a hard landing must be a conceptual discontinuity, which does not occur with a soft landing.
Speculatively for instance, one might wonder if a no vote to the Constitutional Treaty in France on May 29th might not constitute a conceptual discontinuity, leading to a real estate market crash in Europe (see, David, I am actually thinking about this as you asked...).
Posted by:
godement |
March 31, 2005 at 04:12 AM
I vote for a hard landing being an outright recession. ANY kind of a landing means we have a slowdown in spending because the root of the problem is that we are spending more than we are producing and borrowing the difference from the foreigners. Fixing this, as in any other country, means some combination of producing more and/or spending less. A hard landing puts more emphasis on the latter while a soft landing stretches the adjustment out longer, allowing for more of the former. This implies a hard landing is faster (and more unpleasant).
If we could get out of this without an outright recession, I would consider it a miracle. But with a CA deficit of 6% of GDP thats a pretty tall order unless everyone is working to achieve it both in the Fed and in the Congress and WH where fiscal policy is decided.