Antonio Fatás, Ilian Mihov (both of INSEAD) have recently published an interesting paper which they summarize on VOX. In their post, they recap their paper’s argument (published by the Center for Economic Policy Research) that in addition to the common recession and expansion phases of an economy, there is a strong case to be made for a third, distinct, phase called recovery.

Their main argument for separating recovery from the other cycles is this:

...we believe that there is the need to analyse separately the earlier years of the expansion. This is when the economy regains what was lost during the recession. If recoveries where simply a mirror image of the recession phase, understanding the recession might give us enough information about the full consequences of a crisis. But our analysis of US cycles indicates that this is not the case and that the pattern of recession/recovery has changed over time with recent longer recoveries relative to the length of recessions.

In their summary, they present a neat table with the dates and lengths of US recovery periods since 1950, reproduced below:

Business Cycles: 1950-Present

Business Cycles: 1950-Present

 

I was at first skeptical of the idea that there is much to be gained from splitting what is really the first phase of expansion apart from the rest, but the more I think about their idea the more I like it. This is because of another table they present, which is the break down of recession costs:

Cost of recessions and recoveries (% previous peak annual GDP)

Cost of recessions and recoveries (% previous peak annual GDP)

 

As both tables clearly show, the recovery periods can contain a significant portion of a recession’s total impact. In other words, we have to start understanding that the total cost of a recession should encompass not just what is lost relative to “normal” levels during a contraction in the economy but also, and this is rarely discussed in the general press, what is lost during a period when things are improving but not yet back to healthy levels.

As anyone working in the US and Europe today can attest, we are in one such period now, perhaps one of the longest and worst ever. If treating the recovery phase as a third phase of the business cycle helps us understand them better and, in turn, accelerate them to return to the expansion phase more quickly, then this is a positive suggestion that should get additional serious study and support.

Read more:

VOX post: http://www.voxeu.org/article/recoveries-missing-third-phase-business-cycle

Original paper: http://www.cepr.org/pubs/dps/DP9551

PS: Tip of the hat to the Econonomist’s Free Exchange blog for noting the VOX piece (http://www.economist.com/blogs/freeexchange)

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Posted by Carlos Alvarenga

Carlos Alvarenga is the Executive Director of World 50 ThinkLabs and an Adjunct Professor at the University of Maryland's Smith School of Business.

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