Policy Stability and Economic Growth : Lessons from the Great Recession

The recovery from the recession after the financial crisis, in both the UK and the US, has been very slow compared with other similar events in history. During the period before the financial crash and afterwards, monetary policy deviated from the very effeective rules-based approach of the previous two decades. In 2003-5, there was a huge gap between actual interest rates and the level suggested by the Taylor rule. This was at least partly responsible for the crash and the following slow recovery. Other areas of policy also became erratic. Unconventional monetary policy was followed and there were fiscal stimulus packages with changes in taxes and special subsidies offered to particular types of economic activity. In the US, there has been an enormous increase in the number of federal workers engaged in regulatory activity. Between 2006 and 2012, the number grew from around 180,000 to nearly 240,000 (excluding those employed in national security). In the 1980s, the reverse happened. In the 20 years or so before the run-up to the financial crash, there had been adherence to stable, rules-based policy combined with good economic performance. In the period since, there has been more discretion, and bad results have followed. In order to return to success we need to ensure that ‘the wind of freedom blows’ (in the words of the motto of Stanford University)