During a prematurely chilly but beautiful late September week in Washington, D.C., the cream of the world's in commercial and investment bankers, national and international financial and monetary officials, economic journalists, and various hangers-on met at the annual IMF-World Bank jamboree and congratulated themselves and each other. The inflation dragon had been slain; the LDC debtor countries had been persuaded not to bring the international financial system down with them; protectionism had been held at bay; the boom of the eighties was entering its seventh year with only sporadic signs of fatigue, and members of the famous G-7 industrial mafia were being extraordinarily nice to each other.
Is all this sweetness and light justified? Will the transition between the eighties and the nineties be, in fact, a non-transition, a sort of triumphal progression? Or will history repeat itself in the manner of a Greek tragedy, with generalized optimism and self-congratulation a sure indication that a greater or lesser cataclysm is imminent? In short, are the lessons of economic history about to be reversed or not?
The Western world is completing the fourth medium-term economic cycle since World War II. The current expansion is the second longest since the war, but there is no necessary correlation between the length of an expansion and the depth of the subsequent recession or depression. In fact, the recession of 1969-70, which followed the record expansion of 1961-69, was relatively shallow and short, compared, for example, to the recession that followed the much shorter expansion of 1976-1980. The depth of a recession is a function both of the buildup of bad debt that has taken place during the preceding expansion and of the appropriateness or inappropriateness of the policies followed by the fiscal and monetary authorities. In addition, the terminal recessionary phase of the current medium cycle will coincide with and be reinforced by the down phase of the current long cycle, artificially delayed by the collapse of the international monetary system between 1971 and 1973 and the subsequent inflationary orgy only recently brought to heel. Thus an unprecedented buildup of bad debt during the current expansion is coupled with, and in part due to, the increasing costs of the defense of obsolete technologies (frozen capital) by the twilight industries and companies.
All this would seem to argue for an imminent and very severe recession, if not depression, and indeed that may very well come to pass, as we shall see. Nevertheless, a depression can be avoided through great skill and rapid reaction by the world's principal central banks, especially the Federal Reserve, the Bundesbank, and the Bank of Japan. The hands of U.S. fiscal authorities are tied as the result of years of huge internal budget deficits--and in any case, that deficit will rise countercyclically in a recession--but fiscal policy in Japan and the European Community (especially West Germany) will have its influence. If the costs of necessary and inevitable credit liquidation are spaced over many years of generations into the future and excess investible capital from Japan, Germany, and other countries is invested in sufficient quantities and rapidly enough into the new technologies, the recession can be relatively short and mild. However, the subsequent boom will be less spectacular that it would otherwise have been, due to the continuing costs involved in the overhang's being liquidated slowly over a long period.
It can be argued that a very sharp
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