That is the topic of my latest Bloomberg column, here is one excerpt:
Another episode frequently cited as evidence against economists is the Great Recession of 2007-2009. Economists did make some mistakes on that one — but they are not the ones you usually hear about.
When real estate prices started to slow down and then fall, many economists declared there was a real estate bubble. The theory quickly developed that the market crash was due to a real estate bubble bursting, followed by a sharp fall in aggregate demand, followed by a decline in employment and output.
The last part of that explanation is correct. In retrospect, however, it is not clear that the housing prices of 2006-2007 represented a bubble. By today’s metrics those prices appear prescient, if slightly premature. The market was suddenly realizing that a lot of real estate assets were going to be worth much more — and the recent evolution of real estate valuations seems to have confirmed that judgment.
In 2009, however — and following a lot of foreclosures and the emergence of troubled banks — the market was far from ready to accept that the high real estate prices had been justified. The market was too skeptical when it should have been less panicked. A lot of economists got this wrong too, along with many pundits. All of this made the resulting panic worse because the talk was so pessimistic about real estate valuations. Instead, the real problem was that the market had lost faith in a set of high real estate prices that has since been largely validated. Maybe not in Las Vegas and Orlando, but for the nation as a whole, most of all on the coasts.
Economists should have been less quick to judge what is or is not a bubble. The real-estate-bubble explanation appeared to be correct in the short run, but economists should have been more modest about their ability to second-guess the market. The good news is that, with hindsight, we can piece together what happened. Policymakers and market participants made a series of overlapping mistakes related to monetary policy, the shadow banking system and panic about real estate.
There is a good picture of trends in real estate prices at the link, or ungated here.
The post What is it we do and do not know about macroeconomics? appeared first on Marginal REVOLUTION.
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