Arthur M. Okun

Rational-Expectations-with-Misperceptions as a Theory of the Business Cycle

In my judgment, the theory of rational-expectations-with-misperceptions provides an explanation of the business cycle that: represents a constructive effort to deal with questions that sorely needed to be asked, is logically impeccable and theoretically satisfying in its response to those questions, does not identify in operational terms the specific nature of the cyclical process, and fails to account for the duration and many key features of the actual cycle.

The Invisible Handshake and the Inflationary Process

The economys problems with persistent inflation date back to the mid sixties. But economists had no trouble explaining the inflation of the Vietnam period, which was clearly associated with excess demand. That experience fitted all our models, whether we were Keynesian, monetarist, eclectic, or erratic. We explained simply and succinctly that the price level rose because demand in the aggregate exceeded overall supply, just as the price of apples rose when the demand for apples exceeded their supply. The problems for economists emerged in 1970-71 when inflation persisted in the face of excess supply and survived a recession for the first time in the annals of U.S. business-cycle history. And they intensified with a vengeance in 1975-77, when after a severe recession, prices rose at a rate of nearly 6 percent a year while supply in the aggregate exceeded demand by all recognized criteria.

The Full Employment Surplus Revisited

THE CURRENT EFFORT of fiscal and monetary policy makers to achieve disinflation without recession has put the spotlight of public attention once again on the federal budget-as well as on monetary policy and the state of private demand. Some of the discussion of the budgetary impact on the economy has focused on the recent and prospective disappearance of the federal surplus. The surplus of the federal sector in the national accounts, which was

A Postmortem of the 1974 Recession

13.5 billion (annual rate) in the second quarter of 1969, virtually vanishes in the first half of 1970. Moreover, some who have predicted that the Presidents budgetary program for fiscal 1971 will actually turn out in deficit have interpreted such an outcome as a shift toward stimulus in fiscal policy. In a period of slowdown in economic activity, the movement of the actual surplus or deficit in the federal budget must be carefully interpreted. If a shift to deficit merely reflects a slower growth of federal revenues associated with a weakening of economic activity, that shift is an automatic stabilizer bolstering demand rather than a stimulus propelling, the economy. Economists have long been concerned with the inadequacy of the actual surplus (or deficit) as a measure of fiscal impact. It fails to distinguish the budgets influence on the economy from the economys influence on the

Unemployment and Output in 1974

THE DECLINE of 2.1 percent in real gross national product from 1973 to 1974 was the fourth annual dip since the mid-forties (the others occurred in 1954, 1958, and 1970) and by far the largest. With the benefit of hindsight, I shall, in this brief paper, discuss what happened to the economy and to the economic forecasters in that bleak year. In the comments addressed to forecasting, I shall not allocate blame or praise; my purpose rather is to raise some questions and infer some lessons that may be relevant for future research and application.

Political Economy: Some Lessons of Recent Experience

IN THE SECOND QUARTER of 1974, real gross national product stood 2.2 percent below its peak rate of the fourth quarter of 1973, reflecting one of the sharpest two-quarter declines in the postwar period. Yet, between these two quarters, the unemployment rate rose only 0.4 percentage point, from 4.7 to 5.1 percent, an unusually small rise against the background of historical experience and analytical expectations. In the third quarter, the rate moved up further, to 5.5 percent; but it stili displayed puzzling sluggishness since, according to preliminary estimates, real GNP fell further in that quarter. This paper will focus on the behavior of unemployment in relation to output between 1973:4 and 1974:2.

Potential GNP: Its measurement and significance

THE PERIOD FROM THE START OF THE NIXON ADMINISTRATION, on January 20, 1969, to the Presidents adoption of a new economic policy on August 15, 1971, marks a distinct chapter in macroeconomic policymaking in the United States. The latter half of that chapter, beginning early in 1970, must be regarded, along with 1958-60 and 1965-66, as one of the unsatisfactory episodes in stabilization policy since the passage of the Employment Act of 1946. I should like to present my views of this experience and its lessons for the future. I offer personal observations rather than definitive history. I speak entirely as a spectator; I have watched the plays carefully during this period, but I do not know what went on in the huddles. As a former player, I know how rough the game is, and how much easier it is to sound smart when one is sitting in the comfortable seat on the fifty-yard line that I now occupy. But I have done penance by putting my true confessions of the mistakes and problems of 1965-68 on the record,l and I shall take the liberty of being candidly critical of developments in the 1969-71 period.