Forest fires and recessions: When burning it down is a good thing
My attempt at a Malcolm Gladwell headline
A student recently asked me if the government would be able to prevent a recession from occurring. I responded that it would be possible, but not necessarily advisable.
A recession is generally defined as two consecutive quarters of economic contraction or six months of a shrinking economy. There is no official definition. In fact, most people just use recessions as declared by a privately run think-tank, the National Bureau of Economic Research (NBER). Surprisingly, there isn’t a government group or objective criteria to define when recessions start and end. Similar to the College Football Playoff, it’s a committee of unelected individuals that make the decision.
Regardless of the exact definition of a recession, they are bad. People lose their jobs. Businesses close. People commit suicide at a higher rate. Anyone over the age of 30 remembers the Great Recession with a sense of dread. Thousands of homes being foreclosed on, mass layoffs, job offers being retracted, etc. That said, the government should not see it as a desirable goal to prevent a recession from ever happening again. Why? Think about recessions the same way you think about forest fires.
During much of the 20th century, official US policy was to extinguish forest fires wherever they occurred. As soon as technologically feasible, “smoke jumpers” would drop into remote areas from planes to dig trenches and create fire breaks to stop forest fires from spreading. For decades, every forest fire that could be put out was put out. The result, naturally, was that there were fewer fires. This might seem like a good thing but ignores one big fact. Forest fires are a natural phenomenon. Contrary to what Smokey the Bear says, only you cannot prevent forest fires. Especially in the American West, the majority of forest fires are caused by lightning, not humans. So while it may make sense to put out fires caused by humans, putting out every fire is not preserving nature. It’s changing nature.
Fire is a natural part of a forest’s lifecycle. Every year a fire doesn’t occur, undergrowth and dead wood builds up on the forest floor. Over time, this buildup increases and prevents new foliage from taking root. As undergrowth becomes denser, this changes not only the plant life but wildlife. Larger mammals have a more difficult time traversing overgrown forests, while smaller mammals such as rodents have more places to hide. As the forest floor becomes the home of more and more refuse, the likelihood of a fire increases. Then, one day, it does. Forest fires are violent, brutal conflagrations that can destroy nearly everything in their path. But as soon as the embers cool, the cycle starts over. Some plants can only grow after their seeds are scorched by flames. Certain trees that can’t grow in a dense forest will spring up quickly in an open plain. The forest rejuvenates.
This, to some extent, is what happens during a recession. A growing economy is a good thing. People have more money to spend, poverty declines, and innovations occur. Over time, however, it becomes harder to distinguish good ideas from bad ones. Firms that don’t contribute much find it easy to find funding when the entire economy is growing. Jobs that aren’t productive are hidden. Inflation will sometimes result. The economy is ripe for disruption.
A recession causes that disruption. When an economy enters a downturn, it’s the weakest firms that go first. The most unproductive jobs are eliminated. This causes real short-term pain, just like a forest fire, but in the long run, it allows the economy to identify inefficiencies and workers to find more productive options. As Warren Buffet likes to say, “Only when the tide goes out do you learn who has been swimming naked.”
That isn’t to say the government should never step in. While a mild recession will purge an economy of inefficiencies, a prolonged recession will start destroying productive assets as well. Just as fire management policies recommend protecting a subdivision but not a forest, the government does have a role in containing, but not preventing recessions. The government should not try to prevent every recession, or else there will eventually be a much larger one that isn’t preventable and does lasting harm. Recessions, like forest fires, contain real pain. But they are also necessary for long-term growth.