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How Useful Is the NBER's Dating of Business Cycles?

Mises Daily: Sunday, September 26, 2010 by


On September 20, 2010, the National Bureau of Economic Research (NBER), the institution that dates the peaks and troughs of business cycles, pronounced that the US recession ended on June 2009. This conclusion is based on scrutiny of key economic-activity data such as real gross domestic product (GDP) and real gross domestic income (GDI), which appear to have hit a trough in the second quarter of last year (see chart). In the view of the NBER dating committee, because a recession influences the economy broadly and is not confined to one sector, it makes sense to pay attention to broad measures of aggregate economic activity such as GDP and GDI.

Figure 1
Figure 2

The June 2009 trough marks the end of the recession that began in December 2007, which means that the recession lasted 18 months, making it the longest of any recession since World War II. Previously the longest postwar recessions were those of 1973–75 and 1981–82, both of which lasted 16 months. Since 1959 the NBER has identified eight recessions (see chart — shadow area stands for recession).

Figure 3

The NBER defines recession in this way:

A recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales. A recession begins just after the economy reaches a peak of activity and ends as the economy reaches its trough.

We suggest that the NBER's definition does not provide an explanation of what a recession is all about. Instead it describes the various manifestations of a recession. And this is precisely what is wrong with it.

By stating that a recession is about a decline in real GDP for several or more months, one only describes and does not explain what a recession is. Obviously things are declining during a recession. What one wants to know is why things are falling. To explain a phenomenon, one needs to trace the primary causes that gave rise to it.

The main reason why the NBER's definition is confined to describing manifestations rather than the underlying causes of a recession is because mainstream thinkers do not hold that such causes can be known. They are of the view that the sources of recessions are various random shocks emanating from various factors such as a sudden change in people's psychology or various unexpected political and other events. In short, these causes are of an unexpected nature.

If the causes of recessions are unexpected, we suggest that there is no way that one could even make an intelligent guess regarding the future course of the economy. From this perspective, the information that the NBER provides is not of much use to businessmen.

The information that the economy has been in a recovery phase since June last year is not of much value if there is a constant threat that a sudden random shock could produce another severe economic slump.

After all, what a businessman wants to know is where the economy is heading. However, without a well-articulated knowledge of the underlying driving forces it is not possible to provide a meaningful answer to this question. Even the information regarding the average duration of expansion as identified by the NBER is of little help given the wide variation of this average — the average between 1854 and 2009 stood at 42 months; between 1854 and 1919 it was 27 months; between 1919 and 1945 it stood at 35 months and between 1945 and 2009 at 59 months.

Now, in a free unhampered environment we could envisage that the economy would be subject to various shocks, but it is difficult to envisage a phenomenon of recurrent boom-bust cycles.

According to Rothbard,

Before the Industrial Revolution in approximately the late 18th century, there were no regularly recurring booms and depressions. There would be a sudden economic crisis whenever some king made war or confiscated the property of his subjects; but there was no sign of the peculiarly modern phenomena of general and fairly regular swings in business fortunes, of expansions and contractions.[1]

The boom-bust cycle phenomenon is somehow linked to the modern world. But what is the link? Careful examination of this would reveal that the link is in fact the modern banking system, which is coordinated by the central bank.

The source of recessions turns out to be the alleged "protector" of the economy — the central bank itself.

Further investigation would show that the phenomenon of recessions is not about the weakness of the economy, as such as the NBER and most economists present, but about the liquidation of various activities that sprang up on the back of the loose monetary policies of the central bank. Here is why.

Defining the Nature of Boom-Bust Cycles

For the NBER economists as well as other economic experts the so-called economy is discussed in terms of real GDP, which we suggest is likely to lead to erroneous conclusions.

Now, real GDP supposedly depicts the total of final real goods and services produced. But can such a total be calculated?

To calculate a total, several things must be added together. To add things together, they must have some unit in common. It is, however, not possible to add refrigerators to cars and shirts to obtain the total of final goods.

Since total real output cannot be defined in a meaningful way, obviously it cannot be quantified. To overcome this problem economists employ total monetary expenditure on goods, which they divide by an average price of those goods. But is the calculation of an average price possible?

Suppose two transactions are conducted. In the first transaction, one TV set is exchanged for $1,000. In the second transaction, one shirt is exchanged for $40. The price or the rate of exchange in the first transaction is $1000/1 TV set. The price in the second transaction is $40/1 shirt. In order to calculate the average price, we must add these two ratios and divide them by two. However, $1000/1 TV set cannot be added to $40/1 shirt, implying that it is not possible to establish an average price.

Since GDP is expressed in dollar terms, which is deflated by a dubious price deflator, there is a high likelihood that the fluctuations of so-called real GDP will be driven by fluctuations in the amount of dollars pumped into the economy. Hence various statements by most economists regarding the rate of growth of the real economy are nothing more than a reflection of fluctuations in the money-supply rate of growth and has nothing to do with true real growth, which cannot be quantified.

Once a recession is assessed in terms of real GDP it is not surprising that the central bank appears to be able to counter the recessionary effects that emerge. For instance, by pushing more money into the economy, the central bank's actions appear to be effective, because real GDP will show a positive response to this pumping after a time lag.

Conversely, once the central bank tightens its stance and slows the pace of monetary pumping, the so-called economy in terms of real GDP follows suit — a recession is set in motion.

Because fluctuations in real GDP are a reflection of fluctuations in money supply, we suggest that, contrary to popular thinking, an increase in the rate of growth of real GDP should be seen as reflecting economic impoverishment rather than economic growth.

Conversely, a fall in the rate of growth of real GDP could be seen as a reflection of less pressure on the wealth-formation process and hence should be seen as positive for economic growth. Why is this so?

Note that a loose central-bank monetary policy sets in motion an exchange of nothing for something, which amounts to a diversion of real wealth from wealth-generating activities to non-wealth-generating activities. In the process, this diversion weakens wealth generators and this in turn weakens their ability to grow the overall pool of real wealth. Observe that loose monetary policy after a time lag follows by a strengthening in the rate of growth of real GDP and a weakening in the process of real wealth formation.

Hence again, contrary to popular thinking, what we have here is not a strengthening but a weakening of the economy. In this sense the expansion in the activities that sprang up on the back of loose monetary policy is associated with what is labeled as an economic "boom," which is in fact false economic prosperity that leads to economic impoverishment.

Once the central bank tightens its monetary stance, this slows down the pace of monetary pumping and after a time lag slows down the rate of growth of real GDP. Note that a slowdown in the monetary pumping slows down the diversion of real wealth from wealth producers to non wealth producers. (Also note that, on account of a time lag, previous loose monetary policy tends to lift price inflation at the time when the present tighter stance is set in motion. This means that the nonproductive activities are now confronted with a decline in the rate of monetary pumping and a rise in price inflation. This amounts to the erosion in their purchasing power.)

Activities that sprang up on the back of the previous loose monetary policy (nonproductive activities) now get less support from the money supply — they fall in trouble.

The liquidation of various nonproductive activities on account of a tighter monetary stance of the central bank is associated with a decline in the rate of growth of real GDP — seen as bad news by most commentators including the NBER.

In reality however, there is now less pressure on the process of wealth generation. This means that a fall in the rate of growth of real GDP here is actually associated with the strengthening in the underlying fundamentals of the economy.

We can thus conclude that ,contrary to the NBER and popular thinking, a fall in the rate of growth in real GDP is the manifestation of the strengthening in the economy's economic fundamentals while the strengthening in the rate of growth of real GDP mirrors the weakening in the economy's fundamentals.

Peaks, Troughs, and Money Supply

Once it is observed that the central bank has adopted a tighter monetary stance and consequently the yearly rate of growth of money supply starts to decelerate, we can view this as the beginning of the liquidation phase, or the beginning of a recession in terms of real GDP. (Needless to say, that this is good news for economic fundamentals.)

As long as the downtrend in the growth momentum of money supply stays in force, the liquidation phase also stays intact. Once the trend is reversed, i.e., once the central bank reverses its tight stance and consequently the growth momentum of money starts to rise, this sets the platform for the end of a recession and a new phase of economic impoverishment. The end of a recession here is the beginning of a buildup of new nonproductive activities or a strengthening of any still surviving nonproductive activities. Observe that since changes in money supply affect the economy with a time lag this in itself is important information regarding the future state of economic activity in terms of real GDP.

So rather than dating the fluctuations of real GDP without paying attention to the causes of these fluctuations, it is more useful to follow movements in money supply to make sense of the state of the economy.

Now, the key reason for the so-called current economic recovery in terms of real GDP and other economic indicators such as industrial production is a strong increase in our monetary measure AMS during May 2007 to August 2009. (The yearly rate of growth of AMS jumped from 0.6% in May 2007 to 14.3% in August 2009.)

We suggest that, after a time lag, a fall in the yearly rate of growth of AMS from 14.3% in August 2009 to 2.5% in July this year is likely to start undermining the rate of growth of various key economic indicators. In the framework of a still-growing pool of savings this type of information could be very useful to businesses. Once the cleansing of various nonproductive activities takes place, this provides a greater scope for wealth generating activities in the months ahead.

Figure 4

As a result of ongoing loose monetary stance of the central bank a situation can emerge where the ability of wealth generators to produce savings is badly damaged — not enough wealth is generated. By paying attention to the size of monetary pumping and how various economic indicators respond to this pumping, one can also make certain qualitative guesses regarding the state of the wealth-generating process.

For instance, given the lackluster response of indicators such as unemployment to the strong increase in the growth momentum of AMS, this raises the likelihood that the pool of savings is not in good shape. Consequently, given a likely renewal of a policy of aggressive pumping by the Fed, this doesn't bode well for the wealth-generation process in the months ahead.


On September 20, 2010, the NBER pronounced that the US recession had ended in June 2009. This conclusion is based on real GDP data. Contrary to the NBER analysis, we suggest that what matters for true economic recovery is not a rebound in real GDP as such but a strengthening in the process of real wealth formation. Given the fact that movements in GDP mirror past money pumping, we suggest that a rebound in the GDP rate of growth is likely to reflect a weakening in the wealth-formation process, which is bad news for the economy. Our analysis indicates that a fall in the growth momentum of AMS since August last year is likely to undermine the rate of growth of GDP in the months ahead. This will be seen by most experts as bad economic news. On the contrary, we suggest that the expected downturn is actually going to be good news for the wealth generating process.


[1] Murray N. Rothbard in The Austrian Theory of the Trade Cycle and Other Essays, The Mises Institute, 1983.