Is the Great Moderation Over? An Empirical Analysis

The economy of the United States was markedly less volatile in the past two to three decades than in prior periods. The nation enjoyed long economic expansions in each of the last three decades, interrupted by recessions in 1990-91 and 2001 that were mild by historical standards. While it has proven difficult to conclusively pinpoint the causes of the reduced volatility, candidates include structural changes in the economy, better monetary policy, and smaller shocks (good luck). Many economists and policymakers came to view lower volatility—the Great Moderation—as likely to be permanent. More recently, the severity of the recession that started in late 2007 has led some observers to conclude the Great Moderation is over. The recession produced declines in economic activity steeper than in the sharp recessions of the 1950s, 1970s, and early 1980s. However, the occurrence of a sharp recession does not necessarily mean variability has returned to pre-Great Moderation levels or that the Great Moderation is over. For example, the recession may have produced a more modest rise in volatility that could be temporary. Whether any rise in volatility is more likely temporary than permanent will