The Lessons of the First Oil Shock From Paul McCracken OECD’s Report Should Inspire Current Leaders.
“History never repeats itself, but it does often rhyme.”
Does the surge in commodity prices, particularly oil, herald a return of the stagflation that marked the 1970s? Let's take France as an example. Between 1970 and 1980, average annual growth, which had been 6% during the 1960-1970 decade, had fallen to 3.8%. At the same time, average annual inflation rose from 4.2% to almost 10%. This break led to a thorough revision of economic policies that deserves to be examined closely.
After the first oil shock, to counteract the recessionary effects due to the related drop in purchasing power, most economists, who were at the time largely of Keynesian persuasion, recommended supporting demand by increasing budget deficits. To justify this increase, the OECD put forward two arguments:
The first is that increasing public deficits facilitates the recycling of petrodollars, with OPEC members buying the loans issued to finance them.
The second is that increased public spending allows each country to maintain aggregate demand by offsetting the drain on private demand caused by the rising cost of energy.
However, it soon became clear that this strategy had failed.
As early as 1976, the OECD launched a study aimed at devising a new economic policy that would be better able to respond to the oil crisis and the switch to a floating exchange rate system in 1973. A commission chaired by the American economist Paul McCracken was therefore created.
When he was chosen, he was a professor at the University of Michigan. Between 1969 and 1971, he had been in charge of the Council of Economic Advisers, the team of economic advisers to the President of the United States. Two men played a key role in the commission: Guido Carli, the former governor of the Italian central bank, and Raymond Barre, who nevertheless quickly left the commission to join the French government (he was replaced by Robert Marjolin).
The first conclusion of the McCracken Commission is an almost perfect illustration of the language of economists and their circumlocutions:
“Recent developments can be explained for the most part by the exceptional conjunction in time of a series of unfortunate events that are unlikely to be repeated on the same scale and whose effect has been amplified by certain avoidable errors in economic policy.”
Nevertheless, the report does not leave it at that and clarifies the authors' concrete thinking:
“Growth over the next ten years will be limited less by constraints of a physical or technological nature than by the need to overcome current economic and social tensions and imbalances, of which inflation is one of the main symptoms.”
A careful reading of the text makes it possible to understand what “the errors of economic policy” were. On the one hand, the American budget deficit was increased to levels that were incompatible with the country's productive capacity, and on the other hand, the evolution of wages in Europe was disconnected from that of productivity. The result has been rising inflation, which it would be wrong to regard as the inevitable consequence of supporting growth.
The report is not content with making a diagnosis. It makes recommendations:
“Re-prioritize and improve the efficiency of public programs; ensure that in each country, government, labor and business reach a consensus on the need for increased profits and investment.”
In a chapter entitled “Improving the Functioning of Markets,” the report states:
“The loss of flexibility in the functioning of the labor market is perhaps one of the main reasons why, in recent years, the unemployment rate observed at the peak of the business cycle has been steadily rising in most countries.”
Furthermore, the report stresses the dangers of state interventionism aimed at bolstering purchasing power independently of economic reality.
In 2011, the OECD revisited the work of the McCracken Commission. In a document entitled “Paradigm shift in the conduct of economic policy,” the OECD confirmed the idea that responding to supply-side problems by playing on demand is a mistake that inexorably worsens the situation:
“The 1960s and 1970s were characterized by the active use of demand management policies designed to keep unemployment low and avoid excessive current account imbalances. While these policies were initially successful, they failed to address both the serious misalignments that characterized exchange rates in the early 1970s and the stagflation that emerged following the oil shocks.”
Today, the world economy is once again facing a significant transfer of income to the countries that hold the energy rent. Our leaders have responded, as in the 1970s, with out-of-control and inefficient public deficits and unrealistic and demagogic promises regarding purchasing power.
The response should have been inspired by the McCracken report. Our situation requires a recovery of public accounts based on less deficit and more seriousness in the use of funds and a readjustment of the relationship to work with a more flexible organization to increase the volume of work.
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