VoxEU Column Financial Markets Global crisis

A recovery without credit: Possible, but…

Many analysts suggest the economic recovery may have started but others worry that the sorry state of developed countries’ financial systems will prolong the recession. Can economic activity revive absent a recovery in credit and housing markets? This column presents new research suggesting that a “creditless recovery” is possible, but it would likely be slow and shallow.

Recent economic indicators fuelled speculations that an economic recovery is in sight (Gross 2009), but some economists are sceptical (Krugman 2009, Buiter 2009). Many financial systems are still in poor shape and a number of commentators argue that the prospects for recovery hinge on a healthy financial sector (e.g. Kobayashi 2009).

Is it possible to have a recovery in output ahead of improvements in financial conditions? Can the economic cycle turn up before the financial cycle does? More generally, what do we know about the lags and leads between financial and business cycles? This column – based on ongoing research – examines the historical evidence on “creditless recoveries.”

The data we use to study this question is the same one we used in an earlier Vox column (“Global financial crisis: How long? How deep?”) to characterise the typical duration and depth of recessions associated with credit crunches and asset-price busts. The data set identifies 122 recessions, 28 credit crunch episodes, 28 episodes of house price busts, and 61 episodes of equity price busts in 21 “core” OECD countries between 1960 and 2007.

Recessions overlapping with crunches and busts

The current recession is an exceptional one as it coincides with a credit crunch and a house price bust. We first identify recession episodes that exhibit the same characteristics. In order to determine whether a specific recession is associated with a credit crunch or an asset price bust, we use a simple “dating” rule. In particular, if a recession episode starts at the same time or after the beginning of an ongoing credit crunch or asset price bust episode, we consider the recession to be associated with the respective credit crunch or asset price bust. With this rule, we identified 21, 34, and 47 recession episodes associated with credit crunches, house price busts and equity price busts, respectively.

Examining these events, we find that the median number of quarters between the start of a crunch/bust episode and the beginning of an associated recession is three in the case of a credit crunch, three in the case of a house price bust, and five in the case of an equity price bust (Figure 1, left panel). In other words, financial downturns typically precede recessions by about one year.

Is a recovery without credit growth possible?

The short answer from the historical evidence is yes. Our sample allows us to analyse how long it takes for credit, house prices, and equity prices to bottom out after the end of a recession. Focusing only on recessions that are – like the current one – associated with a credit crunch or asset price bust, we see that output typically recovers well ahead of a trough observed in credit and house prices. On average, the recession ends two quarters before the credit crunch ends and nine quarters before housing prices bottom out; equity prices tend to bottom out just as the associated recession ends (see Figure 1, right panel).


Is this a surprising observation?

This is not a surprising. Financial downturns tend to last longer than economic recessions. In particular, episodes of credit crunches and equity price busts generally last twice as long as recessions; house price busts last more than three times as long. When it comes to recessions associated with credit crunches, the real economy typically recovers while credit is still contracting.

In particular, recoveries in aggregate output and its components following recessions associated with credit crunches tend to take place before the revival of credit growth and turnaround in house prices (Figure 2). These temporal patterns are similar to those in the case of house price busts, implying that economic recoveries start before house prices bottom out during recessions coinciding with sharp drops in house prices.

The phenomenon of "creditless recoveries" is not restricted to the OECD nations (the focus of our sample). It is common to sudden-stop episodes observed in financial crises in many emerging market economies (see Calvo, Izquierdo and Talvi, 2006). Our findings suggest such recoveries are also a feature of business and financial cycles in advanced countries. A number of commentators have drawn parallels between the current financial crisis in advanced countries and many of the past crises in emerging market economies (see Reinhart and Rogoff, 2009, or Reinhart 2009). If our finding of creditless recoveries materialises in the coming months, it would add another dimension to these parallels – a creditless recovery. It is important to note that our results are based on the behaviour of real aggregates, not the nominal ones on which most commentators in the financial press often appear to focus.


What drives creditless recoveries?

The finding that recoveries can take place without a revival in credit growth and improvements in asset prices raises a natural question: What drives recoveries in recessions associated with credit crunches and house price busts? Several explanations come to mind.

  • First, consumption is typically the key driver of recoveries.

In particular, private consumption is often the most important contributor to output growth during recoveries. Investment (especially non-residential) recovers only with a lag, with the contribution of fixed investment growth to recovery often relatively small.

  • Second, firms and households may be able to get external financing from sources other than commercial banks.

These sources are not captured in the aggregate credit series we focus on.

  • Thirdly, there can be a switch from more to less credit-intensive sectors in such a way that overall credit does not expand, yet, because of productivity gains, output increases.

The aggregate data we use hide such reallocations of credit across sectors, including between corporations and households that vary in their “credit-intensity”. 

What kind of recovery? Probably slow and shallow

Overall, these comparisons suggest that, even if credit availability is limited, recoveries can take place. The key is probably that consumption starts picking up during recoveries, since investment typically lags. The speed of this process in turn is likely to hinge on the pace of adjustment in household balance sheets as that impacts the level of consumption. This observation does not augur well for the future, however, as households in a number of advanced economies are expected to go through a difficult period of adjustment.

More generally, our findings suggest that the nature of the prospective recovery will likely be slow and shallow. In particular, our ongoing research documents that recoveries following credit crunches and house price busts are often weaker than other recoveries are. Moreover, it takes much longer for output to return to its pre-recession level during these types of recoveries. Unless the problems in the financial sector and housing markets are addressed with comprehensive reforms and well-designed monetary and fiscal policies, it is difficult to foresee the global economy going back to its trend growth in the near future.

Note: The views expressed in this note are those of the author(s) and do not necessarily represent those of the IMF or IMF policy.


Buiter, Willem (2009). “Green shoots: Grounds for cautious pessimism,” VoxEU.org, 29 April 2009.

Calvo, Guillermo A., Alejandro Izquierdo, Ernesto Talvi, 2006, “Phoenix Miracles in Emerging Markets: Recovering without Credit from Systemic Financial Crises,” NBER Working Paper No: 12101.

Claessens, Stijn, M. Ayhan Kose and Marco E Terrones, 2008, “What Happens During Recessions, Crunches and Busts?” IMF Working Paper No: 08/274.

Claessens, Stijn, M. Ayhan Kose, and Marco E. Terrones, 2009, “Global financial crisis: How long? How deep?”, VoxEU, 7 October 2008.

Gross, Daniel (2009). Green Shoots: Is the economy really showing signs of recovery?” www.Slate.com, 17 April 2009.

Kobayashi, Keiichiro (2009).”The G20's Blind Spot: President Obama must squarely face the bad asset problem,” VoxEU.org, 1 April 2009.

Krugman, Paul (2009).”Green Shoots and Glimmers,” New York Times, 16 April 2009.

Reinhart, Carmen M. and Kenneth Rogoff, 2009, “The Aftermath of Financial Crises,” NBER Working Paper No. 14656.

Reinhart, Carmen (2009). “The economic and fiscal consequences of financial crises,” VoxEU.org, 26 January 2009.


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