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On scarring effects

Recessions can do long-lasting damage to economies
On scarring effects

This recession might have nasty long-run effects. One mechanism here is that young people who are temporarily idle – even with decent income support – or who cannot get a decent job in the first place don’t get as much experience as their luckier peers and so suffer lower wages even years later.

Another mechanism, described in a series of papers by Ulrike Malmendier of the University of California at Berkeley, is that our economic behaviour is shaped not just by current realities and expectations, but by our memories. She shows that men who saw the 1930s Great Depression in their formative years borrowed less when they became chief executives years later, while younger men who were not so scarred were more adventurous. And, she shows, individuals who experienced bad times during their formation go on to save more, own fewer equities and be less likely to own their own homes even years later.

The 2008-09 crisis might well have had similar effects. Corporate cash holdings have almost doubled since then, despite nugatory returns on that cash. This reflects the fact that managers remember sudden falls in of demand and being unable to raise credit, and so have adopted more cautious policies towards managing their balance sheets.  

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