By Donella Meadows
–October 22, 1987–
Back in the booming 1920s, when Wall Street was the glamor capital of the world, when the rich were getting much richer and the poor were invisible, when a conservative government was cutting taxes, when people were inventing ingenious ways to spend money they didn’t have, and when the only conceivable direction was up, one person was predicting a long, painful economic downturn. He was a Russian named Nicolai Kondratief.
He had been studying the hundred-year pattern of industrial production in the United States, France, Germany, and England. He found a strong cycle of growth and depression in industrial production. The depressions were spaced roughly 50 years apart. The last one had been in the 1880s, and the next, he said, was due sometime around 1930.
Hardly anyone was listening.
Kondratief saw only part of the great depression he had correctly predicted. In 1930 he made the mistake of protesting the collectivization of Soviet agriculture and was jailed by Stalin. He died in prison in 1938.
Just this past summer the Soviet Supreme Court cleared Kondratief’s name and declared that he had been not a criminal against the Soviet State but rather a notable and prescient economist. Western economists, who have been ridiculing the idea of 50-year economic cycles for the past five decades, have not yet cleared Kondratief’s name, but maybe they’re about to.
During the booming 1980s, when much of the go-go frenzy of the 1920s was being repeated, another believer in 50-year economic waves has been predicting a depression. He is not an economist, and when he first discovered what he calls the long wave, he had never heard of Kondratief. He is Jay Forrester, a distinguished professor at MIT, a world-famous engineer, one of the inventors of the computer and of systems analysis.
Forrester wanted to understand why the economy has periodic, persistent ills like inflation and unemployment. He started by simulating with a computer the everyday decisions made by firms and consumers — what to buy, where to work, what to produce, what raw materials to order, how big an inventory to stock. As he linked economic sectors together, his simulated economy began to exhibit inflation, unemployment, and business cycles. It also produced a pesky unexpected cycle with a period of roughly 50 years.
Kondratief discovered his cycle in the historical performance of real economies. He never explained the reasons for it, he just noticed its existence. Forrester, unaware of the historical data, generated the cycle inadvertantly in his model system and then figured out why it happens.
In a market economy there is no signal to tell the steel industry, for instance, how much steel the world really demands on a long-term basis. There is only one way to find out — produce more steel and see if it sells. But that takes a long time. Each company has to make a decision to expand, get financing, build a plant, start producing, implement a marketing strategy, and sort out the confusing short-term signals from strikes, trade breakdowns, business cycles, and all the other noise of the economy.
All companies are expanding together, and they are fighting for market share, so each has an incentive to out-expand the others. The result is significant overbuilding, industry-wide, economy-wide, world-wide. It takes decades for the economy to overbuild itself, then to get the message that it has done so, then to believe that message. It takes another decade or two to cut back factories and workforces to the level of production the economy really needs. And since no one knows what that level is, the cutback, like the building phase, goes too far. When that finally becomes obvious, the next upturn of the cycle begins.
The Kondratief cycle is caused by a great lumbering economy, which takes decades to change course, seeking by trial and error for an ever-changing equilibrium point. The government doesn’t cause the cycle’s downturn, though it usually gets the blame; it also doesn’t create the upturn for which it likes to take credit. Even if the economy consisted of nothing but well-run companies making impeccably rational decisions, the cycle would exist. The presence of greedy companies making foolish decisions makes it worse, as does a government trying to spur investment at a time when investment has already gone too far.
Speculative booms at the beginning of the downturn seem to be inherent. There is no real expansion to put money into — no need for more oil wells or electric plants or steel mills when existing ones are standing idle. So excess money stops going into building the economy and starts going into conspicuous consumption and wild speculation. The stock market loosens its tethers to the real economy and starts soaring, blown up by money with nowhere else to go.
For the past ten years Forrester has expounded his theory in greater and greater detail, forecasting with astounding accuracy the rise in real interest rates, the drop in inflation, the bank and business failures, the burgeoning debts, the increasingly competitive world trade situation, and the long fall of the stock market.
Hardly anyone has been listening.
(In the blurb for this column you might want to mention that I worked with Jay Forrester at MIT in the early 1970s, before he began his work on the national economic model.)
Copyright Sustainability Institute 1987