Great Moderation
Candlefocus EditorAt the time, the period of reduced economic volatility was largely attributed to improved economic policies, such as the establishment of an independent central bank and movements toward free trade and deregulation. In a speech delivered in 2004, then-Fed Chair Ben Bernanke hypothesized three potential causes for the Great Moderation: structural change in the economy, improved economic policies, and good luck.
Structural change refers to changes in economic output created by the adaptation of new technologies, such as computers and the internet, as well as economic and social policies, such as deregulation. Improved economic policies also played a key role in the Great Moderation. The embrace of free trade and deregulation put the US economy in a position to take advantages of the globalized economy, while the establishment of an independent, inflation-targeting Federal Reserve kept inflation levels in check.
It wasn't just policy, however. Bernanke also suggested that luck played an important role in the Great Moderation. The coincident timing of the rapid expansion of industries powered by technology, the falling cost of computing, the increasing spread of financial liberalization, and the low oil prices which gave a boost to the world economy at the time all lined up in the mid-to-late 2000s to create the ideal environment for the Great Moderation.
The Great Moderation ultimately proved to be short-lived, however, as it ended with the 2007 financial crisis, a reminder of the extreme economic fluctuations of the past. In retrospect, the Great Moderation can now be seen as a period of economic stability that was too good to last, and its proximate cause was mainly due to a rare confluence of global economic circumstances. The legacy of the Great Moderation is seen in the lessons that were learned from its end, including the need for governments and central banks to remain vigilant in their oversight of the economy, to stay ahead of potential bubbles or excesses, and to be prepared to take swift action as necessary.