Added to the Pile...
Everybody Is Having a Financial Crisis Panel!

As Paul Krugman Says, the Stock Market Is Not the Big Problem

The flow of finance to expanding companies--or, rather, the not-flow of finance to companies that ought to be expanding employment--is the problem.


Dow 9,000!: Stock prices are, however, the least of our worries. The money markets are frozen; the TED spread is 4.14%. G7 meeting tomorrow, IMF-World Bank over the weekend. Now is the time for major action — an announcement of coordinated capital injections, liquidity measures, and more. If we’ve had nothing except vague assurances by Monday...

Let me repost this:

The Wrong Financial Crisis

J. Bradford DeLong
Professor of Economics, U.C. Berkeley
Research Associate, NBER

[email protected]

October 8, 2008

We—all of us from Nouriel Roubini to Lawrence Summers to John Taylor to Tim Geithner (except perhaps Ben Bernanke, who really did seem to believe in a long-run global savings glut)—were expecting a very different financial crisis. We were expecting the Balance of Financial Terror between Asia and America to collapse and produce chaos. We were expecting a free fall in the dollar’s value that would push and be pushed by large-scale capital flight from America that would produce high interest rates and a collapse of construction and investment. We were expecting a collapse of imports into the United States that would produce a free fall in employment and in political stability in Asia. We expected the Federal Reserve and the U.S. Treasury to be powerless—for we expected the safe asset that banks and investors would scramble for in the chaos to be anything but U.S. Treasuries and reserve deposits at the Fed. And for the avoidance of a catastrophic balancing-down of the world economy we expected the United States to have to depend on the kindness of, well, not strangers exactly but of a disorganized congerie of national Treasuries and central banks that were unused to a world without a Kindlebergian hegemon.

We are not having that financial crisis. And it looks like we will not have that financial crisis: if the past year’s financial chaos in New York has not provoked a run on the dollar, it is hard to envision a scenario that would. Instead we are having a very different financial crisis: catastrophic failures of risk management throughout the entire banking sector have caused a relatively minor—by the standards of the global economy—collapse in housing prices in Riverside County, CA, Dade County, FL, and a few other places to freeze up global finance to a degree that has not been seen since the Great Depression. The first good thing about this situation is that it does not call for different central banks and Treasuries to do different things, but rather for them all to do the same thing in unison without fouling each other’s oars.

That should be relatively easy to arrange.

What we need right now are:

  • Coordinated fiscal expansions across the globe: if the world economy is not now in something close enough to a liquidity trap to make no difference, it soon will be.
  • Coordinated monetary expansions across the globe: a bank is any organization that borrows or accepts investments short and lends long; the durations of its assets and liabilities are deliberately mismatched; when the entire banking sector is insolvent at current market prices, anything that reduces interest rates all along the yield curve helps reduce the magnitude of the insolvency.
  • Coordinated banking sector recapitalizations across the globe: since at least 1844 there has been broad consensus that the short-term price of safe liquidity is too important to be left to the market; now there is growing consensus that the price of risk is too important to be left to the market as well. For the government to operate on the price of risk through Operations Twist on a Galatic scale is infeasible. That means that the aggregate degree of capitalization of the banking system must become the object of policy choice. Call it socialism in one sector.

We need these now.

In an ideal world, Richard Cheney would resign, George W. Bush would appoint Barack Obama vice president, George W. Bush would then resign, and President Barack Obama would recall the congress to set it to work. We don't live in an ideal world. In a less-ideal world, this would happen on November 5. I don't think we live in a less-ideal world. But we should do what we can.

What we need in the longer term are:

  • Global rules to make outsized compensation incentive-compatible; the Princes of Midtown Manhattan and Canary Wharf need to know that their fortunes will be lost if their institution blows up within a decade of their handing over operational control—only such can you make them truly long the fortunes of their firms and of the global economy rather than simply long volatility.

  • More progressive global tax systems: we wish we could build a better global economic system, but we do not know how to build one that does not contain a solid safety net for plutocrats, and the systems we do know how to build are politically unsustainable unless all voters know and believe that from those who have much will be taken away.

The global market economy continues to evade all our attempts to make it foolproof—in large part because our greater fools are so ingenious. But there is not yet any requirement that this global economic downturn reach the magnitude of 1982, or even 1975.


Barry Eichengreen and Richard Baldwin, eds. (2008), Rescuing Our Jobs And Savings: What G7/8 Leaders Can Do To Solve The Global Credit Crisis (London: CEPR: VoxEU):

J. Bradford DeLong (2008), "The Wrong Financial Crisis," VoxEU (October 9, 2008):