Lesson of credit crunch has not been learned

JOSEPH STIGLITZ: Credit crunch problems could recur since regulation is being abandoned. Photo: AP

JOSEPH STIGLITZ: Credit crunch problems could recur since regulation is being abandoned. Photo: AP  

Joseph Stiglitz feels depressed. Having been a voice in the wilderness urging caution when financial capitalism was in a speculative frenzy, he wants the crisis to be the catalyst for radical thinking. But he fears it won’t be: Greece is being forced to cut its deficit, the bankers are behaving as if nothing has changed since August 2007, and the political running in the United States is being made by the right-wing anti-state Tea Party.

“There was a moment of euphoria when we were all Keynesians,” he said in an interview to mark the publication of his new book (see note below). “Those ideas were working and every government stood behind them. It was not just Keynesian macro-economic policies, it was the need for regulation and the recognition that economics had failed.”

Since those heady days of optimism a year ago, when unprecedented government action hauled the global economy back from the brink of a new Depression, Stiglitz says two things have happened to derail prospects of change. “Plans to re-regulate the financial markets have run into a political quagmire and there has been a resurgence of deficit fetishism.”


He says he is surprised at how fast the forces in favour of the pre-2007 status quo have re-grouped and believes business as usual will store up problems for the future. “The optimist in me is hopeful that we won’t need another crisis to finally motivate the political process,” he said. “The pessimist in me says it may need to happen.”

Now 67, Stiglitz has been a critic of the Chicago School of free-market economics and its international cousin — the Washington consensus — throughout his career. His trenchant objections to the deflationary policies imposed on Asian countries by the International Monetary Fund in the late 1990s led to him being ousted as the World Bank’s chief economist after lobbying from Bill Clinton’s treasury secretary, Larry Summers. (Stiglitz’s nemesis is now head of Barack Obama’s National Economic Council).

Since then, he has written books on the defects in globalisation, the 1990s boom, the cost of the Iraq war and now his take on the Great Recession. Freefall attacks all the familiar Stiglitz betes noires: the IMF, the U.S. Treasury, the Federal Reserve, Wall Street, the mainstream economics profession and, of course, Larry Summers.

He is a “big supporter” of the plans Barack Obama announced last month to stop Wall Street banks speculating with customers’ money and wishes they had gone further. Significantly, the initiative only happened when the President stopped listening to Summers, Tim Geithner, the Treasury Secretary and Federal Reserve Chairman Ben Bernanke, and turned instead to the veteran policy-maker Paul Volcker.

“I’m pretty pessimistic about the U.S. It will be a long time before unemployment returns to normal. The economy is not doing well.” He believes the still-struggling housing market — where 25 per cent of households are in negative equity — may harm one of America’s traditional strengths: the ability of workers to move from state to state in search of jobs. He says U.S. banks are hiding their exposure to commercial real estate, which he fears will be the next problem.

Despite the pick-up in growth across the global economy in the latter half of 2009, Stiglitz says the improvement will not last. “The likelihood that growth will slow is close to 100 per cent. The likelihood that it will drop below zero is uncertain. We don’t know about the policy response, we don’t know whether there will be a second stimulus package in the U.S., and we don’t know how bad the balance sheets of the banks are.”

For the past couple of weeks, Stiglitz has been advising the Greek government on how to respond to its severe financial crisis. He says the speculators are not basing their decisions on what they think but are gambling on what they think other people will think about Greece. “They are gambling on the degree of irrationality going forward.”

Europe, he says, should stand behind the Greeks and show “social solidarity.” The European Central Bank provides liquidity to solvent banks to help them through the bad times, and should treat Greece in the same fashion.

“Governments had to come in after the banks mismanaged what they were supposed to do. The financial markets are now criticising countries for picking up the pieces after the financial markets failed. They are demanding the wages of workers be cut but bonuses be allowed to continue. This is an absurd situation.”

Europe, he says, could float bonds to provide finance for the Greeks but adds that the crisis has exposed a fault line in the single currency. From the outset, Stiglitz said, critics argued that the test of the euro would be when the poorer countries on the periphery came under pressure and lacked the ability both to devalue and to access financial support from the richer parts of the euro area. “That problem was swept under the rug but has now come to the fore.”

Stiglitz has long been a supporter of a financial transaction tax, the brainchild of his fellow American Keynesian James Tobin. This week a coalition of groups launched a campaign for a “Robin Hood tax” that would levy a small charge on financial transactions and re-distribute the proceeds. “A transaction tax is designed to tackle high-frequency activity for which it is hard to find any societal benefit,” Stiglitz said.

“The only questions about a financial transaction tax is: can it be effectively implemented and can it be circumvented? There is a growing consensus that it can be implemented, if not perfectly then effectively enough to make a difference.” Speculators themselves supported the idea of the tax because they knew their activities were “socially counter-productive,” he claimed.


Stiglitz won his Nobel prize for his work on asymmetric information, the notion that markets do not work as perfectly as textbooks suggest. “It is almost impossible to reconcile the description of the economy provided by the mainstream profession and what has actually been going on. These are not minor wrinkles. They acted as if the bubble would go on forever when real incomes were falling for most Americans.”

In Britain, he says of Tony Blair and Gordon Brown: “They didn’t go far enough in correcting the Thatcher revolution. In trying not to over-react they under-reacted.”

But George Osborne is precisely the sort of “deficit fetishist” Stiglitz has in his sights. Incredulous at the idea that the Conservatives would cut spending when the economy is barely out of recession, he thinks Osborne would take a different view in power. “He originally talked about big deficit cuts but seems to have backed off that in terms of timing. The reason they are doing that is that if they did it the recession would get much worse. If they get elected, they will move from rhetoric to reality.”

In the years ahead, Stiglitz says the big story will be the challenge to the west from China and India, a development hastened by the crisis. There was a time when emerging economies had no choice but to accept the free-market policies imposed by Washington. “The U.S. treasury would be laughed out of town if it went to China or India today and told them they had to de-regulate.

“We can now see a day when the dominance of the west will end.” — © Guardian Newspapers Limited, 2010

( Note: Freefall: Free Markets and the Sinking of the Global Economy is published by Allen Lane.)

Related Topics
Recommended for you
This article is closed for comments.
Please Email the Editor

Printable version | Sep 30, 2020 8:31:29 PM |

Next Story