Thursday, March 05, 2009

The Rock and The Hard Place

I'm not an economist. I have studied a bit about economic crises and their political responses, but I'm by no means an expert. However, I think what we need today is a better sense of the consequences of the actions being proposed to deal with the economic crisis. This isn't a Glen Beck what if the worst case happens thing, it's more of a why is everybody saying "do it my way or else" thing. So in what is probably in oversimplified, layman's explanation, what exactly are people so scared about.

The Rock: The rock here isn't Newfoundland, it's Japan. Specifically the economy of Japan for the last twenty years. In the late 1980's the Japanese economy was overwhelmed by a series of bank failures. The Japanese government responded with piecemeal bailouts and the maintenance of a zero percent interest rate. The result was banks that were too weak and risk averse to lend but not weak enough to fail and be put out of their misery. The term zombie banks is used because they were essentially half-dead. It can fairly easily be argued that Japan never really recovered from that shock. The Nikkei certainly hasn't. GDP growth has been slow when it's grown at all. In the late 90's economists called it the lost decade, it's now more like a lost score (in the Lincolnesque use of the word). The similarities to today are striking and worrying.

The rock is what we know. It is the go to scare tactic for those on the ideological right. It's proof, if one case can be a proof, that simply throwing money at a problem doesn't make it go away.

Quick side note: The response of some on the left, that there is a similar success story in Sweden is not all its cracked up to be. The Swedish economy which was bulldozed in the early 90;'s recovered but whether that was because Sweden took over banks or because Sweden liberalized labour and trade laws in the early 90's culminating in their accession into the EU, is highly debatable. They both probably played a role, but I don't see comparable liberalizations which could encourage global economic growth today. In other words, the ideal antidote is short term stability and medium term growth but you need both to be effective. Short term stability with no prospects for growth is Japan and growth is simply impossible without some level of stability.

The Hard Place: The hard place we don't really know. It's more ambiguous. There are a few different nightmare scenarios here. I'll paint the one I think most troubling. There's no historical equivalent here. This is the argument against those who oppose anything with any government involvement. In other words, against neo-liberal ideological rejection of government aid: see the House Republicans in the States. The scenario here involves why exactly the financial architecture in New York is so important. There are those who argue that we should just let the weak banks fail and eventually the smaller national banks or the stronger regional banks will fill the void. The problem with this argument is that you have to pray that the world doesn't panic when the banks start falling like dominoes. Markets are as much psychology as they are economics. If Wall Street starts crumbling, what happens to all those investors in East Asia and elsewhere who have the United States and its financial institutions as pillars and safety net of their economies? In other words, what if all that US currency and treasuries held in Asia comes home all at once. A run on the US dollar or US debt would have untold consequences.

The United States has been the economic backbone of the free world for sixty years. First because a bunch of people got together in New Hampshire and designed it that way and then post-1970's because people were so used to operating that way. The entire global economy is built on the premise that the United States will be their as the guarantor of last resort. If the US is not seen as a reliable guarantor, the world changes. It is debatable whether a better financial architecture may be possible at the end of a such a change. What is virtually certain is that the change in between would wreak untold carnage in the global economy. Credit markets would become paralyzed. Business would become almost impossible. That's the hard place.

I don't have the third way. If I did I wouldn't be blogging about it, I'd be advising world leaders. I just think it is important that when you hear ideologues on both the left and the right say that down the other path is certain doom, they aren't crazy. As a society, we can neither be ignorant of the pitfalls nor paralyzed by them. These are not easy decisions and they will have profound consequences. However, some decision must be made.

1 comment:

RevDave said...

"If the US is not seen as a reliable guarantor, the world changes. It is debatable whether a better financial architecture may be possible at the end of a such a change."

The question in my mind is, better for whom? We are already seeing a rewriting of some of the rules of trade which were supposedly fundamental for the last twenty or thirty years. These rules are more intended to maintain American hegemony than to maintain any sort of legal or ideological consistency. And I have to question whether American hegemony is a goal worth maintaining.

The problem is, as you say, identifying the "third way." I'm afraid I don't have one either.

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