Posts Tagged ‘crash’

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Mark Tansey, “Source of the Loue” (1988)

Two giants of mainstream economics—Joseph Stiglitz and Lawrence Summers—have been engaged in an acrimonious, titanic battle in recent weeks. The question is, what’s it all about? And, even more important, what’s at stake in this debate?

At first glance, the intense, even personal back-and-forth between Stiglitz and Summers seems a bit odd. Both economists are firmly in the liberal wing of mainstream economics and politics—as against, for example, Gene Epstein (an Austrian economist, who accuses Stiglitz of regularly siding with left-wing populists like Hugo Chávez) or John Taylor (a committed supply-sider, who has long been suspicious of “demand-side discretionary stimulus packages”). Both Stiglitz and Summers have pointed out the limitations of monetary policy, especially in the midst of deep economic recessions, and have favored relatively large fiscal-policy interventions, a hallmark of mainstream liberal economic policy.

One might be tempted to see it as merely a clash of outsized egos, which of course is not at all rare among mainstream economists. Their exaggerated sense of self-importance and intellectual arrogance are legion. Neither Stiglitz nor Summers has ever been accused of being a shrinking-violet when it comes to debates in the many academic and policy-related positions they’ve held.* And there’s certainly a degree of personal animus behind the current debate. Apparently, Summers [ht: bn] successfully lobbied in 2000 for Stiglitz’s removal from the World Bank, reportedly as a condition of the reappointment of Jim Wolfensohn as President of the World Bank. And, in 2013, Stiglitz came out strongly in favor of Janet Yellen, over Summers, for head of the Federal Reserve.**

That’s certainly part of the story. And the personal attacks and evident animosity from both sides have attracted a great deal attention of onlookers. But I think much more is at stake.

The current debate began with the critique Stiglitz leveled at the notion of “secular stagnation,” which Summers has championed starting in 2013 as an explanation for the slow recovery of the U.S. economy after the crash of 2007-08. The worry among many mainstream economists has been that, given the severity and duration of the Second Great Depression, capitalism could no longer deliver the goods.*** In particular, Summers invoked the specter of persistently slow growth, which had originally been put forward in the midst of the first Great Depression by Alvin Hansen, created by demography: the decrease in the number of available workers, itself a result of the declines in the rate of population growth and the labor force participation rate. The worry is that, looking forward, there simply won’t be enough workers to sustain the rates of potential economic growth we saw in the years leading up to the most recent crisis of capitalism. In the meantime, Summers, in traditional Keynesian fashion, expressed his support for raising the level of aggregate demand, through public and private spending, even at low real interest rates (which, in his view, were incapable of fulfilling their traditional role of boosting spending).****

Stiglitz for his part has dismissed the idea of secular stagnation, as “an excuse for flawed economic policies” (especially the inadequate stimulus package proposed and enacted by the administration of Barack Obama), and put forward an alternative analysis for capitalism’s slow growth problem: its inability to manage structural transformations of the economy. According to Stiglitz, the shift from manufacturing-led growth to services-led growth characterized the U.S. economy in the years before the most recent crash, analogous to the manner in which the crisis in agriculture “led to a decrease in demand for urban goods and thus to an economy-wide downturn” in the lead-up to the depression of the 1930s. Thus, in his view, World War II brought about a structural transformation in the United States (“as the war effort moved large numbers of people from rural areas to urban centers and retrained them with the skills needed for a manufacturing economy”) but nothing similar was undertaken in the wake of the crash of 2007-08.

The Obama administration made a crucial mistake in 2009 in not pursuing a larger, longer, better-structured, and more flexible fiscal stimulus. Had it done so, the economy’s rebound would have been stronger, and there would have been no talk of secular stagnation.

These are the terms of the theoretical debate, then, between Stiglitz and Summers: a focus on sectoral shifts versus a worry about secular stagnation. The first concerns the way the private forces of American capitalism have been inept in handling structural transformations of the economy, while the second focuses on ways in which “the private economy may not find its way back to full employment following a sharp contraction.”

For my part, both stories have an important role to play in making sense of both economic depressions—the first as well as the second. The problem is, neither Stiglitz nor Summers has presented an analysis of how American capitalism created the conditions for either crash. Stiglitz does not explain how the crisis in agriculture in the 1920s or the move away from manufacturing in recent decades was created by tendencies within existing economic institutions. Similarly, Summers does not conduct an analysis of the changes in U.S. capitalism that, in addition to producing lower growth rates, led to the massive downturn beginning in 2007-08. Their respective approaches are characterized by exogenous event rather than the endogenous changes leading to instability one might look for in a capitalist economy.

Moreover, both Stiglitz and Summers presume that the appropriate stimulus project will fulfill the mainstream macroeconomic utopia characterized by levels of output and a price level that corresponds to full employment and price stability. There is nothing in either of their approaches that recognizes capitalism’s inherent instability or its tendency, even in recovery, of generating one-sided outcomes. For Stiglitz, “the challenge was—and remains—political, not economic: there is nothing that inherently prevents our economy from being run in a way that ensures full employment and shared prosperity.” Similarly, Summers emphasizes the way “fiscal policies and structural measures to support sustained and adequate aggregate demand” can overcome the problems posed by secular stagnation. In other words, both Stiglitz and Summers redirect attention from capitalism’s own tendencies toward instability and uneven recoveries and focus instead on the set of economic policies that in their view are able to create full employment and price stability.

Finally, while Stiglitz and Summers mention en passant the problem of growing inequality, neither takes the problem seriously, at least in terms of analyzing the conditions that led to the crash of 2007-08—or, for that matter, the lopsided nature of the recovery. There’s nothing in the debate (or in their other writings) about how rising inequality across decades, based on stagnant wages and record profits, served to dismantle government regulations on the financial sector (because those who received the profits had both the means and interest to do so) and to propel the tremendous growth (on both the demand and supply sides) of financial activities within the U.S. economy. Nor is there a discussion of how focusing on the recovery of banks, large corporations, and the incomes and wealth of a tiny group at the top was based on a deterioration of the economic and social conditions of everyone else—much less how a larger stimulus package would have produced a substantially different outcome.

The fact is, the debate between Stiglitz and Summers is based on a discussion of terms and a mode of analysis that are firmly inscribed within the liberal wing of mainstream economics. Focusing on the choice between one or the other merely to serves to block, brick by brick, the development of much more germane approaches to analyzing the conditions and consequences of the ways American capitalism has been characterized by fundamental instability and obscene levels of inequality—today as in the past.

 

*Stiglitz is a recipient of the John Bates Clark Medal (1979) and the Nobel Prize in Economics (2001). He served as the Chair of Bill Clinton’s Council of Economic Advisers (1995-1997) and Chief Economist at the World Bank (1997-2000). He is currently a professor of economics at Columbia University (since 2001). Summers is former Vice President of Development Economics and Chief Economist of the World Bank (1991–93), senior U.S. Treasury Department official throughout Clinton’s administration (ultimately Treasury Secretary, 1999–2001), and former director of the National Economic Council for President Obama (2009–2010). He is a former president of Harvard University (2001–2006), where he is currently a professor and director of the Mossavar-Rahmani Center for Business and Government at Harvard’s Kennedy School of Government.

**My choice, for what it’s worth, was Federal Reserve Governor Sarah Raskin.

***As I explained in 2016, contemporary capitalism has a slow-growth problem—”because growth is both a premise and promise of a particularly capitalist way of organizing our economic activities.”

****An archive of Summers’s various blog posts on secular stagnation can be found here.

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Special mention

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Everyone, it seems, is writing their version of the lessons to be learned after the crash of 2008. And most of them are getting it wrong.

Here, for the record, are some of the lessons I’ve taken from the crash:

  1. What has changed—and, equally significant, what hasn’t—during the past decade?
  2. Mainstream economists got globalization wrong
  3. The policy consensus on economics has not fundamentally changed
  4. Mainstream economics has fallen in the eyes of the public—and for good reason
  5. Little has changed in terms of the teaching of economics
  6. Mainstream economists reject the new populism, which they helped to create
  7. The normal workings of capitalism created, together and over time, the conditions for the most severe set of crises since the first Great Depression
  8. Mainstream economists, for the most part, haven’t even attempted to make sense of the role inequality played in creating the Second Great Depression

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The economic crises that came to a head in 2008 and the massive response—by the U.S. government and corporations themselves—reshaped the world we live in.* Although sectors of the U.S. economy are still in one of their longest expansions, most people recognize that the recovery has been profoundly uneven and the economic gains have not been fairly distributed.

The question is, what has changed—and, equally significant, what hasn’t—during the past decade?

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Let’s start with U.S. stock markets, which over the course of less than 18 months, from October 2007 to March 2009, dropped by more than half. And since then? As is clear from the chart above, stocks (as measured by the Dow Jones Composite Average) have rebounded spectacularly, quadrupling in value (until the most recent sell-off). One of the reasons behind the extraordinary bull market has been monetary policy, which through normal means and extraordinary measures has transferred debt and put a great deal of inexpensive money in the hands of banks, corporations, and wealth investors.

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The other major reason is that corporate profits have recovered, also in spectacular fashion. As illustrated in the chart above, corporate profits (before tax, without adjustments) have climbed almost 250 percent from their low in the third quarter of 2008. Profits are, of course, a signal to investors that their stocks will likely rise in value. Moreover, increased profits allow corporations themselves to buy back a portion of their stocks. Finally, wealthy individuals, who have managed to capture a large share of the growing surplus appropriated by corporations, have had a growing mountain of cash to speculate on stocks.

Clearly, the United States has experienced a profit-led recovery during the past decade, which is both a cause and a consequence of the stock-market bubble.

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The crash and the Second Great Depression, characterized by the much-publicized failures of large financial institutions such as Bear Stearns and Lehman Brothers, raised a number of concerns about the rise in U.S. bank asset concentration that started in the 1990s. Today, as can be seen in the chart above, those concentration ratios (the 3-bank ratio in purple, the 5-bank ratio in green) are even higher. The top three are JPMorgan Chase (which acquired Bear Stearns and Washington Mutual), Bank of America (which purchased Merrill Lynch), and Wells Fargo (which took over Wachovia, North Coast Surety Insurance Services, and Merlin Securities), followed by Citigroup (which has managed to survive both a partial nationalization and a series of failed stress tests), and Goldman Sachs (which managed to borrow heavily, on the order of $782 billion in 2008 and 2009, from the Federal Reserve). At the end of 2015 (the last year for which data are available), the 5 largest “Too Big to Fail” banks held nearly half (46.5 percent) of the total of U.S. bank assets.

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Moreover, in the Trump administration as in the previous two, the revolving door between Wall Street and the entities in the federal government that are supposed to regulate Wall Street continues to spin. And spin. And spin.

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As for everyone else, they’ve barely seen a recovery. Real median household income in 2016 was only 1.5 percent higher than it was before the crash, in 2007.

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That’s because, even though the underemployment rate (the annual average rate of unemployed workers, marginally attached workers, and workers employed part-time for economic reasons as a percentage of the civilian labor force plus marginally attached workers, the blue line in the chart) has fallen in the past ten years, it is still very high—9.6 percent in 2016. In addition, the share of low-wage jobs (the percentage of jobs in occupations with median annual pay below the poverty threshold for a family of four, the orange line) remains stubbornly elevated (at 23.3 percent) and the wage share of national income (the green line) is still less than what it was in 2009 (at 43 percent)—and far below its postwar high (of 50.9 percent, in 1969).

Clearly, the recovery that corporations, Wall Street, and owners of stocks have engineered and enjoyed during the past 10 years has largely bypassed American workers.

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One of the consequences of the lopsided recovery is that the distribution of income—already obscenely unequal prior to the crash—has continued to worsen. By 2014 (the last year for which data are available), the share of pretax national income going to the top 1 percent had risen to 20.2 percent (from 19.9 percent in 2007), while that of the bottom 90 percent had fallen to 53 percent (from 54.2 percent in 2007). In other words, the rising income share of the top 1 percent mirrors the declining share of the bottom 90 percent of the distribution.

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The distribution of wealth in the United States is even more unequal. The top 1 percent held 38.6 percent of total household wealth in 2016, up from 33.7 percent in 2007, that of the next 9 percent more or less stable at 38.5 percent, while that of the bottom 90 percent had shrunk even further, from 28.6 percent to 22.8 percent.

So, back to my original question: what has—and has not—changed over the course of the past decade?

One area of the economy has clearly rebounded. Through their own efforts and with considerable help from the government, the stock market, corporate profits, Wall Street, and the income and wealth of the top 1 percent have all recovered from the crash. It’s certainly been their kind of recovery.

And they’ve recovered in large part because everyone else has been left behind. The vast majority of people, the American working-class, those who produce but don’t appropriate the surplus: they’ve been forced, within desperate and distressed circumstances, to shoulder the burden of a recovery they’ve had no say in directing and from which they’ve been mostly excluded.

The problem is, that makes the current recovery no different from the run-up to the crash itself—grotesque levels of inequality that fueled the bloated profits on both Main Street and Wall Street and a series of speculative asset bubbles. And the current recovery, far from correcting those tendencies, has made them even more obscene.

Thus, ten years on, U.S. capitalism has created the conditions for renewed instability and another, dramatic crash.

 

*In a post last year, I called into question any attempt to precisely date the beginning of the crises.

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The crisis takes a much longer time coming than you think, and then it happens much faster than you would have thoughtRudi Dornbusch

Last week, a wide variety of U.S. media (including the Wall Street Journal and USA Today) marked what they considered to be the ten-year anniversary of the beginning of the global economic crisis—from which we still haven’t recovered.

The event in question, which occurred on 9 August 2007, was the announcement by international banking group BNP Paribas that, because their fund managers could not calculate a reliable net asset value of three mutual funds, they were suspending redemptions.

But, as I explain to my students, “Beware the appearance of precision!” For example, the more numbers after the decimal point (2.9, 2.93, 2.926, etc.), the more real and precise the number appears to be. But such a number is only ever an estimate, a best guess, about what is going on (whether it be the growth of output or the increase in new home sales).

The same holds for dates. It would be odd to choose a particular day ten years ago that, among all the possible causes and precipitating events, put the U.S. and world economies on the road to the Second Great Depression. That would be like saying World War I was caused on 28 June 1914, when Yugoslav nationalist Gavrilo Princip assassinated Archduke Franz Ferdinand of Austria. Or that the first Great Depression began on Black Thursday, 24 October 1929.

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Given the centrality of housing sales, mortgages, and mortgage-backed securities in creating the fragility of the financial sector, we could just as easily choose July 2005 (when, as in the green line in the chart above, new one-family house sales peaked), January 2006 (when, as in the blue line, new privately owned housing units starts peaked), or February 2007 (when the Case-Shiller home price index, the red line, started its slide).

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Or, alternatively, we could choose the third quarter of 2006, when the U.S. corporate profit share (before taxes and without adjustments) reached its peak, at almost 12 percent of national income. After that, it began to fall, and the decisions of capitalists dragged the entire economy to the brink of disaster.

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Or the year 2005, when the profits of the financial and insurance sector were at their highest level—at $158.3 trillion—and then began to decline. Then, of course, it was bailed out after falling into negative territory in 2008.

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Or, given the centrality of inequality in creating the conditions for the crash, we can go all the way back to 1980, when the share of income going to the top 1 percent was “only” 10.7 percent—since after that it started to rise, reaching an astounding 20.6 percent in 2006.

Those are all possible dates, some of course more precise than others.

What is important is each one of those indicators gives us a sense of how the normal workings of capitalism—in housing, finance and insurance, corporate profits, and the distribution of income—created, together and over time, the conditions for the most severe set of crises since the first Great Depression. And now, as a result of the crash and the nature of the recovery, all of them have been restored.

Thus creating the conditions for the next crash to occur, ten years after the last one.

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Income inequality continues to grow in the United States—which represents the very definition of insanity: “doing the same thing over and over again and expecting different results.”

According to recent data by Thomas Piketty, Emmanuel Saez, and Gabriel Zucman, from 1979 through 2006, the share of pre-tax income going to the bottom 50 percent of U.S. households fell from an already-low 20.1 percent to an even-lower 13.5 percent. During that same period, the top 1 percent went from 11.1 percent to 20.1 percent. (Their respective shares crossed in 1995, when each—the bottom 50 percent and the top 1 percent—took home about 15.5 percent of pre-tax income). In 1979, top 1-percent individuals earned on average 28 times more than bottom 50-percent individuals before tax while they earned 74 times more in 2006.

Then, after the crash (when the share of the top 1 percent decreased, as expected), during the so-called recovery (starting in 2009), the share of the bottom 50 percent continued to fall (to 12.5 percent, in 2014, the last year for which data are available) while that of the top 1 percent was restored (to 20.2 percent, in 2014). By 2014, top 1-percent individuals earned on average 81 times more than bottom 50-percent individuals. The share of income going to the top 1 percent is now almost twice as large as that of the bottom 50-percent share, a group that is by definition fifty times more numerous.

And government redistribution has offset only a tiny fraction of the increase in pre-tax inequality. Even after taxes and transfers, the growth in average income for working-age adults in the bottom 50 percent of the distribution since 1979 has been much lower than that of working-age adults in the top 1 percent (34 percent vs. 141 percent).*

So, the growing inequality that has characterized the years of the recovery from the crash of 2007-08 mirrors the decades of rising inequality that caused the crash in the first place.

And that, in a word, is insane.

*In other words, while the aggregate flow of government transfers has increased, these transfers are largely targeted to the elderly and the middle-class (individuals above the median and below the 90th percentile). Transfers that go to the bottom 50 percent have not been large enough to lift income significantly, especially compared to those at the top. Thus, for example, in terms of shares of post-tax income from 1979 to 2014, the bottom 50 percent has fallen from 25.6 percent to 19.4 percent, while the share of the top 1 percent has risen, from 9.1 percent to 15.6 percent.