Monday , October 15 2018
Home / Brad Delong, Berkeley / How important was the financial panic as a cause of the Great Recession? – EconSpark

How important was the financial panic as a cause of the Great Recession? – EconSpark

Summary:
Over on EconSpark, I think this is wrong: Ben Bernanke: How Important Was The Financial Panic As A Cause Of The Great Recession?: "The collapse of the housing bubble was certainly a primary cause of the Great Recession.  The unwinding of the bubble (1) depressed aggregate demand through its adverse effects on consumer wealth and residential construction, and (2) triggered a financial panic... The unwinding of the bubble set the table for the financial panic, but it did not trigger it. The bubble had already been unwound before the panic. The triggers of the panic lay elsewhere: in the events in financial markets that produced a sudden, discontinuous boost in the demand for safe assets. One picture I have always found very illuminating is this one: Real exports, real private

Topics:
Bradford DeLong considers the following as important: , , , ,

This could be interesting, too:

Bradford DeLong writes The Nobel-Like Prize in Economic Science, 2018

Bradford DeLong writes Blum Hall B100: Plaza Level: 2 PM: Bill Janeway: The Digital Revolution and the State: The Great Reversal

Bradford DeLong writes Grasping Reality with at Least Three Hands 2018-10-06 17:19:38

Bradford DeLong writes Prisoner’s Dilemma, or Prisoners’ Dilemma?: Hoisted from the Archives

Over on EconSpark, I think this is wrong: Ben Bernanke: How Important Was The Financial Panic As A Cause Of The Great Recession?: "The collapse of the housing bubble was certainly a primary cause of the Great Recession.  The unwinding of the bubble (1) depressed aggregate demand through its adverse effects on consumer wealth and residential construction, and (2) triggered a financial panic...

The unwinding of the bubble set the table for the financial panic, but it did not trigger it. The bubble had already been unwound before the panic. The triggers of the panic lay elsewhere: in the events in financial markets that produced a sudden, discontinuous boost in the demand for safe assets. One picture I have always found very illuminating is this one:

How important was the financial panic as a cause of the Great Recession? - EconSpark

Real exports, real private nonresidential fixed investment, real residential fixed investment, real government purchases, all as deviations from their 2007:IV shares of real potential GDP.

From 2005 through the end of 2007 the housing bubble breaks—and real housing investment relative to potential real GDP falls by 3.3%-points of real potential GDP. Yet there is no recession. Expenditure is smoothly switched from residential investment to exports and non-residential investment. Consumption is not noticeably weak in spite of the impact of diminished housing wealth on households.

Thus my belief that if the financial crisis had been managed—if the Bagehot Rule had been followed, and if there had been authorities to lend freely at a penalty rate on collateral that was good in normal times—and if 2008 had passed without a crash, then our proves would have been over. It was not the case that the economy in November 2008 "needed a recession" as John Cochrane liked to claim, "because people pounding nails in Nevada needed to find something else to do". The expenditure-switching had already happened. All that needed to be done was to keep demand for safe assets from exploding—and that is what lending freely at a penalty rate on collateral good in normal times is supposed to do.

And then, of course, in late 2008 things go to in a handbasket. And fiscal support is inadequate by orders of magnitude. And then after 2008 nothing is done to restart financial intermediation in the housing sector at its normal pace. And after 2010 we see fiscal shock after fiscal shock after fiscal shock...

And so here we are, 10% poorer than we thought a decade ago we would be now. And with lots of scarring  on lots of lives and organizations......


#shouldread
#monetarypolicy
#Bagehotrule
#financialcrisis
#finance
Bradford DeLong
J. Bradford DeLong is Professor of Economics at the University of California at Berkeley and a research associate at the National Bureau of Economic Research. He was Deputy Assistant US Treasury Secretary during the Clinton Administration, where he was heavily involved in budget and trade negotiations. His role in designing the bailout of Mexico during the 1994 peso crisis placed him at the forefront of Latin America’s transformation into a region of open economies, and cemented his stature as a leading voice in economic-policy debates.

Leave a Reply

Your email address will not be published. Required fields are marked *