Written Testimony Submitted To The Congressional Oversight Panel

Testimony submitted to the Congressional Oversight Panel, hearing on “The overall impact of the Troubled Asset Relief Program (TARP) on the health of the financial system and the general U.S. economy,” Thursday, November 19, 2009. (pdf version)

Submitted by Simon Johnson, Ronald Kurtz Professor of Entrepreneurship, MIT Sloan School of Management; Senior Fellow, Peterson Institute for International Economics; and co-founder of http://BaselineScenario.com.


1)      In the immediate policy response to any major financial crisis – involving a generalized loss of confidence in major lending institutions – there are three main goals:

  1. To stabilize the core banking system,
  2. To prevent the overall level of spending from collapsing,
  3. To lay the groundwork for a sustainable recovery.

2)      IMF programs are routinely designed with these criteria in mind and are evaluated on the basis of: the depth of the recession and speed of the recovery, relative to the initial shock; the side-effects of the macroeconomic policy response, including inflation; and whether the underlying problems that created the vulnerability to panic, are addressed over a 12-24 month horizon.

3)      This same analytical framework can be applied to the United States since the inception of the Troubled Asset Relief Program (TARP).  While there were unique features to the US experience (as is the case in all countries), the broad pattern of financial and economic collapse, followed by a struggle to recover, is quite familiar.

4)      The overall US policy response did well in terms of preventing spending from collapsing.  Monetary policy responded quickly and appropriately.  After some initial and unfortunate hesitation on the fiscal front, the stimulus of 2009 helped to keep domestic spending relatively buoyant, despite the contraction in credit and large increase in unemployment.  This was in the face of a massive global financial shock – arguably the largest the world has ever seen – and the consequences, in terms of persistently high unemployment, remain severe.  But it could have been much worse.

5)      There is no question that passing the TARP was the right thing to do.  In some countries, the government has the authority to provide fiscal resources directly to the banking system on a huge scale, but in the United States this requires congressional approval.  In other countries, foreign loans can be used to bridge any shortfall in domestic financing for the banking system, but the U.S. is too large to ever contemplate borrowing from the IMF or anyone else.

6)      Best practice, vis-à-vis saving the banking system in the face of a generalized panic involves three closely connected pieces:

  1. Preventing banks from collapsing in an uncontrolled manner.  This often involves at least temporary blanket guarantees for bank liabilities, backed by credible fiscal resources.  The government’s balance sheet stands behind the financial system.  In the canonical emerging market crises of the 1990s – Korea, Indonesia, and Thailand – where the panic was centered on the private sector and its financing arrangements, this commitment of government resources was necessary (but not sufficient) to stop the panic and begin a recovery.
  2. Taking over and implementing orderly resolution for banks that are insolvent.  In major system crises, this typically involves government interventions that include revoking banking licenses, firing top management, bringing in new teams to handle orderly unwinding, and – importantly – downsizing banks and other failing corporate entities that have become too big to manage.  In Korea, nearly half of the top 30 pre-crisis chaebol were broken up through various versions of an insolvency process (including Daewoo, one of the biggest groups).  In Indonesia, leading banks were stripped from the industrial groups that owned them and substantially restructured.  In Thailand, not only were more than 50 secondary banks (“Finance Houses”) closed, but around 1/3 of the leading banks were also put through a tough clean-up and downsizing process managed by the government.
  3. Addressing immediately underlying weaknesses in corporate governance that created potential vulnerability to crisis.  In Korea, the central issue was the governance of nonfinancial chaebol and their relationship to the state-owned banks; in Indonesia, it was the functioning of family-owned groups, which owned banks directly; and in Thailand it was the close connections between firms, banks, and politicians.  Of the three, Korea made the most progress and was rewarded with the fastest economic recovery.

7)      If any country pursues (a) unlimited government financial support, while not implementing (b) orderly resolution for troubled large institutions, and refusing to take on (c) serious governance reform, it would be castigated by the United States and come under pressure from the IMF.  At the heart of every crisis is a political problem – powerful people, and the firms they control, have gotten out of hand.  Unless this is dealt with as part of the stabilization program, all the government has done is provide an unconditional bailout.  That may be consistent with a short-term recovery, but it creates major problems for the sustainability of the recovery and for the medium-term.  Serious countries do not do this.

8)      Seen in this context, TARP has been badly mismanaged.  In its initial implementation, the signals were mixed – particularly as the Bush administration sought to provide support to essentially insolvent banks without taking them over.  Standard FDIC-type procedures, which are best practice internationally, were applied to small- and medium-banks, but studiously avoided for large banks.  As a result, there was a great deal of confusion in financial markets about what exactly was the Bush/Paulson policy that lay behind various ad hoc deals.

9)      The Obama administration, after some initial hesitation, used “stress tests” to signal unconditional support for the largest financial institutions.  By determining officially that these firms did not lack capital – on a forward looking basis – the administration effectively communicated that it was pursuing a strategy of “regulatory forbearance” (much as the US did after the Latin American debt crisis of 1982).  The existence of TARP, in that context, made the approach credible – but the availability of unconditional loans from the Federal Reserve remains the bedrock of the strategy.

10)  The downside scenario in the stress tests was overly optimistic, with regard to credit losses in real estate (residential and commercial), credit cards, auto loans, and in terms of the assumed time path for unemployment.  As a result, our largest banks remain undercapitalized, given the likely trajectory of the US and global economy.  This is a serious impediment to a sustained rebound in the real economy – already reflected in continued tight credit for small- and medium-sized business.

11)  Even more problematic is the underlying incentive to take excessive risk in the financial sector.  With downside limited by government guarantees of various kinds, the head of financial stability at the Bank of England (Andrew Haldane) bluntly characterizes our repeated boom-bailout-bust cycle as a “doom loop.”

12)  Exacerbating this issue, TARP funds supported not only troubled banks, but also the executives who ran those institutions into the ground.  The banking system had to be saved, but specific banks could have wound down and leading bankers could and should have lost their jobs.  Keeping these people and their management systems in place serious trouble for the future.

13)  The implementation of TARP exacerbated the perception (and the reality) that some financial institutions are “Too Big to Fail.”  This lowers their funding costs, enabling them to borrow more and to take more risk.

14)  The Obama administration argues that its regulatory reforms will rein in the financial sector in this regard.  Very few outside observers – other than at the largest banks – find this convincing.

15)  In fact, TARP also allowed the US Treasury to make it clear that some individuals are “Too Connected to Fail”.  Financial executives with strong connections to the current and previous leadership of the New York Fed (e.g., through network connections of various kinds) have great power and enormous market value in this situation.

16)  The US recovery strategy hinges on continued low interest rates (and a continuation of quantitative easing).  This creates risks of a new global asset bubble, funded in dollars and driven by exuberance about prospects in emerging markets.  The Fed has already signaled clearly that it will not raise interest rates for a long while.

17)  Unless bank regulators limit the direct and indirect risk exposure of US financial institutions to this new supposedly low risk “carry trade”, we face the very real prospect of another, even larger crisis.

The remainder of this testimony provides supportive background material, in terms of the global macroeconomic context within which TARP has operated and some important details about the program’s implementation.

Global Macroeconomic Context

After a deep recession, the world economy is experiencing a modest recovery after near financial collapse this spring.  The strength of the recovery varies sharply around the world:

  1. In Asia, real GDP growth is returning quickly to pre-crisis levels, and while there may be some permanent GDP loss, the real economy appears to be clearly back on track.  For next year consensus forecasts have China growing at 9.1% and India growing at 8.0%; the latest data from China suggest that these forecasts may soon be revised upwards.
  2. Latin America is also recovering strongly.  Brazil should grow by 4.5% in 2010, roughly matching its pre-crisis trend.  We can expect other countries in Latin America to recover quickly also.
  3. The global laggards are Europe and the United States.  The latest consensus forecasts are for Europe to grow by 1.1% and Japan by 1.0% in 2010, while the United Sates is expected to grow by 2.4% (and the latest revisions to forecasts continue to be in an upward direction).  Unemployment in the US is expected to stay high, around 10%, into 2011.

The current IMF global growth forecast of around 3 percent is probably on the low side, with considerably more upside possible in emerging markets (accounting nearly half of world GDP). The consensus forecasts for the US are also probably somewhat on the low side.

As the world recovers, asset markets are also turning buoyant.  Recently, residential real estate in elite neighborhoods of Hong Kong has sold at $8,000 US per square foot.  A 2,500 square foot apartment now costs $20 million.  Real estate markets are also showing signs of bubbly behavior in Singapore, China, Brazil, and India.

There is increasing discussion of a “carry trade” from cheap funding in the United States towards higher return risky assets in emerging markets.  This financial dynamic is likely to underpin continued US dollar weakness.

One wild card is the Chinese exchange rate, which remains effectively pegged to the US dollar.  As the dollar depreciates, China is becoming more competitive on the trade side and it is also attracting further capital inflows.  Despite the fact that the Chinese current account surplus is now down to around 6 percent, China seems likely to accumulate around $3 trillion in foreign exchange reserves by mid-2010.

Commodity markets have also done well.  Crude oil prices are now twice their March lows (despite continued spare capacity, according to all estimates), copper is up 129%, and nickel is up 103%.  There is no doubt that the return to global growth, at least outside North America and Europe, is already proving to have a profound impact on commodity markets.

Core inflation, as measured by the Federal Reserve, is unlikely to reach (or be near to) 2% in the near future.  However, headline inflation may rise due to the increase in commodity prices and fall in the value of the dollar; this reduces consumers’ purchasing power.

This nascent recovery is partly a bounce back from the near total financial collapse which we experienced in the Winter/Spring of 2008-09.  The key components of this success are three policies.

  • First, global coordinated monetary stimulus, in which the Federal Reserve has shown leadership by keeping interest rates near all time lows.  Of central banks in industrialized countries, only Australia has begun to tighten.
  • Second, global coordinated fiscal policy, including a budget deficit in the US that is projected to be 10% of GDP or above both this year and next year.  In this context, the Recovery Act played an important role both in supported spending in the US economy and in encouraging other countries to loosen fiscal policy (as was affirmed at the G20 summit in London, on April 2nd, 2009).
  • Third, after some U-turns, by early 2009 there was largely unconditional support for major financial institutions, particularly as demonstrated by the implementation and interpretation of the bank “stress tests” earlier this year.

However, the same policies that have helped the economy avoid a major depression also create serious risks – in the sense of generating even larger financial crises in the future.

A great deal has been made of the potential comparison with Japan in the early 1990s, with some people arguing that Japan’s experience suggests we should pursue further fiscal stimulus and continued regulatory forbearance for banks.  This reasoning is flawed.

We should keep in mind that repeated fiscal stimulus and a decade of easy monetary policy did not lead Japan back to its previous growth rates.  Japanese outcomes should caution against unlimited increases in our public debt.

Perhaps the best analysis regarding the impact of fiscal policy on recessions was done by the IMF.  In their retrospective study of financial crises across countries, they found that nations with “aggressive fiscal stimulus” policies tended to get out of recessions 2 quarters earlier than those without aggressive policies.  This is a striking conclusion – should we (or anyone) really increase our deficit further and build up more debt (domestic and foreign) in order to avoid 2 extra quarters of contraction?

A further large fiscal stimulus, with a view to generally boosting the economy, is therefore not currently appropriate.  However, it makes sense to further extend support for unemployment insurance and for healthcare coverage for those who were laid off – people are unemployed not because they don’t want to work, but because there are far more job applicants than vacancies.  Compared with other industrial countries, our social safety net is weak and not well suited to deal with the consequences of a major recession.

America is well-placed to maintain its global political and economic leadership, despite the rise of Asia.  But this will only be possible if our policy stance towards the financial sector is substantially revised: the largest banks need to be broken up, “excess risk taking” that is large relative to the system should be taxed explicitly, and measures implemented to reduce the degree of nontransparent interconnectedness between financial institutions of all kinds.

TARP Specifics

In a financial panic, the critical ingredients of the government response must be speed and overwhelming force. The root problem is uncertainty – in our case, uncertainty about whether the major banks have sufficient assets to cover their liabilities. Half measures combined with wishful thinking and a wait-and-see attitude are insufficient to overcome this uncertainty. And the longer the response takes, the longer that uncertainty can sap away at the flow of credit, consumer confidence, and the real economy in general – ultimately making the problem much harder to solve.

Instead, however, the principal characteristics of the government’s response to the financial crisis have been denial, lack of transparency, and unwillingness to upset the financial sector.

First, there was the prominent place of policy by deal: when a major financial institution, got into trouble, the Treasury Department and the Federal Reserve would engineer a bailout over the weekend and announce that everything was fine on Monday. In March 2008, there was the sale of Bear Stearns to JPMorgan Chase, which looked to many like a gift to JPMorgan. The deal was brokered by the Federal Reserve Bank of New York – which includes Jamie Dimon, CEO of JPMorgan, on its board of directors. In September, there were the takeover of Fannie Mae and Freddie Mac, the sale of Merrill Lynch to Bank of America, the decision to let Lehman fail, the destructive bailout of AIG, the takeover and immediate sale of Washington Mutual to JPMorgan, and the bidding war between Citigroup and Wells Fargo over the failing Wachovia – all of which were brokered by the government. In October, there was the recapitalization of nine large banks on the same day behind closed doors in Washington. This was followed by additional bailouts for Citigroup, AIG, Bank of America, and Citigroup (again).

In each case, the Treasury Department and the Fed did not act according to any legislated or even announced principles, but simply worked out a deal and claimed that it was the best that could be done under the circumstances. This was late-night, back-room dealing, pure and simple.

What is more telling, though, is the extreme care the government has taken not to upset the interests of the financial institutions themselves, or even to question the basic outlines of the system that got us here.

In September 2008, Henry Paulson asked for $700 billion to buy toxic assets from banks, as well as unconditional authority and freedom from judicial review. Many economists and commentators suspected that the purpose was to overpay for those assets and thereby take the problem off the banks’ hands – indeed, that is the only way that buying toxic assets would have helped anything. Perhaps because there was no way to make such a blatant subsidy politically acceptable, that plan was shelved.

After the “Paulson Plan” was passed on October 3, 2008, it was quickly overtaken by events. First the UK announced a bank recapitalization program; then, on October 13, it was joined by every major European country, most of which also announced loan guarantees for their banks. On October 14, the US followed suit with a bank recapitalization program, unlimited deposit insurance (for non-interest-bearing accounts), and guarantees of new senior debt. Only then was enough financial force applied for the crisis in the credit markets to begin to ease, with LIBOR finally falling and Treasury yields rising, although they remained a long way from historical levels.

The money used to recapitalize (buy shares in) banks was provided on terms that were grossly favorable to the banks. For example, Warren Buffett put new capital into Goldman Sachs just weeks before the Treasury Department invested in nine major banks. Buffett got a higher interest rate on his investment and a much better deal on his options to buy Goldman shares in the future.

As the crisis deepened and financial institutions needed more assistance, the government got more and more creative in figuring out ways to provide subsidies that were too complex for the general public to understand. The first AIG bailout, which was on relatively good terms for the taxpayer, was renegotiated to make it even more friendly to AIG. The second Citigroup and Bank of America bailouts included complex asset guarantees that essentially provided nontransparent insurance to those banks at well below-market rates. The third Citigroup bailout, in late February 2009, converted preferred stock to common stock at a conversion price that was significantly higher than the market price – a subsidy that probably even most Wall Street Journal readers would miss on first reading. And the convertible preferred shares that will be provided under the new Financial Stability Plan give the conversion option to the bank in question, not the government – basically giving the bank a valuable option for free.

Note that this strategy is not internally illogical: if you believe that asset prices will recover by themselves (or by providing sufficient liquidity), then it makes sense to continue propping up weak banks with injections of capital. However, our main concern is that it underestimates the magnitude of the problem and could lead to years of partial measures, none of which creates a healthy banking system.

The main components of the administration’s bank rescue plan included:

  • Stress tests, conducted by regulators, to determine whether major banks can withstand a severe recession, followed by recapitalization (if necessary) in the form of convertible preferred shares
  • The Public-Private Investment Program (PPIP) to stimulate purchases of toxic assets, thereby removing them from bank balance sheets

The administration as much as said that the major banks will all pass the stress tests, making it appear that the results were foreordained. Essentially, this was used to signal that the government stood behind the 19 banks in the stress test and would not allow any of them to fail.  Effectively, the government signaled which banks were Too Big To Fail.

We also do not expect the PPIP to meet its stated objective of starting a market for toxic assets (both whole loans and mortgage-backed securities) and thereby moving them off of bank balance sheets. In essence, the PPIP attempts to achieve this goal by subsidizing private sector buyers (via non-recourse loans or loan guarantees) to increase their bid prices for toxic assets. Besides the subsidy from the public to the private sector that this involves, we are skeptical that the plan as outlined will raise buyers’ bid prices high enough to induce banks to sell their assets. From the banks’ perspective, selling assets at prices below their current book values will force them to take writedowns, hurting profitability and reducing their capital cushion.

As long as the government’s strategy is to prevent banks from failing at all costs, banks have an incentive to sit the PPIP out (or even participate as buyers) and wait for a more generous plan. Again, the key question is how the loss currently built into banks’ toxic assets will be distributed between bank shareholders, bank creditors, and taxpayers. By leaving banks in their current form and relying on market-type incentives to encourage them to clean themselves up, the administration has given the banks an effective veto over financial sector policy. There is a chance that the PPIP will have its desired effect, but otherwise several months will pass and we will be right where we started.

Ultimately, the stalemate in the financial sector is the product of political constraints. On the one hand, the administration has consistently foresworn dictating a solution to the financial sector, either out of deep-rooted antipathy to nationalization, or out of fear of being accused of nationalization. On the other hand, bailout fatigue among the public and in Congress, aggravated by the clumsy handling of the AIG bonus scandal, has made it impossible for the administration to propose a solution that is too generous to banks, or that requires new money from Congress.

One problem with this velvet-glove strategy is that it was simply inadequate to change the behavior of a financial sector used to doing business on its own terms.

This continued solicitousness for the financial sector might be surprising coming from the Obama Administration, which has otherwise not been hesitant to take action. The $800 billion fiscal stimulus plan was watered down by the need to bring three Republican senators on board and ended up smaller than many hoped for, yet still counts as a major achievement under our political system. And in other ways, the new administration has pursued a progressive agenda, for example in signing the Lilly Ledbetter law making it easier for women to sue for discrimination in pay and moving to significantly increase the transparency of government in general (but not vis-à-vis its dealings with the financial sector).

And the Obama administration has pushed hard for a new agency to better regulate financial products offered to consumers.  This is a commendable effort that is likely to succeed, despite opposition from the financial sector.  Unfortunately, there has been no parallel effort to rein in the economic and political power of our largest financial institutions.

The power of the financial sector goes far beyond a single set of people, a single administration, or a single political party. It is based not on a few personal connections, but on an ideology according to which the interests of Big Finance and the interests of the American people are naturally aligned – an ideology that assumes the private sector is always best, simply because it is the private sector, and hence the government should never tell the private sector what to do, but should only ask nicely, and maybe provide some financial handouts to keep the private sector alive.

To those who live outside the Treasury-Wall Street corridor, this ideology is increasingly not only at odds with reality, but actually dangerous to the economy.

By Simon Johnson

This testimony draws on joint work with Peter Boone, particularly “The Next Financial Crisis: It’s Coming and We Just Made It Worse” (The New Republic, September 8, 2009), and James Kwak, particularly “The Quiet Coup” (The Atlantic, April, 2009).

25 thoughts on “Written Testimony Submitted To The Congressional Oversight Panel

  1. Best summary analysis you have written so far. However, you need to be more clear and forthcoming on your reasoning against additional fiscal stimulus. If 17% US unemployment is to persist long into the future, then don’t we need to begin to look at some large-scale jobs programs, or some form of protectionism? How soon before unemployed Americans start to migrate to China in search of work?

  2. Stefan, many people in Europe and North America already “migrate” to China for work. Think Hong Kong, Shanghai, Beijing, Tokyo. It’s been going on for years.

  3. thanks you guys. it is really good to know that objective, knowledgable people are communicating to congress what is wrong & inspiring ways for it to be fixed. keep up the good work.

  4. Defeating erroneous thought systems so deeply entrenched rarely happens without drama. So do not expect “No Drama Obama” to go anywhere.

    Thus capital will keep on being sent to the universe of crazy derivatives, instead than to the real economy on Earth. That insures big profits for the self described big “friends” of Obama, such as Jamie Daemon (sorry for the typo, if any). OK, a surplus will go to emerging economies, to pursue the divestment and devolution of the USA in a safer locale, where corruption is of the essence.

    Patrice Ayme

  5. “Polonius: What do you read, my lord?
    Hamlet: 3,974 Words, 3,974 words, 3,974 words.
    Polonius: What is the matter, my lord?
    Hamlet: Between who?
    Polonius: I mean, the matter that you read, my lord.
    Hamlet: Slanders, sir: for the satirical rogue says here that old men have grey beards….
    Polonius: [Aside] Though this be madness, yet there is method in’t.

  6. “the doom loop” should be required reading for every member of the elected branch, the f. federal reserve, wall street etc. Sadly I consider the conclusions to be no more than common sense. What I don’t understand is how and why this common sense has failed to be applied.

    I think it has to do with the political srtucture us the us (lobby interests) and the fact that the rgularoty agencies have been highjacked the the very agencies they are supposed to regulate.

    Please Mr. Johnson send the doom loop to every member of the house, sneate, and white house. Esp that fool barney frank. I use the term fool because he is foolishly ignoring the lessons of history for the short term gains of the industry he regulates.

  7. Many people talk about China who don’t know what they are talking about. I guess it makes them feel hip or something. We won’t see many Americans migrating to China for work any time soon (not for years). The bigger danger is talented Chinese scientists, mathematicians, IT experts, etc. deciding they would rather go BACK home after receiving a superior education in the USA and going back to help the “motherland”. They can have a pretty darned good life there with a Western Master’s degree. And we lose that skill set. A skill set that we spent our tax dollars and resources on. That’s what is going to hurt us the next 10 years.

  8. First, it’s welcome to see this message getting to Congress. If you happen to read this comment, here are some notes (which are not meant to be taken as hostile in any way):

    “We should keep in mind that repeated fiscal stimulus and a decade of easy monetary policy did not lead Japan back to its previous growth rates. Japanese outcomes should caution against unlimited increases in our public debt.”

    Please note that this definition of easy money is contested – money in Japan was _not_ “easy” in the sense that BoJ never created enough _permanent_ money (relative to debt loads) to substantially change long term expectations of inflation (or substantially reduce _real_ interest rates). Krugman tackled this in his Lost Decade argument, arguing that the fundamental problem was that BoJ _never_ really committed to an above-zero inflation target. BoJ never got ahead of the curve, but always trailed it. Scott Sumner covers this ad nauseum. For example:


    Krugman has lately confirmed that he still believes that monetary policy would be the most effective tool to escape the recession, but that he has no faith in the Fed to execute (and thus keeps pushing second-best stimulus).

    In this view, Japan’s Lost Decades resulted from a combination of tight money (measured by _real_ interest rates), an overvalued Yen, excess debt loads, blocked credit channels, and fiscal stimulus that kept the currency overvalued (relative to goods and services) by plugging the investment/savings gap with excess non-productive government investment that was funded by issuring debt obligations. (Also, the Japanese savings rate was far in excess of the current US savings rate, even after the recent uptick.)

    After 15 years, the Japanese government is at serious risk of defaulting because it never had the stomach to create real inflation.

    We are headed down that road. Unfortunately, in this very comment to Congress, you seem to encourage this:

    “A further large fiscal stimulus, with a view to generally boosting the economy, is therefore not currently appropriate. However, it makes sense to further extend support for unemployment insurance and for healthcare coverage for those who were laid off – people are unemployed not because they don’t want to work, but because there are far more job applicants than vacancies.”

    The sentiment is noble, but how exactly does this support restoration of balance? How does one separate between those who “can’t” find jobs they want (in the industry they like at their old salary), and those who are simply not accepting jobs that pay less? How can one support _massive_ transfer payments and lost income tax revenue while opposing government incentivized infrastructure investment (even when the economy is running at a capacity utilization rate under 70%)?

    So while I appreciate the hard-line against finance, I have to strenuously caution that the anti-TBTF movement has become closely aligned to the anti-government movement in general. This creates an immense risk. If we take a hard-line with finance, and do not SIMULTANEOUSLY take aggressive measures to restore nominal prices (“inflation”) back to the long run trajectory by supplementing the money supply to compensate for the decrease in velocity (as TBTF institutions stop making loans while they are being dissected by FDIC or some other agency), then the result will be implosion… If this happens, public sentiment will turn (as it already has) on government. The end result will lead us into a decade of Japan-like stagnation, with long-term unemployment, wasted labor resources, and huge transfer payments incurring debt.

    In short, the anti-TBTF movement is already being co-opted by the anti-government, anti-Fed, anti-stimulus movements. (And, frankly, the current administration wholly deserves that blame.)

    But the question is how to stabilize nominal prices (and, ideally, nominal GDP growth) while our banking institutions are being reorganized. And the answer needs to involve significant monetary stimulus. Ideally, that stimulus would be directed into useful ends (a massive long term incentive-based infrastructure investment push), rather than being directed into carry-trade fueled asset bubbles.

    Thank you for fighting the good fight…

  9. Choice quote, confirming my worst fears:


    “We’ve been fighting with the President’s economic team for months… They don’t believe in infrastructure. They don’t seem to believe in investment. They want a borrowed money, consumer driven recovery… that ain’t happening.”

    And that’s from a Democrat. Ugh. When the country hands Obama his pink slip in 2012, it will be a sad, but well-deserved day.

  10. Lets face it, most Chinese “technicians” are here stealing Intellectual Capital. I dont trust them. I have friends that sell products into labs and there are so many Chinese technicians trained in the USA or Canada and stealing b/c they are employed.


  11. IF (I say IF) the rumors about Geithner asking for Sheila Bair’s firing are true, it’s obvious the guy not only is working for big banks’ interests, but he is out to destroy those who care about Main Street people. This story reported recently by Mary Williams Walsh of NYT is also reason to question what Geithner’s REAL AGENDA is. http://www.nytimes.com/2009/11/17/business/17aig.html?_r=1&dbk

    Whose side is Geithner on??

  12. Although I am sure there is a large degree of truth in what you are saying, the Chinese don’t even have to go overseas to do that. Oftentimes they invite large foreign conglomerates into China, then Chinese learn the superior manufacturing processes through observation, reverse engineering, or both. There was a story about a young Chinese engineer (or something similar) who “lost” a prototype of an Apple technology (may have been the phone) and committed suicide shortly afterward. But they do it with many foreign originated technologies and processes. Once the Chinese learn the new technologies and processes they start to “put the shaft” to the foreign companies until they “voluntarily” leave and then the Chinese take the home market.

  13. Stats Guy
    you say”Krugman—believes that monetary policy would be the most effective tool—“etc. could you give example(s)of action that the Fed could take that would constitute”the most effective tool”that Krugman seems to desire.

  14. Simon, this is exactly the thing that Congress needs to hear. The problem is that they need hearing aids to do so. Thusfar they have turned their deaf ears (both of them, all of the time) to such congent testamony in favor of supporting the oligarchy/plutocracy in which they willingly, nay, gleefully participate. The way things are going, by the time (a couple of years) passes until the next dam burst, they are likely going to be out of office, and so why try to do the right thing now and cost them valuable private sector careers after they leave Congress.

    The oligarchs will continue to support (oops, bribe I meant) their way to further prosperous differentials until then, and carefully send their ill-gotten gains to parts of the world less likely to fall as we will.

    I would love to see some strong leaders in the administration and Congress act on even a little of the good advice that you and many others (Stiglitz, Ferguson, Volker, et al) have offered up, but thus far the public hasn’t spoken loudly enough to conquer the Congressional deafness, and, even if that happens, I believe that many of them know, or believe that their days of glory on Capital Hill are numbered.

    I don’t ever speak of violence as a solution, but I guaranty you that if the high rate of unemployment continues, their will be many within out borders who will be thinking of violent solutions, as many already are.

  15. http://krugman.blogs.nytimes.com/2009/11/13/its-the-stupidity-economy/

    The list of items that are effective beyond the zero bound is well known, and was summarized by Bernanke’s now famous speech:


    Other mechanisms have been suggested (such as charging interest on bank reserves to force them to lend, rather than PAYING interest on bank reserves – especially when those reserves came from TARP!).

    It is inconceivable that the Fed cannot generate inflation, should it so choose. One serious question is this – in seeking to restore the long run trends, how many of the FOMC members would desire to set inflation at 4.5% for a year to recover from the negative YoY price declines we had in this last recession?

    Even the non-hawks on the FOMC only want to restore back up to the 2% level _going forward_, which still leaves the economy with an historical nominal price gap.

    But really, most of the FOMC would be happy keeping inflation slightly under 2%… So when Krugman talked about the BoJ failing to credibly commit to inflation, you might be tempted to wonder how that could possibly be a problem. Apparently, we’re now discovering for ourselves.

  16. Modest, but significant inflation will be helpful, and is necessary, but won’t solve it all. What is needed is a measure of central planning, as China, France and Germany have (among others).

    The Eurozone targets 2% inflation, but the central planing of France and Germany steer the economic pot (for example Germany is driving towards CO2 emissions of less than 40% below its 1990 level, by 2020, which creates immense economic activity.)

  17. “Too Big to Fail.” is sounding trite. An uneducating, self-aggrandizing rehetoric. A more enlightning adjective comes from a similar sales pitch from 1912,”Titanic”. We know how that worked out, but this time I doubt we’ll be saving “women and children first”. When financial resources are exhausted, will the military be called on to defend our “National Interests”. Who would be the target, revolting natives, foreign competitors..terrorists?

  18. Simon and James, can you offer your thoughts on the Paul-Grayson Amendment on auditing the Fed that apparently came out of nowhere and shocked the world by actually being passed yesterday despite big time pushback from the White House and the Fed? Is it that big a deal? Not so much?

    Your blog is essential reading in understanding what the heck is actually going on to a financial non-professional like me. Thanks for all your great work and especially for the extraordinary public commitment it requires.

  19. I wouldn’t call it central planning – I would call it what we had in the 50’s – an “industrial policy”, an “energy policy”, a “trade policy”. These were coordinating functions that operated through market mechanisms (tax incentives, etc.), and to some degree contracting.

  20. …more transparency from the Federal Reserve would be a good start. first by changing it’s name so as not to mislead the rest of us into thinking it’s the fourth branch of government…. look at any directory of its members and most if not all are from the banking industry.

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