Author: Simon Johnson

The Crisis This Time

This morning at the American Economic Association (AEA) meeting in Atlanta, I was on a panel, “Global Financial Crises: Past, Present, and Future,” with Allen Sinai (the organizer), Mike Intriligator, and Joe Stiglitz.

The Wall Street Journal’s RealTime ran a summary of my main points: growth in 2010 may be faster or slower – depending on how lucky we get- but, either way, the most serious problem we face is that 6 banks in the U.S. are now undeniably (in their own minds) Too Big To Fail. Continue reading “The Crisis This Time” →

Doom Loop, UK Edition

In the Sunday Times (of London) today, Peter Boone and I address what the British authorities can do to break their version of the boom-bust-bailout cycle.

There is a certain amount of fatalism about these issues in Europe. This is misplaced. In the short-term, European policymakers have an important opportunity to diminish the political power of big banks, particularly because peer review – through the European Commission, the G20, and even the IMF – is more likely to have impact there than in the United States.

It’s an open question whether the degree of ideological capture by finance was stronger over the past decade in the US or the UK. But at least leading UK policymakers have started to push back against their banks; in the US, Paul Volcker remains a relatively lonely quasi-official voice.

By Simon Johnson

Lessons Learned From The 1990s

In the 1990s, the Clinton Administration amassed a great deal of experience fighting financial crises around the world.

Some of the U.S. Treasury’s specific advice was controversial – e.g., pressing Korea to open its capital markets to foreign investors at the height of the crisis – but the broad approach made sense: Fix failing financial systems up-front, because this is the best opportunity to address the underlying problems that helped produce the crisis (e.g., banks taking excessive risks). If you delay attempts to reform until economic recovery is underway, the banks and other key players are powerful again, real change is harder, and future difficulties await.

In a major retrospective speech to the American Economic Association in 2000, Larry Summers – the primary crisis-fighting strategist – put it this way: Continue reading “Lessons Learned From The 1990s” →

What The Senate Must Do Now

This guest post was contributed by Charles S. Gardner, a former senior official at the International Monetary Fund. He argues we must not overlook the importance of extending effective regulation to the nonbank sector.

As Congressional action on financial industry reform shifts to the Senate from the bill passed recently by the House, the urgent need now is to fill the gaps in the piecemeal House approach. Regulators require an airtight scheme giving them clear responsibility plus tools to nip industry abuses early and drain the tendency to crisis out of world finance. This rare opportunity also must be seized to restore the Federal Reserve’s control of the money supply, eroded by decades of expanding credit creation by nonbanks. Continue reading “What The Senate Must Do Now” →

Fear And Loathing In Manhattan

In the Washington Post Book World today, I review Andrew Ross Sorkin’s Too Big To Fail and two related books: Duff McDonald’s biography of Jamie Dimon (Last Man Standing), and Peter Goodman’s broader retrospective on the political origins and social impact of the crisis (Past Due).

If you think the crisis of 2008-09 was an aberration, or top Wall Street executives have learned their lessons, or our financial system is no longer dangerous, take a look at these books. Each of them separately explains part of how the people running our biggest banks have done so well; taken together, these books describe a pattern of corporate and government behavior which – in the aftermath of the Great Bailout of 2009 – points to serious trouble ahead.

By Simon Johnson

Should Ben Bernanke Be Reconfirmed?

Ben Bernanke’s nomination to be reconfirmed as chairman of the Federal Reserve Board passed out of the Senate Banking Committee and will next be taken up by the full Senate.

But, despite being named Time’s Person of the Year for his efforts during the financial crisis, the Bernanke nomination has run into strong pushback – both in terms of tough questions from the committee and in the form of a “hold” on the nomination, placed by Senator Bernie Sanders of Vermont.

The conventional wisdom among economists is that political control over an independent central bank is regrettable and should be resisted. We like to think of the Federal Reserve as a bastion of technocracy, with monetary policy steering a course between recession and inflation just on the basis of “objective evidence” regarding the relative balance of risks (i.e., if monetary policy stays too loose for too long, we’ll get inflation, but if interest rates are tightened prematurely, the economic recovery will stall.)

But the fact of the matter is that, in any well-functioning democracy, independence is earned based on credible and ultimately successful actions — not granted for all time and without conditions. The questions raised about Mr. Bernanke’s performance in office and his likely future actions are almost entirely appropriate – and focus attention on a major weakness in the case for his reappointment. Continue reading “Should Ben Bernanke Be Reconfirmed?” →

Bernanke’s Reply: On The Doom Loop

Senator David Vitter submitted one of my questions to Federal Reserve Chairman Ben Bernanke, as part of his reconfirmation hearings, and received the following reply in writing (as already published in the WSJ on-line).

Q. Simon Johnson, Massachusetts Institute of Technology and blogger: Andrew Haldane, head of financial stability at the Bank of England, argues that the relationship between the banking system and the government (in the U.K. and the U.S.) creates a “doom loop” in which there are repeated boom-bust-bailout cycles that tend to get cost the taxpayer more and pose greater threat to the macro economy over time. What can be done to break this loop?

A. The “doom loop” that Andrew Haldane describes is a consequence of the problem of moral hazard in which the existence of explicit government backstops (such as deposit insurance or liquidity facilities) or of presumed government support leads firms to take on more risk or rely on less robust funding than they would otherwise. A new regulatory structure should address this problem. Continue reading “Bernanke’s Reply: On The Doom Loop” →

“It’s Certainly Not For A Lack Of Effort”

The fundamental divide in opinion regarding our financial system is: Are the people running “large integrated financial groups” hapless fools, buffeted by forces beyond their comprehension and control; or do they know exactly how to ensure they get the upside and the awful, sickening downside is borne by society – including through high unemployment.

Some light was shed on this issue by Monday’s meeting at the White House or, more specifically, by who didn’t turn up and why. Of the dozen bank CEOs invited, Vikram Pandit was supposedly busy trying to extricate Citi from TARP and asked Dick Parsons to attend instead – a wimpy but smart move, as Parsons is close to the President.

However, three executives – Lloyd Blankfein, John Mack, and Dick Parsons himself – did not show up in person and had to join by conference call. Their excuse was bad weather (fog) in DC meant that they were unable to fly in; Mack was quoted as saying, regarding their absence, “It’s certainly not for a lack of effort“.

But really there are three possible interpretations: Continue reading ““It’s Certainly Not For A Lack Of Effort”” →

Paul Volcker Picks Up A Bat

For most the past 12 months, Paul Volcker was sitting on the policy sidelines. He had impressive sounding job titles – member of President Obama’s Transition Economic Advisory Board immediately after last November’s election, and quickly named to head the new Economic Recovery Board.

But the Recovery Board, and Volcker himself, have seldom met with the President. Economic and financial sector policy, by all accounts, has been made largely by Tim Geithner at Treasury and Larry Summers at the White House, with help from Peter Orszag at the Office of Management and Budget, and Christina Romer at the Council of Economic Advisers.

With characteristic wry humor, Volcker denied in late October that he had lost clout within the administration: “I did not have influence to start with.”

But that same front page interview in the New York Times contained a well placed shock to then prevailing policy consensus. Continue reading “Paul Volcker Picks Up A Bat” →

Don’t Worry About Greece

The latest round of fretting in global debt markets is focused on Greece (WSJ; Greece). This is misplaced.

To be sure, there will be a great deal of shouting before the matter is formally resolved, but the Abu Dhabi-Dubai affair shows you just where Greece is heading.

The global funding environment (thanks to Mr. Bernanke, Time’s Person of the Year) will remain easy for the foreseeable future. This makes it very easy and appealing for a deep pocketed friend and ally (Abu Dhabi; the eurozone) to provide a financial lifeline as appropriate (a loan; continued access to the “repo window” at the European Central Bank, ECB).

Of course, there will be some conditions – and in this regard the Europeans have a big advantage: the Germans. Continue reading “Don’t Worry About Greece” →

“Wake Up, Gentlemen”

The guiding myth underpinning the reconstruction of our dangerous banking system is: Financial innovation as-we-know-it is valuable and must be preserved. Anyone opposed to this approach is a populist, with or without a pitchfork.

Single-handedly, Paul Volcker has exploded this myth. Responding to a Wall Street insiders‘ Future of Finance “report“, he was quoted in the WSJ yesterday as saying: “Wake up gentlemen. I can only say that your response is inadequate.”

Volcker has three main points, with which we whole-heartedly agree:

“[Financial engineering] moves around the rents in the financial system, but not only this, as it seems to have vastly increased them.”
“I have found very little evidence that vast amounts of innovation in financial markets in recent years have had a visible effect on the productivity of the economy”

and most important: Continue reading ““Wake Up, Gentlemen”” →

Jamie Dimon Has Another Good Year

In May, Jamie Dimon, the head of JP Morgan Chase, told his shareholders that the bank just had probably “our finest year ever.” Despite being close to the epicenter of the worst financial crisis since the Great Depression, Dimon’s bank was able to make a great deal of money, obtain government support when needed, and reduce that support level quickly when the overall situation stabilized – thus freeing the bank of constraints on its pay packages (and other activities).

It looks like the full year 2009 may turn out even better than Mr. Dimon expected in May. Speaking at the Goldman Sachs US Financial Services Conference on Tuesday (December 8), Jamie Dimon presented JP Morgan Chase’s third quarter results (year-to-date). His slides are informative, but if you want to pick up the nuances in his message, listen to the audio webcast (you have to register, but it’s free; here are back-up/alternative links). Continue reading “Jamie Dimon Has Another Good Year” →

Gerry Corrigan’s Case For Large Integrated Financial Groups

Increasingly, leading bankers repeat versions of the argument made recently by E. Gerald Corrigan in his Dolan Lecture at Fairfield University. Corrigan, former President of the New York Fed and a senior executive at Goldman Sachs for more than a decade, makes three main points.

“Large Integrated Financial Groups” – at or around their current size – offer unique functions that cannot otherwise be provided. The economy needs these Groups.
Breaking up such Groups would be extremely complex and almost certainly very disruptive.
An “Enhanced Resolution Authority” can mitigate the problems that are likely to occur in the future, when one or more Group fails.

These assertions are all completely wrong. Continue reading “Gerry Corrigan’s Case For Large Integrated Financial Groups” →

Measuring The Fiscal Costs Of Not Fixing The Financial System

This post is a slightly edited version of remarks prepared for delivery at Unwinding Public Interventions in the Financial Sector: Preconditions and Practical Considerations, IMF High-Level Conference, Thursday, December 3, 2009, Washington D.C. I participated in Session 2: Managing Fiscal Risks—Public Finance Aspects of Unwinding.

The Problem

1) The underlying fiscal problems of the U.S. have significantly worsened as a direct result of how the financial crisis of 2008-09 was handled.

2) The U.S. economic system has evolved relatively efficient ways of handling the insolvency of nonfinancial firms and small or medium-sized financial institutions. A large number of these institutions have failed so far this year, without causing major disruption to the economy.

3) The U.S. does not yet have a similarly effective way to deal with the insolvency of large financial institutions. The dire implications of this gap in our system have become much clearer since fall 2008 and there is no immediate prospect that the underlying problems will be addressed by the regulatory reform proposals currently on the table. In fact, our underlying banking system problems are likely to become much worse. Continue reading “Measuring The Fiscal Costs Of Not Fixing The Financial System” →

Some Questions For Mr. Bernanke

On Thursday, Ben Bernanke will appear before the Senate Banking Committee, to begin his reconfirmation process as chairman of the Federal Reserve Board.

Based on committee members’ public statements, Bernanke already appears to have enough votes on his side. But Thursday’s hearing and the subsequent floor debate are an important opportunity for senators to raise important issues about how the Fed will operate moving forward.

This is more than a ritual. Questioning (the monetary) authority and politely insisting on a coherent answer is an important part of our political governance structure – and something that was sorely lacking during the Greenspan era.

There are three possible lines of enquiry that could draw Mr. Bernanke out. These questions could be separate or part of a sequence: Continue reading “Some Questions For Mr. Bernanke” →