At this stage in the worldwide fight against depression, it is useful to stop and consider just how conservative the policies implemented by the world’s central banks, treasuries, and government budget offices have been.
Almost everything that they have done – spending increases, tax cuts, bank recapitalisation, purchases of risky assets, open-market operations, and other money-supply expansions – has followed a policy path that is nearly 200 years old, dating back to the earliest days of the Industrial Revolution, and thus to thefirst stirrings of the business cycle.
The place to start is 1825, when panicked investors wanted their money invested in safe cash rather than risky enterprises. Robert Banks Jenkinson, Second Earl of Liverpool and First Lord of the Treasury for King George IV, begged Cornelius Buller, Governor of the Bank of England, to act to prevent financial-asset prices from collapsing. “We believe in a market economy,” Lord Liverpool’s reasoning went, “but not when the prices a market economy produces lead to mass unemployment on the streets of London, Bristol, Liverpool, and Manchester.”
The Bank of England acted: it intervened in the market and bought bonds for cash, pushing up the prices of financial assets and expanding the money supply. It loaned on little collateral to shaky banks. It announced its intention to stabilize the market – and that bearish speculators should beware.
Ever since, whenever governments largely stepped back and let financial markets work their way out of a panic out by themselves – 1873 and 1929 in the United States come to mind – things turned out badly. But whenever government stepped in or deputised a private investment bank to support the market, things appear to have gone far less badly. For example, the US government essentially authorized J.P. Morgan to act as the country’s central bank in the aftermath of the 1893 and 1907 panics, created the Resolution Trust Corporation at the start of the 1990’s, and, together with the IMF, intervened to support Mexico in 1995 and the East Asian economies in 1997-98.
At the very least, few modern governments are now willing to let financial market heal themselves. To do so would be a truly radical step indeed.
The Obama administration and other central bankers and fiscal authorities around the globe are thus, in a sense, acting very conservatively, even as they embrace deficit-spending programmes, boost the volume of government bonds, guarantee risky private debt, and buy up auto companies. I understand what they are trying to do, and I am somewhat reluctant to second-guess them. They are all doing their absolute best, and I know that if I were in any of their shoes I would be making bigger mistakes than they are – different mistakes, probably, but bigger ones for sure.
Nevertheless, I do have one big question. The US government especially, but other governments as well, have gotten themselves deeply involved in industrial and financial policy during this crisis. They have done this without constructing technocratic institutions like the 1930’s Reconstruction Finance Corporation and the 1990’s RTC, which played major roles in allowing earlier episodes of extraordinary government intervention into the industrial and financial guts of the economy to turn out relatively well, without an overwhelming degree of corruption and rent seeking. The discretionary power of executives, in past crises, was curbed by new interventionist institutions constructed on the fly by legislative action.
That is how America’s founders, such as James Madison and Alexander Hamilton, envisioned that things would work. They were suspicious of executive power, and thought that the president should have rather less discretionary power than the various King Georges of the time. Yet, today’s crisis has led to the establishment of such financial institutions.
So I wonder: why didn’t the US Congress follow the RFC/RTC model when authorising George W. Bush’s and Barack Obama’s industrial and financial policies? Why haven’t the technocratic institutions that we do have, like the IMF, been given a broader role in this crisis? And what can we do to rebuild international financial-management institutions on the fly to make them the best possible?
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. In cooperation with Project Syndicate
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