Economic Crisis: What Could Government Have Done Better?

With the advantage of hindsight, it's clear that more creative strategies were needed. But they probably couldn't have been passed.

Ezra Klein reports on a briefing six months after the 2008 election that was designed to scare the president-elect about how bad the economy was going to get. Christina Romer, who would head Obama’s  Council of Economic Advisers, delivered predictions that were even more dire than the conventional wisdom. Alas, they were wrong.

By that point, the shape of the crisis was clear: The housing bubble had burst, and it was taking the banks that held the loans, and the households that did the borrowing, down with it. Romer estimated that the damage would be about $2 trillion over the next two years and recommended a $1.2 trillion stimulus plan. The political team balked at that price tag, but with the support of Larry Summers, the former Treasury secretary who would soon lead the National Economic Council, she persuaded the administration to support an $800 billion plan.

The next step was to persuade Congress and the people when the new president took office. So they went to work on putting together a briefing.

The incoming administration loved their report and wanted to release it publicly. Romer took it home over Christmas to double-check, rewrite and pick over. At 6 a.m. Jan. 10, just days before Obama would be sworn in as president, his transition team lifted the embargo on “The Job Impact of the American Recovery and Reinvestment Act.” It was a smash hit.

“It will be a joy to argue policy with an administration that provides comprehensible, honest reports,” enthused columnist Paul Krugman in the New York Times.

There was only one problem: It was wrong.

The issue is the graph on Page 1. It shows two blue lines sloping gently upward and then drifting back down. The darker line — “With recovery plan” — forecasts unemployment peaking at 8 percent in 2009 and falling back below 7 percent in late 2010.

Three years later, with the economy still in tatters, that line has formed the core of the case against the Obama administration’s economic policies. That line lets Republicans talk about “the failed stimulus.” That line that has discredited the White House’s economic policy.

But the other line — “Without recovery plan” — is more instructive. It shows unemployment peaking at 9 percent in 2010 and falling below 7 percent by the end of this year. That’s the line the administration used to scare Congress into passing the single largest economic recovery package in American history. That line is the nightmare scenario.

And yet this is the cold, hard fact of the past three years: The reality has been worse than the administration’s nightmare scenario. Even with the stimulus, unemployment shot past 10 percent in 2009.

How did they it so wrong?

The Bureau of Economic Analysis, the agency charged with measuring the size and growth of the U.S. economy, initially projected that the economy shrank at an annual rate of 3.8 percent in the last quarter of 2008. Months later, the bureau almost doubled that estimate, saying the number was 6.2 percent. Then it was revised to 6.3 percent. But it wasn’t until this year that the actual number was revealed: 8.9 percent. That makes it one of the worst quarters in American history. Bernstein and Romer knew in 2008 that the economy had sustained a tough blow; they didn’t know that it had been run over by a truck.

Klein blames the administration, too.

But the administration insisted on optimism. There was talk of “green shoots” and the “recovery summer.” Events in Greece and in oil markets were chalked up to bad luck rather than the predictable aftershocks of a financial crisis. The promised recovery was always just around the corner, but it never quite came. Eventually, the American people stopped listening. A September poll showed that 50 percent of Americans thought Obama’s policies had hurt the economy.

In addition to shooting themselves in the foot by using a worst-case scenario that actually wasn’t, Klein believes they simply misapprehended the problem.

The basic thesis of “This Time Is Different” is that financial crises are not like normal recessions. Typically, a recession results from high interest rates or fluctuations in the business cycle, and it corrects itself relatively quickly: Either the Federal Reserve lowers rates, or consumers get back to spending, or both.

But financial crises tend to include a substantial amount of private debt. When the market turns, this “overhang” of debt acts as a boot on the throat of the recovery. People don’t take advantage of low interest rates to buy a new house because their first order of business is paying down credit cards and keeping up on the mortgage.

In subsequent research with her husband, Vincent Reinhart, Carmen Reinhart looked at the recoveries following 15 post-World War II financial crises. The results were ugly. Forget the catch-up growth of 4 or 5 percent that so many anticipated. Average growth rates were a full percentage point lower in the decade after the crisis than in the one before.

Perhaps as a result, in 10 of the 15 crises studied, unemployment simply never — and the Reinharts don’t mean “never in the years we studied,” they mean never ever — returned to its pre-crisis lows. In 90 percent of the cases in which housing-price data were available, prices were lower 10 years after the crash than they were the year before it.

But Klein also understands that, even if the administration had known how it would play out, politics weren’t on their side.

But it is hard to credit the argument that the stimulus could have been much larger at the outset. This was already the biggest stimulus in U.S. history, and congressional leaders had been quite clear with the White House: Don’t send over anything that passes the trillion-­dollar mark. To try and double the bill’s size based on a suspicion that the recession was much worse than the early data indicated would have been a hard sell, to say the least.

Even if Congress had been more accommodating, there was a challenge to vastly increasing the size of the initial stimulus: The more you spend, the less effective each new dollar would become.

“We were trying to spend 10 times what had ever been spent in a year,” says Goolsbee, who chaired the Council of Economic Advisers until this year. “The tension was that the biggest bang for the buck comes from direct spending like infrastructure, but once you use up the big-ticket items, you eventually come to a point where the tax cuts are better bang for the buck than the 300 billionth infrastructure dollar.” And tax cuts, frankly, aren’t a very good bang for the buck.

Apparently, though, they thought that the initial stimulus would be successful and that, if it didn’t quite do the trick, they could go back to Congress and ask for another stimulus based on the success of the first.

“The biggest problem we had in terms of the loss of political capital is we came in and did a bunch of stuff, and things got worse,” says Ron Klain, who served as chief of staff to Biden. “And some of that was just bad luck. If we didn’t have the 22nd Amendment and Barack Obama became president in late March rather than in late January, things would have been much worse when we came in than they were. And then the Recovery Act would have come not in February, but in May. We would already have hit bottom, and it would seem like things were getting better.”

This has led to a what-if that torments the White House’s political team: What if it hadn’t taken on so much? The administration rushed from the second bucket of bailout funds to the stimulus to the auto-industry rescue to health care to climate change legislation to financial regulation. In a world where the economy was steadily recovering, Obama might have amassed a record comparable to Franklin Roosevelt’s. But as the situation slowly deteriorated, the American people turned against the administration’s crush of initiatives. The frenetic pace made the White House seem inattentive and unfocused amid a mounting crisis.

Ironically, in hindsight it looks like Team McCain had a better idea.

It’s hard to get through a debt-driven crisis without doing anything about, well, debt.

In our crisis, the “debt” in question is housing debt. Home prices have fallen almost 33 percent since the beginning of the crisis. All together, the nation’s housing stock is worth $8 trillion less than it was in 2006. And we’re not done. Morgan Stanley estimates there are more than 2.2 million homes sitting vacant, and 7.5 million more facing foreclosure. It is housing debt that has weakened the banks, and mortgage debt that is keeping consumers from spending.

In late 2008, when the economy was cratering, Holtz-Eakin convinced McCain that the way out of a housing crisis was to tackle housing debt directly. “What we proposed at the time was to buy up the troubled mortgages, pay them off and let people refinance at the lower rates,” he recalls. “That would have filled up the negative equity and healed bank balance sheets.”

To this day, Holtz-Eakin thinks the proposal made sense. There was one problem. “No one liked that plan,” he says. “In fact, they hated it. The politics on housing are hideous.”

The Obama administration, perhaps cognizant of the politics, was not nearly so bold. It focused on stimulus rather than housing debt. The idea was that if people could keep their jobs and pay their bills, they could pay their mortgages. But today, few on the Obama team will mount much of a defense of its housing policy.

But good policy isn’t necessarily good politics.The best paragraph in the whole long feature:

On first blush, there are few groups more sympathetic than underwater homeowners or foreclosed families. They remain so until about two seconds after their neighbors are asked to pay their mortgages. Recall that Rick Santelli’s famous CNBC rant wasn’t about big government or high taxes or creeping socialism. It was about a modest program the White House was proposing to help certain homeowners restructure their mortgages. It had Santelli screaming bloody murder.

This was, of course, the launch of the Tea Party movement.

Four pages of setup later, Klein gets to the heart of his essay:

There was, however, one institution that some think could have reduced the debt overhang crushing the economy and that didn’t face such political obstacles: the Federal Reserve.

The central bank manages the nation’s money supply and credit and sits at the center of its financial system. Usually, it spends its time guarding against the threat of inflation. But in December 2008, Rogoff argued that the moment called for the reverse strategy.

“It is time for the world’s major central banks to acknowledge that a sudden burst of moderate inflation would be extremely helpful in unwinding today’s epic debt morass,” he wrote.

Inflation — the rate at which prices for goods go up and buying power goes down — makes any amount of money worth less over time. It can help a depressed economy in three ways: It erodes the real value of debt. It gives people an incentive to spend and invest now, as their money will not go as far later. And it tends to drive down the value of the dollar against other currencies, making U.S. exporters more competitive.

It also wipes out the value of people’s savings, which is especially problematic for retirees. An inflation policy would have effectively bailed out people who took out bad loans by punishing those who spent their working years doing everything right: living within their means and putting away money for later.

Some more pie-in-the-sky ideas that might have worked but had no chance of being implemented:

“We’re trying right now to keep our lifestyles going,” says Michael Spence, a Nobel Prize-winning economist at New York University. “It’s not really working, but the way we’re doing it is putting all the burden on the unemployed while trying to leave the employed untouched. Eventually, this is going to require a redistribution of that burden.”

In other countries, he says, the burden is more widely shared. The employed work less — and get paid less — so there are more jobs to go around. That leads to a little pain for a lot of people, rather than a lot of pain for fewer people. It also keeps more workers on the job, which means their skills don’t deteriorate and the economy isn’t left with people who became unemployed and then found themselves unemployable.

[…]

Germany’s response to the recession included a work-sharing program that subsidized salaries when employers trimmed the hours of individual workers to keep more people on the job. If workers attended job training, the government gave a more generous subsidy.

The program worked. Even though Germany’s economy was devastated by the recession — declining by almost 7 percent — the jobless rate fell slightly, from 7.9 percent at the start of the recession to 7 percent in May 2010.

There are reasons to question whether work-sharing programs would have been as effective here as they were in Germany. For one thing, they work best in sectors where jobs are bound to return after a recession — such as Germany’s export sector — rather than sectors that need to be downsized after being inflated by a credit boom.

Germany also has a different labor market. Employers, unions and the government work together with an unusual level of cooperation. The culture is much more hostile toward layoffs than the United States’ is, which has caused Germany problems in the past but has been a boon throughout this recession.

A much more plausible counterfactual:

For one thing, the government could have refused to fire anyone. Says Baker, of the Center for Economic and Policy Research: “We’ve lost 500,000 state and local jobs, and before that, we were creating 160,000 a year. If we hadn’t had those losses and had done more to keep creation at that pace, we would have almost another million jobs.”

It also could have started hiring. Romer, for instance, proposed to add 100,000 teacher’s aides. Imagine similar proposals: Every park ranger could have had an assistant park ranger. Every firefighter station could have added three trainees. Every city could have expanded its police force by 5 percent. Everyone between ages 18 and 26 could have signed up for two years of paid national service.

Basically, paying people to do jobs that aren’t actually needed and don’t build skills likely to lead to useful employment when the economy finally recovers? Klein admits this is usually a really stupid idea but one that may make sense in desperate times in order to stimulate demand.

Ultimately, then, Klein argues that both the Bush and Obama administrations did pretty much all they could.

Of course, ideas always sound better than policies. Policies must be implemented, and they have unintended consequences and unforeseen flaws. In the best of circumstances, the policymaking process is imperfect. But January 2009 had the worst of circumstances — a once-in-a-lifetime economic emergency during a presidential transition.

Reinhart, for one, thinks the Bush and Obama administrations don’t get sufficient credit for all they did.

“The initial policy of monetary and fiscal stimulus really made a huge difference,” she says. “I would tattoo that on my forehead. The output decline we had was peanuts compared to the output decline we would otherwise have had in a crisis like this. That isn’t fully appreciated.”

[…]

Yet the Obama administration did too little. Its team of interventionist Keynesians immersed in the lessons of the Depression and Japan did too little. Everyone does too little, even when they think they’re erring on the side of doing too much. That’s one reason “this time” is almost never different.

[…]

These sorts of economic crises are, in other words, inherently politically destabilizing, and that makes a sufficient response, at least in a democracy, nearly impossible.

There’s some evidence for this internationally. Larry Bartels, a political scientist at Vanderbilt University, examined 31 elections that took place after the 2008 financial crisis and found that “voters consistently punished incumbent governments for bad economic conditions, with little apparent regard for the ideology of the government or global economic conditions at the time of the election.” Just look to Europe, where the path to ending the debt crisis and saving the euro zone — the group of nations that use the currency — is clear to most economists but impossible for any European politician.

That isn’t to say that this time couldn’t have been different or that next time won’t be. But it is no accident that these crises so often turn out the same, in so many countries, with so many types of governments, who have tried so many kinds of responses.

In general, the policies that are vastly better than whatever you are doing are not politically achievable, and the policies that are politically achievable are not vastly better. There were many paths that could have been taken in January 2009, and any one would have made this time a bit different. But not different enough. Not as different as we wish.

Not exactly cheery. But, I think, right. If everyone understood at the time how bad things were and what the alternatives of various policy options were, we might have done something much smarter and bolder. But that precondition never exists.

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FILED UNDER: Economics and Business, US Politics
James Joyner
About James Joyner
James Joyner is Professor and Department Head of Security Studies at Marine Corps University's Command and Staff College and a nonresident senior fellow at the Scowcroft Center for Strategy and Security at the Atlantic Council. He's a former Army officer and Desert Storm vet. Views expressed here are his own. Follow James on Twitter @DrJJoyner.

Comments

  1. john personna says:

    FWIW, here is what Interfluidity thinks:

    The [Klein] account is far too sympathetic. The Obama administration’s response to the crisis was visibly poor in real time. Klein shrugs off the error as though it were inevitable, predestined. It was not. The administration screwed up, and they screwed up in a deeply toxic way. They defined “politically possible” to mean acceptable to powerful incumbents, and then restricted their policy advocacy to the realm of that possible. The administration could have chosen to fight for policies that would have been effective and fair rather than placate groups whose interests were opposed to good policy. They might not have succeeded, but even so, as Mike Koncazal puts it, they would have lost well. We would be better off with good policy options untried but still on the table than where we are now, with policy itself — monetary, fiscal, whatever — discredited as both ineffective and faintly corrupt.

    That oversteps a bit … but maybe only a bit. There is no question in my mind that yes, the administration did their “pre-compromise” on this, and dealt in strategies fully acceptable to the financial classes.

    Anything sufficiently different to matter would have been far, far, to radical for that style of governance.

  2. john personna says:

    BTW,

    Basically, paying people to do jobs that aren’t actually needed and don’t build skills likely to lead to useful employment when the economy finally recovers?

    This highlights a strange thing that never happened. We never said “OK, let’s find the jobs that need doing.”

    Why not? It was important for one party in the polarized America to maintain that there were NO jobs worth doing.

  3. Catfish says:

    What could the government have done? On idea would be to shift government purchasing and procurements to private companies: government agencies could go to WalMart, Home Depot, Office Depot, not only saving billions, but giving the private sector a lot more business. Gone would be the days of paying $300 for a hammer, $600 for a coffee maker, or $150 for board markers.
    Investigate and end the rampant fraud in Social Security, Medicare, and of course, food stamps.
    This would bring back several hundred billion.
    Where has all of the other “stimulus” money gone? How many jobs were created/saved? I think that numbers should be provided and every penny accounted for.

  4. James Joyner says:

    @john personna: I don’t think the evidence supports this. Republicans opposed bailing out the labor unions and hiring more government workers; I don’t see a similar antipathy to ordinary free market jobs.

    @Catfish: I’m not sure I’m following. Government already buys everything from the private sector. And how does buying it more cheaply not take more money out of the economy?

  5. john personna says:

    @James Joyner:

    I don’t think the evidence supports this. Republicans opposed bailing out the labor unions and hiring more government workers; I don’t see a similar antipathy to ordinary free market jobs.

    That’s pretty much a non-sequitor. The auto stuff was side-show.

  6. john personna says:

    Do you really not remember, James? In these pages we talked about the theory of stimulus, and counter-cyclical spending. I said then that we should identify projects, infrastructure, energy, whatever, based on our actual need to have them. We should have looked forward at what we wanted to buy, and own, as a country. And then we should have done them early.

    In answer to THAT Republicans said there was nothing we needed, and spending on anything early was a waste.

  7. john personna says:

    (Republicans said then, “no, all we want is tax cuts, that will be stimulus enough.” Well, we know how that worked out. First, it wasn’t enough. Second, Republicans developed complete amnesia about their part in that stimulus design.)

  8. Tsar Nicholas II says:

    Government bailouts never work, never have worked, never will work. Debt crises require restructuring with bondholders taking losses.

    Recessions end of their own accords in time, provided that government does not impose new trade restrictions in their midst.

    Bad banks must be allowed to fail. When bad banks are allowed to fester they ultimately get worse in any event and also they drag down other banks.

    Printing excessive money to prop up an economy only gets you two things in the long term: inflation and a worse economy.

    Hindsight is not needed. There are hundreds of years of economic history from which to draw the proper conclusions. Understanding history and not making the same mistakes is what’s needed. Plus the political will sufficient to avoid populist (and ultimately self-defeating) temptations.

  9. Pete says:

    James, I contend that policy makers today are too much creatures of the “herd” mentality. Keynesian economics is the unquestioned answer to all things. The reason is because Keynesian theory is preferred by those in government due to those in government believing they have the responsibility to provide for the general welfare. The problem is that Keynesian theory has limited effectiveness; just as supply side has limited effectiveness.

    When is the last time you heard policy makers consider Austrian School of economic theory? It isn’t taught in colleges and grad schools, save for Hillsdale or other relatively obscure conservative schools. It is more effective because it is rooted in market based decision making, which is more efficient than government based, central planning, which is what we have when the government takes it upon itself to manage the economy.

    The market can be messy, but it solves its self caused problems quicker and with fewer unintended consequences than central planning. I still have to shake my head at all the hand wringing done by the intellectual elites and their useful idiots in government who continue to practice insanity by trying to manage the natural order of things.

  10. Tano says:

    RE. Inflation

    It also wipes out the value of people’s savings,

    Actually, no. It erodes those savings, it does not wipe them out.

    Given the fact that some significant pain is necessarily going to have to accompany the move to recovery, what an inflation-based approach does is to spread the pain to everyone (according to their wealth), by slightly eroding the value of every dollar. Its like a flat tax on every dollar. If it could be controlled, and combined with some special pain for those responsible for the collapse, then it might not be such a bad approach.

  11. Pete says:

    @Tsar Nicholas II: I couldn’t agree more. If we had more policy makers who would listen to the Austrian school model and less to the herd mentality of Keynes, AND, respect the market’s ability to self correct, we would all be better off. The market can be messy, but millions of decision makers can solve distortions more quickly and efficiently than a few committees made up of academics, lawyers and myopic corporate nepotists.

  12. john personna says:

    @Tsar Nicholas II:

    Are you suggesting that we’d have been better of with a harsher (quicker, deeper) bottom?

  13. john personna says:

    @Tano:

    Inflation is fine for people with savings, as long as real interest rates are higher.

  14. steve says:

    Given how quickly the economy was failing, and the need to pass something that could get past Congress, they did ok. People forget that credit markets were frozen, TD spreads hit all time records. The free market had crashed when Lehman went down.

    I think the real critique comes for what went on after the early stage of the crisis. Perhaps the plan Holtz-Eakin wanted might have worked. I dont know, but it certainly was not politically feasible. People would rather see the economy flounder than help debtors. Bailout creditors? Absolutely, but not anyone who borrowed in good faith.

    Ultimately, I am in the very pessimistic, long term camp. I dont think we have a good answer for a banking crisis that results in massive private and public debt. Sumner’s NGDP targeting kind of sounds good, but it just cannot be that easy, especially when people really do not have money to spend, and the housing market is moribund. Stopping the banks in 2003 was the right answer, but now is too late.

    Steve

  15. Hey Norm says:

    Hindsights 20-20. It’s amazingly easy to criticize.
    Name one other administration of a similar government structure that has dug out of a similar hole any faster.
    Exactly.

  16. @Tano:

    Given the fact that some significant pain is necessarily going to have to accompany the move to recovery, what an inflation-based approach does is to spread the pain to everyone (according to their wealth), by slightly eroding the value of every dollar.

    No it wouldn’t. It would have hit the poor and uneducated harder, because the rich and educated have the ability to put their money in investments (commodities, for example) whose value will rise in line with inflation.

    You’re also forgetting the indirect effects of increasing inflations. There are many financial instruments, from inflation indexed bonds to insurance contracts to pensions, that are linked to inflation. If you suddenly spike that up, these organizations are suddenly going to be undercapitalized. What are you going to do when they all start going under?

  17. Becky Hargrove says:

    As to housing, a big “If only” looms – if only those loans had been directly bought in the beginning, the problems of real estate deflation would not still be cascading through the economy, hurting consumers, banks and municipalities in the process.

  18. @steve:

    People forget that credit markets were frozen, TD spreads hit all time records. The free market had crashed when Lehman went down.

    The problem is we solved it by creating a huge windfall for the people responsible for the crisis. Even if we accept the arguement that only government action could have unfrozen the lending market*, it’s not clear that had to be done be pumping money into existing lenders rather than setting up new lenders. Why not divy the TARP fund up into 50 buckets (weighted by state population) and creat 50 state TARP banks, initially under FDIC recevership but eventually spun off into normal banks through the normal process for doing so?

    * – And I don’t; as many people noted, the banks didn’t increase lending after TARP, they mostly just sat on the money, so I don’t see how it can be argued the lending market was any more or less frozen after the bailout than before.

  19. @Becky Hargrove:

    the problems of real estate deflation would not still be cascading through the economy

    The problem is that people refused (and in many cases still refuse) to accept that housing prices were overvalued and needed to be allowed to drop. All the effort was put into keeping home prices artificially high rather than on making the deflation as painless as possible.

    The other issue is there’s something of an ant and grasshopper problem here. You have a group of people who lived extravagantly, at the very edge of their means, and then when a hiccup came, everything collapsed for them. You have another group that restrained their living in favor of saving. The later group has already faced the cost of their choice, in that their lifestyle has been less than what it could be, but not yet received the benefit of a better future lifestyle. It’s not suprising that they’re suspicious of having that future benefit taken away and essentially getting stuck with the costs of both groups when the grasshoppers have already received their benefit.

  20. Ben Wolf says:

    Milton Friedman favored “helicopter drops” of cash right onto mainstreet to stimulate economic growth in a recession. Keynesians like Krugman repeatedly warned the stimulus was too small and that better no stimulus than one too weak to succeed. Chartalists support passing the Jobs Guarantee making government the employer of last result.

    Neo-classical, Chicago and Austrian economists have nothing to recommend because their models flatly stated that bubbles, financial crises and involuntary unemployment cannot happen, and consequently those fine folks have been singularly useless since the Crash. Unfortunately they continue to dominate policy despite the self-immolation of their economic ideology.

    We are not in a business cycle recession, we are in a much more serious balance sheet recession; the last one we experienced resulted in the Great Depression. Fortunately this time around we had automatic stabilizers to keep the bottom from falling out, but it will be a long time before this economy recovers to pre-Crash conditions without additional stimulus.

  21. Terry Ott says:

    @Hey Norm:
    I’m sure your comment is made in good faith, and the correct answer to it might be “none”. My concern: your question follows from an assumption that government actually has, or should have, a central role to play in getting the private economy out of a ditch. It is my opinion that government’s role should be more circumspect; that is, to see what policies and actions may have contributed to the collapse and then change laws/regs to minimize the likelihood of a repeat encounter with similar problems.

    With the exceptions of extending unemployment compensation, helping people with their mortgage woes in some responsible way, and speeding up spending that we definitely need to do in the next couple of years anyway, my view is that the government should be on the sidelines, mostly cheering. Another proactive thing would be to go on a witch hunt for regulations that are of questionable value and that might be inhibiting growth; then, getting them off the books altogether or at least suspending them for a little while,

  22. steve says:

    @Stormy-Sure, but they were dealing with a real time problem. Sit down for a minute and think about what you proposed. How long would it have taken to allocate among 50 states? Think of all the poltical wrangling as each state tried to get its share.

    ” And I don’t; as many people noted, the banks didn’t increase lending after TARP, they mostly just sat on the money, so I don’t see how it can be argued the lending market was any more or less frozen after the bailout than before.”

    Banks were not willing to lend to each other. That changed after TARP. Spreads did drop dramatically. Those high spreads were not dictated by the government. They were dictated by how willing banks were to lend to each other. They all thought other banks had a high risk of being insolvent. They were right. This was all the result of one relatively small bank being allowed to go under. If the majority of large banks were also insolvent, which I believe to have been the case (or at least they would have been if any kind of run started), I can easily see things cascading to a much worse outcome.

    So, I still think we got a fast, sloppy response that largely worked, for the short run. For the longer run, the big banks should have been broken up. Bond holders needed to take a hit. But, even after you do that, we still have a crappy economy because we have a huge housing inventory and large scale private and public debt. There is not much of an answer here other than time.

    Steve

  23. Barb Hartwell says:

    Government under Republicans caused these problems Obama never should have let up on that fact. He allowed these thugs to move in yet again by way of blocking everything in congress. I do blame Obama for being too soft on them. He had the majority with him and he let it slip through his fingers. If he had gone hard on the banksters by bringing them to justice, and pointing out the hypocrisy we would have more faith. The country is so divided now and we will see how the majority of the country feels on election day. May God be with America on this day.

  24. @steve:

    Banks were not willing to lend to each other. That changed after TARP. Spreads did drop dramatically. Those high spreads were not dictated by the government. They were dictated by how willing banks were to lend to each other. They all thought other banks had a high risk of being insolvent. They were right. This was all the result of one relatively small bank being allowed to go under. If the majority of large banks were also insolvent, which I believe to have been the case (or at least they would have been if any kind of run started), I can easily see things cascading to a much worse outcome.

    If the majority of large banks were insolvent, why does it matter if they’re willing to lend to each other? That’s basically just continuing the problem that was causing the economic crisis.

    Indeed, that’s the biggest problem with theresponse to the crisis. At each step along the way, the government has favored, in the name of expediency, short term measures that did nothing to correct the actual problems (and in many cases further aggravated them), but which delayed the effects of those problems.

  25. ponce says:

    This was, of course, the launch of the Tea Party movement.

    Haha, except the Tea Party movement was begun by Ron Paul’s supporters before Santelli’s tantrum, of course.

  26. steve says:

    “At each step along the way, the government has favored, in the name of expediency, short term measures that did nothing to correct the actual problems (and in many cases further aggravated them), but which delayed the effects of those problems.”

    Or, it stopped the steep 9% rate of drop in GDP, which would have lead to many more people out of work and a safety network that would have been overloaded. It would have had immediate ripple effects throughout Europe, which would likely have also faced Depression level unemployment. You can gamble the other way, but look at how bad things got with just one medium sized bank failing. Remember, I think Reinhart and Rogoff are correct. No matter what was done we were looking at a very long recovery. I would prefer that it not be so deep. I also have concerns about what happens socially to countries that go into very deep economic tailspins, but I guess that is not pure economics.

    Steve

  27. @steve:

    I would prefer that it not be so deep

    Ah, but that’s the $64,000 question there isn’t it? Have the government’s actions so far made it any less deep, or are they just drawing out how long it’s taking us to bottom out?

  28. Anonne says:

    Part of the problem why Holtz-Eakin’s solution didn’t get implemented was because the Europeans took the liquidity injection method first and it seemed to work. So, instead of attacking the heart of the problem by actually buying the troubled assets, we papered it over with a gimme to big banks that still sat on the money.

  29. steve says:

    “Ah, but that’s the $64,000 question there isn’t it? Have the government’s actions so far made it any less deep, or are they just drawing out how long it’s taking us to bottom out?”

    Given how bad things were at the end of 2008, with just one bank failing resulting in that much chaos, I think it highly likely govt actions unfroze credit markets and prevented 20% unemployment. Beyond that, absent an alternate reality, it is difficult to be certain. If you follow the course laid out by Reinhart and Rogoff in their book, it looks as though we are doing a bit better than average so far for a recession of this type. We wont know for sure for a while.

    Steve

  30. john personna says:

    Richard Thaler, respected economist, in a good and wide ranging article, asks what I’ve been asking:

    The country has a long list of roads and bridges that are either dangerous or obsolete. We can begin the inevitable process of rebuilding this infrastructure now, when construction costs are low and borrowing costs are essentially zero, or we can wait.

    Well, I read it as a question. Why can’t we?

    Because the GOP party line is that those bridges cannot, possibly, be fixed now.

  31. Rob in CT says:

    go on a witch hunt for regulations that are of questionable value and that might be inhibiting growth

    Witch hunt, indeed. Regs that aren’t doing what they are intended to do should certainly be revised/revoked. Likewise, regulations that have been axed but (it turns out) we needed should be brought back.

    As for the rest, given the severity of the crisis, I don’t think the Admin could have done all that much better – except perhaps politically (by taking a strong stand for more action and staying on-message about it). The political reality is not just that the GOP was anti-stimulus, but that a significant chunk of the Dems were reluctant too. And of course we know about Obama’s ties to folks on Wall St. Any policy that involved actually cleaning up that cesspool was a non-starter, I think.

    We’re definitely in “muddle through” mode now.

  32. Gerry W. says:

    @Tsar Nicholas II:

    Recessions end of their own accords in time, provided that government does not impose new trade restrictions in their midst.

    This is not the normal recession. This is similar to the Great Depression. We are talking of a financial crisis, a housing bubble, personal debt, and globalization and the loss of jobs. Normal recessions usually deals with inflation and the fed fixing the problem with interest rates and the economy comes back in two years. Even if a recession ends, the factories in my town are closed. In the past, people just went back to work. Ain’t gonna happen this time.

    Bad banks must be allowed to fail. When bad banks are allowed to fester they ultimately get worse in any event and also they drag down other banks.

    Banks can be broken up.

    Printing excessive money to prop up an economy only gets you two things in the long term: inflation and a worse economy.

    True, but there is a third problem and trying to prevent a depression.

    Understanding history and not making the same mistakes is what’s needed.

    Yes, just what Bush did with his “guns and butter economics” similar to what LBJ did. With LBJ, it was inflation, with Bush it was deficits and debt.

    (sent from a library computer, my harddrive is out)

  33. Gerry W. says:

    @Pete:

    When is the last time you heard policy makers consider Austrian School of economic theory? It isn’t taught in colleges and grad schools, save for Hillsdale or other relatively obscure conservative schools. It is more effective because it is rooted in market based decision making, which is more efficient than government based, central planning, which is what we have when the government takes it upon itself to manage the economy.

    Market based decision making is 2 billion cheap laborers who also want jobs. It is also automation and the loss of jobs, lean principles and the loss of jobs, and mergers and consolidation and the loss of jobs. What does the Austrian Scholl of economic theory say about that? And how should we have prepared for that? Or do we do nothing?

    Unintended circumstances?

    Again, do you just sit by and watch the middle class get mowed over by cheap labor. Do these protests have any meaning? The free market is very powerful, how do we prevent such inequities? Did we not watch Bush “stay the course” when he was driving the economy and two wars into the ground? Didn’t anyone see the globalization since the fall of communism and its 2 billion cheap laborers? What would be the effects?

    What good were the Bush tax cuts as an ideology and now we suffer the unintended circumstance of losing that stimulus. Under the no management and no curiosity of Bush, how are we any better? We lost the jobs, we lost the stimulative affect of tax cuts, and we lost the stimulative affect of lower interest rates. Now, what theory do you have will work?

    (sent from a library computer, my harddrive is out, may not respond in a timely fashion)