January 15, 2018
That’s one of the things we learn from reading Robert Samuelson’s Washington Post column today, although Samuelson identifies Feldstein only by his professorship at Harvard, not his moonlighting work on AIG’s board. (In addition to requiring a massive government bailout during Feldstein’s tenure as a director, AIG was also rocked by an accounting scandal that forced the resignation of Maurice Greenberg, its longtime CEO.) I’m one of those old-fashioned types who think that track records should matter in assessing the accuracy of economists’ assessments, which is why it is appropriate to mention AIG here.
While it would have been enormously valuable if a person of Feldstein’s prominence had warned of the housing bubble back in 2003 or 2004, before it had grown so large as to pose a major threat to the economy, his warning now is off the mark according to some of us who did see the earlier bubbles. High stock prices and housing prices are justified by extraordinarily low interest rates we have been seeing in the last decade.
While this could change (interest rates could rise) it would not be nearly as harmful to the economy as the collapse of the housing bubble in 2007–2009 or the collapse of the stock bubble in 2000–2002. Unlike in those two earlier periods, the high asset prices in these markets are not driving the economy. Investment and housing construction are not especially strong, so there is no reason to think they would plummet even if prices in both markets were to fall 20 or 30 percent. Consumption is somewhat high and could fall back 1–3 percentage points of GDP in response to the loss of wealth implied by these sorts of declines. That would slow growth, but need not lead to a recession.
Samuelson also repeats the myth of the second Great Depression, telling us:
“Bernanke’s quick response to the financial crisis (along with Treasury Secretaries Henry M. Paulson and Timothy Geithner) arguably averted a second Great Depression. That, obviously, was a big deal. In the 1930s, unemployment peaked at 25 percent.”
This is a very useful myth to propagate since it implies that we should be happy, even though we had a very long and slow recovery, in which millions of people lost their homes and millions more went years without jobs, because hey, at least we didn’t have a second Great Depression. For some reason, no one ever feels the need to explain what would have forced us to endure a decade of double-digit unemployment if Bernanke did not have a quick response.
The government would presumably still be here and still be able to run deficits to boost the economy. The only counterfactual in which a financial collapse in the fall of 2008 leads to a decade of double-digit unemployment is if Congress and the President refuse to do anything to boost the economy for a decade.
This is, of course, possible, just like we could possibly be invaded by Martians tomorrow, but as a practical matter, we have not seen anything like this refusal by politicians to help the economy ever since the Great Depression. Politicians of both political parties have consistently supported stimulus measures in response to a weak economy. (The first stimulus package was signed by George W. Bush in February of 2008 when the unemployment rate was 4.7 percent.) In short, the second Great Depression threat is not an economic story, but rather a forecast on politicians’ behavior with little obvious basis in reality.
However, the main point of Samuelson’s post is to warn against having the Fed raise its inflation target from 2.0 percent to something like 4.0 percent. The essence of his complaint is that it is too complicated (seriously).
It’s worth putting the other side more clearly. This recovery was needlessly slow because Congress refused to provide sufficient stimulus and the Fed was constrained by the zero lower bound. Once it had pushed the short-term interest rate to zero, it could not go further with conventional monetary policy. This was the reason that it turned to quantitative easing, but this is a tool that it is less familiar with and which had less predictable results.
If the inflation rate had been close to 4.0 percent going into the downturn, pushing the short-term rate to zero would imply a real interest rate of minus four percent. This would provide a considerably larger boost to the economy than a real interest rate of minus 1.0–2.0 percent, which is what we were seeing when the Fed hit the zero lower bound.
Given the millions of lives that were ruined by the loss of homes and jobs, and the tens of millions more who saw pay cuts due to their weak bargaining power, it seems worth experimenting with alternative approaches at the Fed. (Most of the people affected were less affluent and disproportionately African American and Hispanic, which is likely why this seems a relatively minor issue at places like the Washington Post.)
Anyhow, given the enormous amount at stake, it might be worth making the lives of the folks at the Fed more complicated. This is after all the reason they get paid the big bucks.
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