The Global Crisis, a Recovery (?), and the Road Ahead

L. Randall Wray | September 11, 2013

I hope that all of you saw the very nice feature on Wynne Godley in the NYTimes. It is about time he’s getting the notice he deserved. I just came across a juicy quote from Wynne: “I want to say of neoclassical macroeconomics what I have sometimes said of certain kinds of fiction; I know that the world is not like that and I have no need to imagine that it is.”

Here’s an interview I recently gave to a Brazilian reporter.

Q: The crisis, which began with the collapse of Lehman Brothers on September 15, 2008, will complete five years. What has changed in the world economy during this period?

LRW: Unfortunately, the global financial system was restored to its 2006 status through massive bail-outs by the public sector. It was not reformed. It was not investigated and prosecuted for fraud. Essentially, it was allowed to go back to doing what it did in the years preceding the crisis. Our real economies are still “financialized” with too much debt and with the financial sector taking far too big a share of profits. As a result, in most developed economies around the world, the real sector is very weak.

Of course, the success story was the BRICs—which largely avoided the worst of the crisis and even made gains in their real sectors. China’s development of its economy is unprecedented.

Q: The crisis is over? Is near the end? Still going to get worse?

LRW: No it is not over—especially in Euroland. While it might appear that the USA, UK, and some other developed non-European countries have recovered, as I said their real sectors are weak and their financial institutions have resumed risky practices. The global economic system is fragile and a full-blown crisis could return.

Q: U.S., Europe and emerging countries, such as Brazil, faced the crisis in different ways. How to describe these differences and which country or region got more successful in dealing with the crisis?

LRW: The US, Europe, and the UK focused on propping up their financial systems while letting their real sectors fall into deep recessions. The automatic fiscal stabilizers prevented a 1930s style Great Depression, as tax revenue fell and government spending rose—but not enough to restore robust growth. Only growth led by the government sector will allow these nations to fully recover while reducing private debt ratios. It isn’t happening. Some countries (again I would especially point to China) used bigger fiscal stimulus; at the same time the commodities producing nations were helped by resumption of the global commodities market bubble. So I would say that “luck” also played a role in helping emerging economies.

Q: Many said that the crisis was a blow to neo-liberal ideas. Do you agree? Neoliberalism is in check? Where?

LRW: Oh, certainly it was a blow to neo-liberals, none of whom saw the crisis coming. Indeed, all of their policy recommendations helped to bring on the crisis. None of the mainstream economics should be taught in economic theory courses: New Classical, Real Business Cycle, New Monetary Consensus, Taylor Rules, Efficient Markets Hypothesis—all should be relegated to the dustbin of history of economic thought courses. All are thoroughly discredited.

Q: Others said that the crisis would bring back the thought of Keynes. As an expert on the subject, you see a revival of Keynes? In which countries?

LRW: A bastardized version of Keynes came back—one that allows for a positive role for government. However, public officials lost their nerve in the face of rising budget deficits. They opted for austerity and caved-in to big finance. So we didn’t get enough fiscal stimulus nor any significant regulation.

Q: The crisis has strengthened or weakened the global financial system?

LRW: Weakened. We still have almost all of the financialization but without economic growth. So the debt burdens are actually greater.

Q: The crisis has strengthened or weakened the power of states?

LRW: Weakened. The deficit hysteria has forced austerity and other government cut-backs almost everywhere.

Q: The crisis led to political changes in several regions. What is the meaning of these changes?

LRW: It seems that some beneficial changes have come to South America. I’m not an expert on that—I’m simply watching from the outside. I was recently in Ecuador and I was impressed by the willingness of policymakers to try new things. I’d say the same thing about China. Most of the rest of the world has retrenched and will continue to try all the old neoliberal policies that always fail.

Q: The crisis has called into question the European system. What is possible to predict about the future of the euro?

LRW: It was possible to predict the future of Euroland even before the monetary union was created. It was a flawed plan that was doomed to failure. You cannot separate the currency from the fiscal authority. It was always clear that the first serious economic downturn or financial crisis would lead to disaster. It did.

Q: How do you evaluate the recovery in the U.S.?

LRW: What recovery? It has not started. We are bumping along the bottom, waiting for the next downturn. Only Wall Street is doing well (and even that is temporary, largely due to fudging balance sheets).

Q: How do you evaluate the situation in China?

LRW: China’s shadow banking sector exploded, doing many of the same things that the developed world’s shadow banks did. However, I am hopeful that China will find a better resolution. Rather than propping up shadow banks, they must be constrained and their worst practices eliminated.

Q: How do you analyze the issue of unemployment, especially among young people, around the world?

LRW: Chronic and rising unemployment among the young as well as disadvantaged groups. It is due both to cyclical factors (the downturn that followed the Global Financial Crisis) and long term trends (rising structural mismatch and more importantly jobless economic growth). We need a solution. The only plan I’ve heard of that has a chance at success is a universal job guarantee program in which the government stands ready as an employer of last resort. Every nation needs this.

Q: Emerging countries are facing turmoil at the moment. Why?

LRW: There are probably a number of reasons, but the likelihood that the commodities market speculative boom is coming to an end is a major factor for many emerging nations. Further, if the USA and Europe continue to grow slowly that reduces markets for global exports.

Q: Brazil faces deindustrialization. The share of industry in GDP is the level it was in 1955. What should be done to address this issue?

LRW: You could say that almost all the nations that were most developed in 1900 faced “de-agriculturalization” as the share of the workforce in agriculture had fallen sharply over the decades. Today, it is the share of the workforce in industry is falling. It is inevitable, and I would even say desirable. That does not mean that the transition is easy. Brazil and most other industrialized nations will continue to transition toward service sector led economies. What is important is to create good, high-paying, and unionized jobs in the service sector. The globe is too small to support large nations like the USA, Japan, or Brazil with jobs in manufacturing. Germany might get away with it a bit longer as it exports to the rest of Europe and beyond. China will soon enough find itself in the same position as the USA and Brazil.

Q: Strong state investments have always been vital to recovering economies in the past. Why do governments hesitate to spend?

LRW: Irrational fear of budget deficits. The deficit hawks are out to swoop down on policy makers who dare to use government to foster economic development and growth. Of course, austerity usually does not actually reduce budget deficits because it kills the economy and that destroys tax revenue. When that happens the austerians demand more “blood-letting” in the form of budget cuts. It creates a vicious cycle. In reality, government spending-led recovery is the safest and surest path because it does not rely on private sector deficits and debt. Government spending creates income in the private sector; budget deficits provide safe government bonds to be held as financial wealth in the private sector. The deficit hysterians have it exactly wrong.

Q: Brazil has returned to raise interest rates. The decision is in the right direction?

LRW: I cannot say for sure, but I much prefer permanently low central bank target interest rates. Zero is probably best.

Q: What should be the concern of Brazil in relation to exchange rates, inflation and interest rates?

LRW: Raising interest rates is not a good way to fight inflation. If the problem is too much lending and spending, then in my view it is best to use direct credit controls to dampen the spending. If the exchange rate is falling more than desired, then I’d prefer capital controls and perhaps import controls. I realize that international agreements as well as politics can interfere with that.

Q: To follow up in the “employer of last resort” idea: Why a progressive government should not act as an employer of last resort, during economic downturns, guaranteeing employment to workers who cannot find jobs in the private sector?

LRW: The ELR program must be permanent, not a temporary program for downturns. To help stabilize the economy it needs to provide a buffer stock pool of employable labor. In an expansion, employers hire out of the pool; in a recession, as the private sector sheds workers they go into the pool. The government’s budget will be countercyclical, spending more on hiring labor in downturns and less in expansions. A stable wage in the program helps to stabilize wages and prices more generally.

Q: Learning from the monetary model of the Euro area, it is possible to think about a monetary union free of limitations, such as not having the possibility to issue currency independently? Is sharing similar characteristics or development levels a necessary condition to start up with a regional currency?

LRW: A true union would have been OK; what was needed is a central fiscal authority with a budget big enough to deal with a crisis. If, for example, the European Parliament’s budget in euros had been 15% of the area’s GDP, it could have reacted to the deep recession with fiscal stimulus; and it could have dealt with the banking crisis by providing deposit insurance. Instead every individual nation had to do that–and as currency users (not issuers) they did not have the fiscal capacity. It would be like telling South Dakota and North Carolina that they had to deal with crises of their banks without the help of Uncle Sam.

Q: What might be considered as the first signs of a potential crisis looming in an economy in which the levels of development of financial markets are relatively low. Besides having a lower level of risk and be less exposed to contagion in a financial crisis, do you think is it good or bad to have a financial market with a low level of development?

LRW: Finance should always serve the economy. It should be of an appropriate size. When finance is freed of constraints and allowed to become “globalized” it begins to dominate the economy. It is fairly crazy for developing nations to open their economies to globalized finance. Finance is not a scarce resource. Any nation can have as much as it wants, within its own borders. It does not need global financial institutions. What they do is to “financialize” the economies–to run the economies in the interests of global finance.

Q: Considering it cannot be still affirmed the developed world has overcome the last global financial crisis, is the outlook encouraging for the medium term? With slower growth in the U.S. and EU, are the BRICS able to sustain its pace of growth to offset the slowdown in the global economy? Can integration processes in LA and the Caribbean reduce vulnerability to further external shocks?

LRW: No, the medium term looks bad. Sustainable recovery is not underway. Commodities markets bubbles will crash. Global growth will remain sluggish (and probably will fall). I think that some BRICS could avoid problems, but only by focusing on their domestic economies. I’m optimistic about China because I think that is exactly what its policymakers are doing. I’m not so sure about the others. It is possible that integration among LA nations could be beneficial. However, the lessons from the EMU must not be forgotten. The last thing you want to unify is your currency. Maintaining currency sovereignty until you are willing to centralize fiscal authority is essential to maintaining domestic policy space.

Q: Please tell me about your work. How you would like to be presented to the readers of the newspaper? How old are you?

Professor of Economics at University of Missouri-Kansas City, Senior Scholar at the Levy Economics Institute of New York, and student of the late and great economist Hyman Minsky. And I’m getting older by the year.


Leave a Reply