Saturday, November 22, 2014
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Five Years in Limbo

NEW YORK – When the US investment bank Lehman Brothers collapsed in 2008, triggering the worst global financial crisis since the Great Depression, a broad consensus about what caused the crisis seemed to emerge. A bloated and dysfunctional financial system had misallocated capital and, rather than managing risk, had actually created it. Financial deregulation – together with easy money – had contributed to excessive risk-taking. Monetary policy would be relatively ineffective in reviving the economy, even if still-easier money might prevent the financial system’s total collapse. Thus, greater reliance on fiscal policy – increased government spending – would be necessary.

Five years later, while some are congratulating themselves on avoiding another depression, no one in Europe or the United States can claim that prosperity has returned. The European Union is just emerging from a double-dip (and in some countries a triple-dip) recession, and some member states are in depression. In many EU countries, GDP remains lower, or insignificantly above, pre-recession levels. Almost 27 million Europeans are unemployed.

Similarly, 22 million Americans who would like a full-time job cannot find one. Labor-force participation in the US has fallen to levels not seen since women began entering the labor market in large numbers. Most Americans’ income and wealth are below their levels long before the crisis. Indeed, a typical full-time male worker’s income is lower than it has been in more than four decades.

Yes, we have done some things to improve financial markets. There have been some increases in capital requirements – but far short of what is needed. Some of the risky derivatives – the financial weapons of mass destruction – have been put on exchanges, increasing their transparency and reducing systemic risk; but large volumes continue to be traded in murky over-the-counter markets, which means that we have little knowledge about some of our largest financial institutions’ risk exposure.

Likewise, some of the predatory and discriminatory lending and abusive credit-card practices have been curbed; but equally exploitive practices continue. The working poor still are too often exploited by usurious payday loans. Market-dominant banks still extract hefty fees on debit- and credit-card transactions from merchants, who are forced to pay a multiple of what a truly competitive market would bear. These are, quite simply, taxes, with the revenues enriching private coffers rather than serving public purposes.

Other problems have gone unaddressed – and some have worsened. America’s mortgage market remains on life-support: the government now underwrites more than 90% of all mortgages, and President Barack Obama’s administration has not even proposed a new system that would ensure responsible lending at competitive terms. The financial system has become even more concentrated, exacerbating the problem of banks that are not only too big, too interconnected, and too correlated to fail, but that are also too big to manage and be held accountable. Despite scandal after scandal, from money laundering and market manipulation to racial discrimination in lending and illegal foreclosures, no senior official has been held accountable; when financial penalties have been imposed, they have been far smaller than they should be, lest systemically important institutions be jeopardized.

The credit ratings agencies have been held accountable in two private suits. But here, too, what they have paid is but a fraction of the losses that their actions caused. More important, the underlying problem – a perverse incentive system whereby they are paid by the firms that they rate – has yet to change.

Bankers boast of having paid back in full the government bailout funds that they received when the crisis erupted. But they never seem to mention that anyone who got huge government loans with near-zero interest rates could have made billions simply by lending that money back to the government. Nor do they mention the costs imposed on the rest of the economy – a cumulative output loss in Europe and the US that is well in excess of $5 trillion.

Meanwhile, those who argued that monetary policy would not suffice turned out to have been right. Yes, we were all Keynesians – but all too briefly. Fiscal stimulus was replaced by austerity, with predictable – and predicted – adverse effects on economic performance.

Some in Europe are pleased that the economy may have bottomed out. With a return to output growth, the recession – defined as two consecutive quarters of economic contraction – is officially over. But, in any meaningful sense, an economy in which most people’s incomes are below their pre-2008 levels is still in recession. And an economy in which 25% of workers (and 50% of young people) are unemployed – as is the case in Greece and Spain – is still in depression. Austerity has failed, and there is no prospect of a return to full employment any time soon (not surprisingly, prospects for America, with its milder version of austerity, are better).

The financial system may be more stable than it was five years ago, but that is a low bar – back then, it was teetering on the edge of a precipice. Those in government and the financial sector who congratulate themselves on banks’ return to profitability and mild – though hard-won – regulatory improvements should focus on what still needs to be done. The glass is, at most, only one-quarter full; for most people, it is three-quarters empty.

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    1. CommentedWayne Davidson

      If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that will grow up around them will deprive the people of all property until their children wake up homeless on the continent their Fathers conquered. --Thomas Jefferson

    2. CommentedJose araujo

      We ended a cycle of speculation to enter a new cycle of risk aversion, which means all the laws and regulations designed to prevent speculation are ineffective, the consequence is that the money remains idle, and the disconnection between financial and real markets remains. New laws and regulations must be approved to prevent financial institutions to capture the value on moments of risk aversion, penalize heavily the liquidity preference and reconnect money with its owners. The message should be clear, either circulate your money, invest, convert debt into capital, or lose it. Speculation laws and regulations don’t work on this cycle we are living, we need new approaches and to stay ahead of the wave.

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