The Price of Crisis Prevention

BRUSSELS – Two years have passed since the financial crises erupted, and we have only started to realize how costly it is likely to be. Andrew Haldane of the Bank of England estimates that the present value of the corresponding losses in future output could well reach 100% of world GDP.

This estimate may look astonishingly high, but it is relatively conservative, as it assumes that only one-quarter of the initial shock will result in permanently lower output. According to the true doomsayers, who believe that most, if not all, of the shock will have a permanent impact on output, the total loss could be two or three times higher.

One year of world GDP amounts to $60 trillion, which corresponds to about five centuries of official development assistance or, to be even more concrete, 10 billion classrooms in African villages. Of course, this is no direct cost to public budgets (the total cost of bank rescue packages is much lower), but this lost output is the cost that matters most when considering how to reduce the frequency of crises.

Assume that, absent adequate preventive measures, a crisis costing one year of world GDP occurs every 50 years (a rough but not unreasonable assumption). It would then be rational for the world’s citizens to pay an insurance premium, provided its cost remains below 2% of GDP (100%/50).