Arnold Kling  

This Time is Different in Concert

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I've talked before about the new book by Ken Rogoff and Carmen Reinhart, titled This Time is Different, which is about how financial crises have been around a long time and have a lot in common with one another. (You can also listen to Rogoff here. It's a must-listen.) Today, Reinhart appeared at an AEI event. Here are some notes I took:

Reinhart cited Robert Shiller to the effect that house prices rose more frmo 2000 to 2006 than in the previous 100 years put together.

She said, citing statistics from the book, that the government usually assumes the debts from the private sector in a banking crisis. During the Q&A, I pointed out that a number of specific reforms are being discussed to try to forestall any future bailouts, including "resolution authority" and " living wills." I wondered if she thought that these tactical approaches could overcome what seems to be a deeper impetus to do bailouts. She shared my skepticism. She said that no matter what the law says, when the crisis hits, there will be some class of creditors that the government is unwilling to see suffer.

Stijn Claessens of the International Monetary Fund pointed out that recessions associated with financial crises are much worse than recessions that occur without financial crises. The crisis-related recessions last twice as long, lose twice as much GDP, and have unemployment rates 6 percentage points higher. I resisted the urge to interrupt to point out that the Recalculation Model would say that this is due to the fact that financial crises are preceded by excesses, which means that you have to deal with a large misallocation of capital. An ordinary recession might mean an excess of inventories, where you shut down factories temporarily. The excesses that lead to a financial crisis require much more Recalculation to resolve.

One point that Reinhart stressed is the lack of data on public debt. We really don't know the extent of unfunded obligations--think of Social Security, Medicare, Medicaid, and government pensions funds. She said this has always been true. Both private firms and government try to hide the liability side of their balance sheets, but governments are more deceptive and have more to hide.

The obvious question is what this means for future U.S. behavior. Alex Pollock says that governments reach a point where they no longer have the willpower to pay bondholders. That sounds like a formal default. Allan Meltzer seemed to feel that for the U.S., a more likely scenario is losing the willpower to control inflation. It has got to be awfully tempting to run an inflation rate of 5 percent or so as a way of lowering the real debt burden. As readers of this blog know, I think that interest rates on nominal Treasury bonds (not indexed for inflation) are not high enough to compensate for this inflation risk.

Overall, I didn't take away much that I had not already gleaned from the book. But Reinhart was very articulate and forceful in her presentation and during the Q&A, so if the AEI puts up a video or a podcast, I would recommend it.



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