Wednesday, December 30, 2009

Why We'll Always Have More Money Than Sense

by Robert Shiller in Newsweek

When it comes to market bubbles and how they are created, very little, if anything, has changed. This is because human psychology has not changed. Massive bubbles are created when large numbers of people buy into "new era" stories that exaggerate how much the world has improved. For example, in the past few years the global equities and housing bubbles were driven by a giddy faith that world markets were on a tear and prices would go up indefinitely. Our animal spirits are sparked by these tales; we find them irresistible. And since as animals we're also given to a herd mentality, in a bubble we tend to invest too much in the most popular stories—and continue to do so even after the bubble bursts.

As I wrote in my book irrational exuberance in 2000, one of the key stories of our time is the triumph of capitalism. This theme was underscored by the disintegration of the Soviet Union and China's shift to a market economy. But many true believers got the details wrong—and became convinced, for example, that capitalism means market prices will always go up.

In the several decades since the worldwide rise of market economies, our perceptions of ourselves have changed greatly—while young people back then might have become hippies, deeply skeptical of business, today's young people are very concerned with making money. They might have temporarily questioned the idea of capitalism after the financial crisis, but quickly shrugged off their qualms. People still largely believe in the ownership society and in markets. They believe in the importance of doing business, and they generally believe that we all have a responsibility to take care of ourselves. So much for the idea that we're all socialists now; while many countries do take care of society's losers to a significant extent, we don't idealize doing so, as we once did. And this unadulterated belief in capitalism helped to fuel the bubbles that led to the crash.

Read the full commentary

Sunday, December 27, 2009

Economic View: A Way to Share in a Nation’s Growth

By ROBERT J. SHILLER in the NY Times:

CORPORATIONS raise money by issuing both debt and equity, the latter giving investors an implicit share in future profits. Governments should do something like this, too, and not just rely on debt.

Borrowing a concept from corporate finance, governments could sell a new type of security that commits them to paying shares in national “profit,” as measured by gross domestic product.

Historically, one impediment to such a move was the difficulty in accounting on a national scale: governments didn’t even try to measure G.D.P. until well into the 20th century.

Although G.D.P. numbers still aren’t perfect — they are subject to periodic revisions, for example — the basic problem has been largely solved. So why not issue shares in G.D.P. now?

Such securities might help assuage doubts that governments can sustain the deficit spending required to keep sagging economies stimulated and protected from the threat of a truly serious recession. In a recent pair of papers, my Canadian colleague Mark Kamstra at York University and I have proposed a solution. We’d like our countries to issue securities that we call “trills,” short for trillionths.

Saturday, November 21, 2009

Economic View: What if a Recovery Is All in Your Head?

By ROBERT J. SHILLER in the NY Times:

Beyond fiscal stimulus and government bailouts, the economic recovery that appears under way may be based on little more than self-fulfilling prophecy.

Consider this possibility: after all these months, people start to think it’s time for the recession to end. The very thought begins to renew confidence, and some people start spending again — in turn, generating visible signs of recovery. This may seem absurd, and is rarely mentioned as an explanation for mass behavior late in a recession, but economic theorists have long been fascinated by such a possibility.

The notion isn’t as farfetched as it may appear. As we all know, recessions generally last no more than a couple of years. The current recession began in December 2007, according to the National Bureau of Economic Research, so it is almost two years old. According to the standard schedule, we’re due for recovery. Given this knowledge, the mere passage of time may spur our confidence, though no formal statistical analysis can prove it.

Read full commentary

Saturday, November 14, 2009

The Ghost in the Recovery Machine

by Robert J. Shiller

The International Monetary Fund’s October World Economic Outlook proclaimed that, “Strong public policies have fostered a rebound of industrial production, world trade, and retail sales.” The IMF, along with many national leaders, seem ready to give full credit to these policies for engineering what might be the end of the global economic recession.

National leaders and international organizations do deserve substantial credit for what has been done to bring about signs of recovery since the spring. The international coordination of world economic policies, as formalized in the recent G-20 statement, is unprecedented in history.

But one also suspects that world leaders have been too quick to claim so much credit for their policies. After all, recessions generally tend to come to an end on their own, even before there were government stabilization policies. For example, in the United States, the recessions of 1857-8, 1860-61, 1865-7, 1882-85, 1887-88, 1890-91, 1893-94, 1895-97, 1899-1900, 1902-04, 1907-8, and 1910-12 all ended without help from the Federal Reserve, which opened its doors only in 1914.

Read full commentary

Thursday, November 5, 2009

Yale Q6 Fall 2009 Q&A with Dr. Shiller

Decades of economic research have assumed people pursue their goals in a rational manner, discounting the effects of emotion, bias, error, and other irrational forces. Robert Shiller argues that economists need to take a closer look at how people make decisions.

Q: How important is it to understand what people are thinking and feeling when you are trying to understand the economy as a whole?

That's been a controversial question in economics for a long time. Milton Friedman wrote a collection of essays in 1953 called Essays in Positive Economics, in which he argued that you shouldn't try to infer what people are thinking because people really can't tell you what they're thinking. If you ask people why they did something, they will give you a conventional answer or mislead you. The idea was that the essence of economics is to look at the constraints that people have and assume that people are behaving rationally, subject to those constraints, and interpret economic data as reflecting that rational behavior. That is the defining characteristic of economics as a discipline — as opposed to psychology as a discipline — that, in understanding something as massive as the economy, it's best to look at people's actions, not their ostensible reasons. There is some appeal to that. I just wish it were more right.

I can get enthusiastic talking about this theory because, in some respects, it is good. To give an example, suppose you are trying to understand the seasonality of food prices — why they go up in the winter and down in the summer. Well, it's pretty obvious that it has something to do with the weather as a constraint, but you better think it through, because we live in a global economy, and when it's winter up here, it's summer down south. Obviously they'll ship food from one hemisphere to another. That puts a limit on seasonality. This is pure economics, and I'm sure it's right, because the seasons occur year after year after year, and you have people whose job is to ship fruits and vegetables and food around. They're going to find the best pattern of shipping, given all the costs. It wouldn't make a lot of sense to ignore that. Thinking that people get emotional in the summer, or something like that, would probably be wrong.

Read full interview

Sunday, October 11, 2009

A Bounce? Indeed. A Boom? Not Yet.

by Robert J. Shiller in the NY Times:

THE sudden rise in home prices suggests that the psychology of the market has shifted substantially. But what should we expect in the months ahead? Not necessarily that we’re entering a new housing boom. To a large extent, where we’re heading depends on what home buyers are thinking.

Some clues are found in the annual home-buyer surveys that Karl Case, the Wellesley economics professor, and I have run for years. For the surveys, we canvas recent home buyers in four cities — Los Angeles, San Francisco, Milwaukee and Boston; the surveys are now being conducted under the auspices of the Yale School of Management. We have just received the 2009 results, with responses from June and July.

This year’s survey coincides nicely with the upturn in home prices, the sharpest change in direction we have ever seen. The data show that the Standard & Poor’s/Case-Shiller 10-City Composite Home Price Index for the United States rose 3.6 percent between April and July. While that is not a whopping increase, it followed a decline of 4.8 percent in the previous period, between January and April.

The suddenness of this shift surprised me. In my column in June, I wrote that home prices might well continue to decline for years. As of that time, the S.& P./Case-Shiller price index had fallen every month for almost three years. Add to that the prospect of continuing high unemployment and a weak economy for years to come, and the prospects for home prices did not seem rosy.

Read the full article

Wednesday, September 30, 2009

Q&A: Shiller Sees 5 Years of Stagnant Home Prices

From the Wall Street Journal:

Robert Shiller, the Yale University economist who famously predicted the housing bust, was awarded the Deutsche Bank Prize in Financial Economics today. In this interview, he talks about the state of the housing market and the implications of low interest rates.

Is the slump in U.S. home prices bottoming out?

Shiller: The situation has definitely changed. With our numbers — the S&P/Case Shiller home price index — going up sharply. It looks like a major turnaround. We’ve been watching that for three months now, and we have some concern that it could be an aberration and temporary. But, at this point, it seems to be evident in just about every city in the U.S. That suggests it’s real. But it probably isn’t the beginning of a major boom, just because the economy is in such bad shape. There’s also a chance that it will reverse. It’s still only three months old, so it’s very hard to be sure at this point. The most likely scenario is that it won’t continue at this high rate of increase, but that it will neither go down a lot, nor up a lot.

So the index will move sideways for a while?

Shiller: Yes, for a while, meaning five years.

What are the main factors driving U.S. house prices? What could push them up, or cause another slump?

Shiller: The main factor is the world economic crisis and the efforts of governments around the world to stimulate the economy. Parts of those efforts have been directed at the housing market. In the U.S., there is an 8,000 dollar first-time home buyer’s tax credit which expires at the end of November. That’s a reason for concern, as it comes to an end. Also, the Federal Reserve has a plan to buy $1.25 trillion worth of mortgage-backed securities to support the housing market. They are most of the way through the program and anticipate phasing it out at some time in 2010 - that’s another thing that will go away. We’ve yet to see how the housing market will continue. Part of the problem is that people are buying now rather than later. When later comes, there could be a downturn in the market.

Read full interview

Sunday, September 27, 2009

In defence of financial innovation

by Robert Shiller at

Many appear to think that the increasing complexity of financial products is the source of the world financial crisis. In response to it, many argue that regulators should actively discourage complexity.

The June 2009 US Treasury white paper seemed to say this. The paper said that a new consumer financial protection agency be “authorised to define standards for ‘plain vanilla’ products that are simpler and have straightforward pricing,” and “require all providers and intermediaries to offer these products prominently, alongside whatever other lawful products they choose to offer”.

The July 2009, HM Treasury white paper “Reforming Financial Markets” similarly advocated “improving access to simple, transparent products so that there is always an easy-to-understand option for consumers who are not looking for potentially complex or sophisticated products.”

They do have a point. Unnecessary complexity can be a problem that regulators should worry about, if the complexity is used to obfuscate and deceive, or if people do not have good advice on how to use them properly. Complexity was indeed used that way in this crisis by some banks who created special purpose vehicles (to evade bank capital requirements) and by some originators of complex mortgage securities (to fool the ratings agencies and ultimate investors).

Read full commentary

Thursday, September 17, 2009

Bubble, bubble, toil and financial trouble

By Robert J. Shiller

THE widespread failure of economists to forecast the financial crisis that erupted in 2008 has much to do with faulty models. This lack of sound models meant that economic policy makers and central bankers received no warning of what was to come.

As George Akerlof and I argue in our recent book "Animal Spirits," the current financial crisis was driven by speculative bubbles in the housing market, the stock market, and energy and other commodities markets.

Bubbles are caused by feedback loops: rising speculative prices encourage optimism, which encourages more buying, and hence further speculative price increases - until the crash comes.

But you won't find the word "bubble" in most economics treatises or textbooks. Likewise, a search of working papers produced by central banks and economics departments in recent years yields few instances of "bubbles" even being mentioned.

Indeed, the idea that bubbles exist has become so disreputable in much of the economics and finance profession that bringing them up in an economics seminar is like bringing up astrology to a group of astronomers.

Read full article

Monday, September 14, 2009

They Called Him Mr. Bubble

by David Leonhardt in Yale Alumni Magazine:

Sometime in the mid-1980s, Robert Shiller and John Campbell '84PhD created The Chart. It wasn't especially complicated. It showed average stock prices, relative to corporate earnings, going all the way back to the late nineteenth century. Wall Street analysts produce charts along these lines all the time. The measure is called the price-earnings ratio, and it is the single most common analytical yardstick of the stock market.

The yardstick that Shiller and Campbell created, however, came with a twist -- a twist that transformed their little chart into The Chart. Today, The Chart stands as one of the signature pieces of economic research of the past generation. It is rigorous enough to have appeared in the Journal of Portfolio Management and simple enough to be understood by those of us who are behind on our Portfolio Management reading.

Anyone who heeded the central lesson of Shiller and Campbell's analysis -- as well as the lesson of a subsequent chart, created by Shiller, on the housing market -- could have avoided some of the worst pain of the financial crisis. If Alan Greenspan had taken The Chart seriously during the late 1990s, Greenspan's reputation might be in better shape today. So might the United States economy. Nouriel Roubini, the doomsday-prophesizing finance professor at New York University who has lately become a media darling, credits The Chart for much of his clairvoyance.

Read full article

Saturday, August 29, 2009

NY Times: An Echo Chamber of Boom and Bust

by Robert J. Shiller

The global signs of a recovery in economic confidence seem puzzling.

It is a large and diverse world, after all, so why should confidence have rebounded so quickly in so many places? Government stimulus and bailout packages have generally not been big enough to have such a profound effect.

What happened? Economic analysts often turn to indicators like employment, housing starts or retail sales as causes of a recovery, when in fact they are merely symptoms. For a fuller explanation, look beyond the traditional economic links and think of the world economy as driven by social epidemics, contagion of ideas and huge feedback loops that gradually change world views. These social epidemics can travel as swiftly as swine flu: both spread from person to person and can reach every corner of the world in short order.

Read full article

Wednesday, August 12, 2009

The Case for Trills by Mark Kamstra and Robert Shiller

Abstract: "We make the case for the U.S. government to issue a new security with a coupon tied to the United States’ current dollar GDP. This security might pay, for example, a coupon of one-trillionth of the GDP, and we propose the name "Trill" be used to refer to this new security. This new debt instrument should be of great interest to the Government for its stabilizing influence on the budget (as coupon payments fall in a recession with declining tax revenues) and for its yield, based on our valuation. Standard asset pricing analysis also suggests that Trills would enable important new portfolio diversification strategies and, in contrast to available assets that protect relative standards of living in retirement, Trills would have virtually no counterparty risk. We believe there would be a lively appetite for the Trill from institutional investors, public and private pension funds, as well as the individual investor. "

Read the full paper [pdf]

Read Noam Scheiber's take at the Stash blog

Sunday, July 19, 2009

Economic View: Financial Invention vs. Consumer Protection

Robert J. Shiller in the New York Times:

JAMES WATT, who invented the first practical steam engine in 1765, worried that high-pressure steam could lead to major explosions. So he avoided high pressure and ended up with an inefficient engine.

It wasn’t until 1799 that Richard Trevithick, who apprenticed with an associate of Watt, created a high-pressure engine that opened a new age of steam-powered factories, railways and ships.

That is how innovation often proceeds — by learning from errors and hazards and gradually conquering problems through devices of increasing complexity and sophistication.

Read full commentary

Sunday, July 12, 2009

Video: Robert Shiller Interview

From Reuters:

Part 1/2

Part 2/2

Bob Shiller didn't kill the housing market

From Fortune:

It's noon in New Haven, and Yale economist Robert Shiller and I are leaving his office to walk down the block for pizza. It was a damp morning, but now the sun is breaking through the clouds. "Do we need an umbrella?" he asks. I say I don't think so. But a few steps outside his office, he turns around to get one. "It's better to be safe," he says.

That's Bob Shiller for you. He's a worrier. Well, more than that. He's obsessed with taming risk. And that means all kinds of risk -- from the chance of stray showers to a danger that's on everyone's mind these days: falling home prices. Shiller's name will forever be linked with the worst housing bust since the Great Depression and the economic slump it caused. He first warned of a housing bubble back in 2003 when bankers were merrily minting mortgage-backed securities. And it is the widely cited gauge he helped create -- the S&P/Case-Shiller home-price index -- that has heralded, in grim monthly installments, the devastating collapse of the residential real estate market.

Read full article

Sunday, June 28, 2009

Video: Talk Of Green Shoots Premature

Yale University economist Robert Shiller on the economy, consumer confidence, the stimulus plan and oil prices. (View video or read transcript.)

Saturday, June 20, 2009

Unlearned lessons from the housing bubble

From the Gulf Times:

By Robert J Shiller/New Haven, US

There is a lot of misunderstanding about home prices. Many people all over the world seem to have thought that since we are running out of land in a rapidly growing world economy, the prices of houses and apartments should increase at huge rates.

That misunderstanding encouraged people to buy homes for their investment value – and thus was a major cause of the real estate bubbles around the world whose collapse fuelled the current economic crisis. This misunderstanding may also contribute to an increase in home prices again, after the crisis ends. Indeed, some people are already starting to salivate at the speculative possibilities of buying homes in currently depressed markets.
Full article

Saturday, June 6, 2009

Why Home Prices May Keep Falling

From the NY Times:

Home prices in the United States have been falling for nearly three years, and the decline may well continue for some time.

Even the federal government has projected price decreases through 2010. As a baseline, the stress tests recently performed on big banks included a total fall in housing prices of 41 percent from 2006 through 2010. Their “more adverse” forecast projected a drop of 48 percent — suggesting that important housing ratios, like price to rent, and price to construction cost — would fall to their lowest levels in 20 years.

Such long, steady housing price declines seem to defy both common sense and the traditional laws of economics, which assume that people act rationally and that markets are efficient. Why would a sensible person watch the value of his home fall for years, only to sell for a big loss? Why not sell early in the cycle? If people acted as the efficient-market theory says they should, prices would come down right away, not gradually over years, and these cycles would be much shorter.

Sunday, May 17, 2009

Herding animal spirits to revive the economy


Since hitting bottom in early March, the world's major stock markets have all risen dramatically.

Some, notably in China and Brazil, reached lows last fall and again in March, before rebounding sharply, with Brazil's Bovespa up 75 percent in May compared to late October 2008, and the Shanghai Composite up 54 percent in roughly the same period.

But the stock market news just about everywhere has been very good since March. Does this suggest that the world economic crisis is coming to an end? Could it be that everyone becomes optimistic again at the same time, bringing a quick end to all our problems?

Thursday, May 7, 2009

Q&A: Yale's Robert Shiller on the Outlook for Home Prices

From TIME:

If you want to know what's going on in the U.S. housing market, chances are you follow the Case-Shiller index. Robert Shiller, the Yale University economist who helped create the home-price gauge, was something of a pop economist even before the real estate meltdown—a book published in 2000 warning about the coming crash in stocks made him a rock star of the last bubble, too. His latest book, Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters For Global Capitalism, was written with Univeristy of California, Berkeley economist George Akerlof. Shiller spoke with TIME's Barbara Kiviat.

Saturday, May 2, 2009

Economic View: Depression Scares Are Hardly New

Robert Shiller in The New York Times:

What is the chance that the current downturn will morph into another Great Depression? That question has been preoccupying people for months.

The popular mood has a huge impact on the economy, so it’s worth noting what many people seem to forget: Depression scares come and go. And by one authoritative measure, the current outbreak of concern has been surprisingly mild.

Read the full commentary

Policies to Deal with the Implosion in the Mortgage Market

By Robert J. Shiller from The B.E. Journal of Economic Analysis & Policy:

This paper relates the 2006-2008 meltdown in mortgage markets to falling asset prices, excessive psychological reaction to the burst bubble, and new mortgage vehicles incapable of accommodating sudden changes in asset values. A combination of market-based and regulatory innovations are proposed. The paper suggests placing greater reliance on innovative futures markets in real estate, inducing the flow of capital to vehicles having self-regulatory features and cultivating resiliency in the market.
Download the full article

Friday, April 24, 2009

Good Government and Animal Spirits


The principal long-term result of the current financial crisis should be improved financial regulation. After the immediate crisis is over, we need to restructure our fragmented system. This process will take years to complete since, if properly done, it should get at the heart of the regulatory structure.

This is not as radical as it sounds, for while many observers equate U.S.-style capitalism with unconstrained free markets, the story is more complicated. Americans have long understood that for the economy to work well, government must play an important supporting role. They've also long understood the important role that self-regulatory organizations (SROs), such as trade associations and exchanges, play in cooperation with government regulation.
Read full commentary

Saturday, April 18, 2009

Maclean’s Interview: Robert Shiller


Robert Shiller is a professor of economics at Yale and the bestselling author of Irrational Exuberance, in which he predicted the collapse of the stock market. He was also one of the first economists to accurately foresee the devastation that would follow the subprime mortgage crisis. In Animal Spirits: How Human Psychology Drives the Economy, and Why it Matters for Global Capitalism, written with George Akerlof, he argues that today’s markets are as much driven by human psychology as by finance. Shiller uses the idea of “animal spirits,” a term invented by revolutionary economist John Maynard Keynes, to describe the powerful effect of human emotion and confidence on the economy, and to push for more government intervention and bigger stimulus packages in the U.S. and Canada.
Read the interview

Friday, April 17, 2009

Depression Lurks Unless There’s More Stimulus: Robert Shiller

In the Great Depression of the 1930s the U.S. government had a great deal of trouble maintaining its commitment to economic stimulus. “Pump- priming” was talked about and tried, but not consistently. The Depression could have been mostly prevented, but wasn’t. Ultimately, the reason for this policy failure was inadequate understanding of the relevant economic theory.

In the face of a similar Depression-era psychology today, we are in need of massive pump-priming again. We appear to be in a much better situation due to the stronger efforts to date. Still, there is a danger that, because of a combination of faulty economic theory and inadequate appreciation of human psychology, as well as deep public anger, we will not continue with such stimulus on a high enough level.
Read full commentary

Tuesday, April 14, 2009

Surveying the economic horizon: A conversation with Robert Shiller

From The McKinsey Quarterly:
In this video interactive, economist Robert Shiller discusses four aspects of the current crisis: regulating for financial innovation, reducing trust in models, redesigning institutions, and the time line for turnaround. His perspectives are informed in part through his research that psychology—particularly an understanding of human irrationality—can play a key role in explaining economic breakdowns and exploring effective solutions.
Watch/read the interview

Saturday, April 4, 2009

Emotions key to economic recovery


President Obama's National Economic Council head Lawrence Summers noted in his speech March 13 that the economic crisis has led to an "excess of fear" that must be reversed.

To understand the role fear plays in the current crisis, we must understand the role of human psychology.

John Maynard Keynes thought psychology was the major cause of economic booms as well as busts, though this aspect of his work is now largely forgotten. He said people's economic decisions, in both good times and bad times, are largely, ultimately, if indirectly, driven by animal spirits, primitive psychological tendencies.
Read full commmentary

Economic View: It Pays to Understand the Mind-Set

In the New York Times:

In 1934, the journalist Johannes Steel wrote a remarkably prescient book, “The Second World War,” which described the social psychology that laid the groundwork for global tragedy.

Mr. Steel was trying to peer into people’s minds and infer their actual world views and motivations — in part by examining prewar cycles of social provocation in Germany and Japan and Italy. His timing about the war was wrong — he expected it to start in 1935, not 1939 — but he was correct about many fundamentals. Yet his early readers were often skeptical and blithely assumed that there would be no war.

So it has been with more recent analyses, based in large part on social psychology, foreshadowing the global economic crisis of the current day. No one got it exactly ight, but the insights of the approach exemplified by Mr. Steel and used by some nalysts today are worth taking very seriously.
Read full commentary

Shiller Lecture: "Animal Spirits: How Human Psychology Caused the Current Economic Crisis"

Economist Robert Shiller delivers the first annual Beattie Family Lecture in Business Law at the Faculty of Law at The University of Western Ontario on March 27, 2009. Prof. Shiller spoke on "Animal Spirits: How Human Psychology caused the Current Economic Crisis."

A video of the full lecture is available through ITunesU and YouTube.

Saturday, March 21, 2009

Transcript: U.S. Economist Robert Shiller Prescribes 'More Derivatives'

From Radio Free Europe/Radio Liberty:

He was one of the few people to accurately predict the bursting of not one but two financial "bubbles." The dot-com collapse in technology stocks at the beginning of the decade, and the U.S. housing-market collapse that triggered the current economic crisis. So when Yale professor Robert Shiller comes up with suggestions for a way forward, they're likely worth hearing. One is about derivatives, the complex financial instruments -- many based on mortgages -- that were blamed for fueling the crisis. Shiller's prescription: not fewer derivatives, but more of them. RFE/RL's Kathleen Moore asked him why.
Read interview transcript

Winning the Confidence Game

In the Business Standard:

Developed nations must invest in confidence-renewing measures like the Marshall Plan.

On April 2, the G-20 will hold a summit in London to discuss what we may hope will be an internationally coordinated plan to address the world economic crisis. But can such a plan really work?

The basic problem, of course, is confidence. People everywhere, consumers and investors alike, are cancelling spending plans, because the world economy seems very risky right now. The same thing happened during the Great Depression of the 1930s. A contemporary observer, Winthrop Case, explained it all in 1938: economic revival depended “on the willingness of individual and corporate buyers to make purchases that necessarily tie up their resources for a considerable length of time. For the individual, this implies confidence in the job, and in the end comes equally back to the confidence of industry leaders.” Unfortunately, confidence did not return until World War II ended the depression.
Read full commentary

Saturday, March 14, 2009

A Failure to Control the Animal Spirits

In the Financial Times:

Lydia Lopokova, wife of the economist John Maynard Keynes, was a famous ballerina. She was also a Russian émigré. Thus Keynes knew from the experience of his in-laws the horrors of living in the worst of socialist economies. But he also knew first-hand the great difficulties that come from unregulated, unfettered capitalism. He lived through the British depression of the 1920s and 1930s. Thus Keynes was inspired to find a middle way for modern economies.

We are seeing, in this financial crisis, a rebirth of Keynesian economics. We are talking again of his 1936 book The General Theory of Employment, Interest and Money, which was written during the Great Depression. This era, like the present, saw many calls to end capitalism as we know it. The 1930s have been called the heyday of communism in western countries. Keynes’s middle way would avoid the unemployment and the panics and manias of capitalism. But it would also avoid the economic and political controls of communism. The General Theory became the most important economics book of the 20th century because of its sensible balanced message.
Read full commentary

Saturday, February 21, 2009

Can Talk of a Depression Lead to One?

From the New York Times:

PEOPLE everywhere are talking about the Great Depression, which followed the October 1929 stock market crash and lasted until the United States entered World War II. It is a vivid story of year upon year of despair.

This Depression narrative, however, is not merely a story about the past: It has started to inform our current expectations.

According to the Reuters-University of Michigan Survey of Consumers earlier this month, nearly two-thirds of consumers expected that the present downturn would last for five more years. President Obama, in his first press conference, evoked the Depression in warning of a “negative spiral” that “becomes difficult for us to get out of” and suggested the possibility of a “lost decade,” as in Japan in the 1990.

Read full commentary

Tuesday, January 27, 2009

Animal Spirits Depend on Trust

From the Wall Street Journal:

President Obama is urging Congress to pass an $825 billion stimulus package as soon as possible. But even that may not be enough to stabilize the economy, since it fails to take into account the downward spiral of animal spirits that is underway and may continue to worsen.

The term "animal spirits," popularized by John Maynard Keynes in his 1936 book "The General Theory of Employment, Interest and Money," is related to consumer or business confidence, but it means more than that. It refers also to the sense of trust we have in each other, our sense of fairness in economic dealings, and our sense of the extent of corruption and bad faith. When animal spirits are on ebb, consumers do not want to spend and businesses do not want to make capital expenditures or hire people.
Read full commentary

Sunday, January 25, 2009

Recession Insurance

From Project Syndicate:

The Chief Economist of the International Monetary Fund, Olivier Blanchard, and several IMF economists have proposed in a recent paper that governments should offer what they call “recession insurance.” Companies and/or individuals would buy insurance policies, pay a regular premium for them, and receive a benefit if some measure of the economy, such as GDP growth, dropped below a specified level. Such insurance, they argue, would help firms and people deal with the “extreme uncertainty” of the current economic environment.

Recession insurance might, indeed, help alleviate the economic crisis by reducing uncertainty. After all, the real problem that we are currently facing is one of paralysis: uncertainty has placed many spending decisions – by businesses (on higher output) and by consumers (on the items that businesses produce) – on hold. Reducing uncertainty might augment, or even be superior to, fiscal stimulus programs, for it would address the root cause of the unwillingness to spend.

Read full commentary