US economy needs a second stimulus
The last stimulus package didn’t take into account the fiscal problems the recession would create for state and local governments.
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I was working in the World Bank at the time of the Asian financial crisis in 1997. The various crises carried the names of countries – Indonesia, Korea, Thailand, etc. But these were not “country” crises. They were banking crises.Skip to next paragraph
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The American and European banks lending in East Asia lent to companies beyond their ability to pay. What happened? They were bailed out because, if they weren’t, it was said there would be turmoil.
So, the International Monetary Fund put a gun to their head to make sure the debts were paid. The taxpayers in those countries were forced to bail out the banks. The only difference with this crisis is that the American taxpayers, instead of poor people in Asian countries, are bailing out the banks!
It is a welcome development that there are now discussions in the Group of 20 and elsewhere about how to change the incentives to get the banks to behave better. Global cooperation in this endeavor would be best because of globalization – banks are good at regulatory and financial arbitrage, sending capital to where they are least regulated.
In Europe, the view is very much that the US is dragging its feet. They are much more adamant about regulation. The head of the Bank of England has said very forcefully, “If you are too big to fail, you are too big to be.” Incentives that lead to excessive risk-taking have to be curbed for those institutions that can put at risk an entire economy.
The reality is that the financial system has failed to do its job. Its job is to take savings and transform them into investments with the highest return. Putting savings into housing beyond people’s ability to save in the richest country in the world did not do that. Our financial system did not perform its social function.
One of the reasons China is recovering so well is that they have read all the good American textbooks on macroeconomic management that we’ve recently ignored.
The Keynesian idea, which they’ve adopted, is that if you have a weak economy, the government should spend. And they are doing it the right way by stimulating the economy in the short run through investments that provide the basis for long-term economic growth.
For example, [China’s] stimulus includes spending on a high-speed rail system. Just as the transcontinental railroad changed America’s economic geography when it was built, it will do the same for them. Now they have the fastest trains in the world. When completed, that will leave them in a position for faster growth.