#2,557 in Business & money books
Reddit mentions of The Return of Depression Economics and the Crisis of 2008
Sentiment score: 1
Reddit mentions: 2
We found 2 Reddit mentions of The Return of Depression Economics and the Crisis of 2008. Here are the top ones.
or
Specs:
| Height | 9.6 Inches |
| Length | 6.5 Inches |
| Number of items | 1 |
| Width | 0.8 Inches |
First, the 90% figure you heard is from research done by Ken Rogoff and Carmen Reinhardt. They wrote a book called This Time is Different, which analyzes financial crises and government finances over several centuries. They also wrote a paper called Growth in a Time of Debt which analyzed correlations between economic growth and debt ratios. There is some debate on the 90% figure, including both the methodology and questions as to whether high levels of debt lead to decreased growth or decreased growth leads to high levels of debt, but the facts themselves are not disputed.
If the US were to run a surplus and pay off all of its debts, the first obvious conclusion is that there would be no long term US Treasury bills in existence. (Short term debt would probably continue to be used to smooth the collection of tax revenues against expenses). The first issue that would arise from this is holding reserves. According to the Basel Standards, which are international banking standards most developed countries adhere to, banks must hold certain safe assets in reserve on their balance sheet in proportion to the riskier assets, such as investments and loans, that they hold. Government securities are popular as reserve assets, as more stable governments, such as Germany, America and Canada, are deemed to be completely safe, yet unlike cash or equity, still earn a rate of return, however small. They are also immediately redeemable for cash, and tend to go up in value during financial crises, as investors seek to invest in safe assets, making them excellent assets to buffer against risk. Many pension funds and institutional investors also hold government securities, as this provides them with the same benefits. If government securities didn't exist, some other asset would need to be found that is deemed safe, or more institutions would need to hold assets in cash and forego the added interest income.
Another issue would be questions regarding the risk-free interest rate. As US government securities are deemed perfectly safe, investors will frequently make reference to a perfectly safe asset when deciding what the appropriate interest rate for riskier assets would be. Many financial formulas, such as the Capital Asset Pricing Model, make reference to the risk-free rate. However, if the US government continues to issue short term debt, this debt's interest rate could be used, or some other asset's interest rate could be used, to determine what a market risk-free rate should be.
Lastly, as the dollar is the world's reserve currency, and many international parties do business deals in dollars as they conclude that the value of the dollar will not significantly shift over short periods of time, a failure to issue Treasury bills may send investors seeking a new medium of exchange. The euro is seen as too questionable, the yen has far more significant issues than the dollar given Japan's deficits and anemic growth, and the Chinese government has far too many restrictions on the yuan for it to be a viable currency for international transactions.
Currently, the US government's ability to borrow in dollars and act as the world's reserve currency is a jealously guarded privilege, as other countries essentially pay us for the privilege of lending money to us. This Exorbitant Privilege and its effects on the global economy have been debated by economists for a long time. Some, such as the above linked book by Barry Eichengreen, see it as a massive benefit to the US, while others, such as Paul Krugman, see a world in which other countries, such as China, buy US debt to prop up the value of the dollar, thus diminishing the value of their own currency, and giving products manufactured in their country a significant price advantage. If the US stopped issuing debt, parties could no longer buy US debt on the open market, and drive up the value of the dollar. This would cause the value of dollar-denominated assets to fall, and could cause the relative value of US labor to fall, which could lead to a rise in manufacturing employment in the US, as American made goods become cheaper on the international market. This is a pretty hotly debated topic, so a lot of this is speculation. There is a lot of info out here, but a quick Google search yielded a couple articles from The Economist on this topic, and an article on Paul Krugman's stance on this. This is a whole separate issue in itself.
I think the main question though is why the US would want to stop issuing debt. Obviously it is unacceptable to run structural deficits the country is unable to close, and issuing debt should be a choice rather than a necessity. However, if rates of return are higher than rates of interest, a controlled debt issuing can be positive. For example Apple has $27,000,000,000 in debt. No one claims that they are on the verge of bankruptcy, mostly because they have $75,000,000,000 in assets. If you can borrow money at say 3%, and invest it in something, like developing iPads, that offers a rate of return of say 10%, your profit is 7% times the amount that you borrowed. This is known as leverage, and is covered by the Modigliani-Miller Theorem. It is interest rates and rates of return, not capital structure, that matter.
This is why analogies to how the US is like a household, and needs to manage its budget, are foolish. A household can rarely borrow at low interest rates, and rarely has significant investment opportunities, so taking on debt is usually a bad idea. But corporations and governments exist to undertake investment opportunities, and these frequently have high rates of return. The US government, in particular, not only has high demand for its debt, but issues debt in a medium, dollars, that it has sole control over producing. I'm not saying the US should always issue debt, just that it should issue debt carefully, and shouldn't always not issue debt. This is the problem with running a business or a government: it's a lot more complicated, and requires a lot more math, than people realize.
For further info on this, the books I cited above would be helpful. Paul Krugman's book Depression Economics is probably worth reading. Here is a corporate finance textbook that you can get for $5, as it's an older edition. Here is an economics textbook that you can get for $14. Lastly, The Economist is an excellent newspaper to follow these issues, as are The New York Times and the Wall Street Journal.
TL;DR: It's debatable. It would affect the value of the dollar, banking reserves, and many financial calculations. Debating it, however, requires more than understanding the economic impact, but also an understanding of corporate and governmental finance, and how this differs from household budgeting.
Did the New Deal end the Great Depression? No. Did it make things worse? Absolutely not. Did it help millions of Americans avoid poverty and starvation? Emphatically yes. The period from 1933 to 1937 remains the fastest period of peacetime growth in American history. GDP growth averaged approximately 10% per year. You can see the full range of data here. Also, the PWA and WPA created the infrastructure the United States to grow for decades to come. The former completed projects in all but three counties of the United States such as the Triboro Bridge, the Lincoln Tunnel, and the Bonneville and Grand Coulee dams; the latter built 78,000 bridges, 1,000 tunnels, 6,000 schools, 67,000 miles of city streets, and 572,000 miles of rural roads (among a ridiculous number of other projects).
Additionally Roosevelt's monetary policy was probably more successful than his fiscal stimulus. First, the bank holiday restored the confidence of American savers and investors more so than probably any other action. Banks were closed on March 9, 1933 and began to reopen only after thorough auditing. When the banks opened on March 12, depositors, despite the suspension of gold convertibility, began putting their money back in the banks. Within a week, $1 billion had been put back into the banking system that had fled during the runs on banks prior to Roosevelt's inauguration. On March 15, the New York Stock Exchange opened for the first time in 10 days and the Dow jumped 15%, which was the largest single day movement in its history. By the end of the month of March, 2/3 of all banks were reopened and $1.5 billion had returned to the banks.
The second major act of monetary policy was the suspension of the gold standard. That action was overwhelmingly supported by financial and consumer markets. It removed a major deflationary burden from the American economy. Keynesian bias or not. On the day the change was announced, the NYSE jumped 15%. Within three months, wholesale prices had risen 45%. This lowered the real cost of borrowing significantly and investment began to flow into the private sector—orders for heavy machinery rose 100%—and into consumer markets--auto sales doubled. Overall industrial production rose 50%. By early 1937, overall industrial production had returned to its 1929 peak. Unemployment, moreover, had been halved from 25% nationally in 1933 (with certain cities and demographic groups even worse off--75% of black women in Detroit were unemployed) to about 12%-14% in early 1937 (Unemployment statistics prior to 1940 are always best guesses as the Bureau of Labor Statistics didn't collect them until then).
In 1937, FDR faced a growing conservative coalition in Congress and had his own misgivings about spending and reduced relief funding which caused a minor recession. Unemployment jumped to around 17%. GDP fell slightly in 1938, but was above its 1937 levels in 1939. Had this small recession not happened, the US may have left the Depression before military spending for WWII began to pick up. As it is, the combination of war production and the draft is what wiped out unemployment by 1942. So the New Deal didn't end the Depression, but it most certainly did not make things worse and was responsible for helping millions of people. There's a reason why FDR was elected four times and the Democrats only lost control of Congress once between 1930 and 1952.
Here's some light reading for you.