Romer compares Great Depression and Current Crisis

Christy Romer speeches are the ones to look forward to. Her speeches and testimonies are excellent and does full justice to her new role. She combines great insights from her research to look at the events now and all this makes it a fascinating reading. Earlier, she had looked at whether fiscal stimulus is working.

In her new speech, she compares the economic indicators in current crisis with the initial times in Great Depression. She finds that on quite a few financial indicators, the current crisis was more severe than Great Depression (fall in equity markets, decline in household wealth, asset price volatility, Moody Spread) etc) . The economic indicators of Great Depression are still much worse.

This discussion suggests that the shocks affecting the U.S. financial system in the fall of 2008, whether measured by their impact on wealth, volatility, or risk spreads, were at  least as great, and probably greater, than those at the start of the Great Depression. Consistent with this, the U.S. economy went into freefall shortly following Lehman’s collapse. From where we sit now, it is hard to believe that last fall there was still debate about whether Wall Street and Main Street were connected. The experience of the past year is dramatic proof that credit market disturbances affect production and employment.

However, what has differed this time is the aggressive policy response (which is all well known by now) which has brough us back to the brink (the title of her speech). She then points to three things which have also led to stabilization- rise of auto stabilizers, anchoring of inflation expectations, deposit insurance. She then looks at recovery and “cringes” on the mention of exit strategies, as it is too early.

Her view of depression leading to many fin sector reforms is also pretty interesting:

In response to the pain of the Great Depression, President Roosevelt and the Congress put in place a regulatory and policy structure that helped prevent severe financial crises for the next 75 years. The Banking Act of 1933 created the FDIC. The Securities Exchange Act of 1934 created the Securities and Exchange Commission, which put in place requirements for disclosure and fair dealing in stock markets. The Banking Act of 1935 created the Federal Open Market Committee, replacing a system in which it was not clear where ultimate responsibility for barriers to policy actions. The Investment Company Act of 1940 brought regulation and disclosure to mutual funds, and the Investment Adviser Act of 1940 did the same for financial advisers. And finally, the Employment Act of 1946 explicitly charged the government with  responsibility for macroeconomic stabilization—and, I can’t help but mention, created the Council of Economic Advisers. These major legislative accomplishments created a structure to provide sensible protections for investors, rules of the road for financial institutions, and a framework for monetary and fiscal policy.

What the current crisis has shown us is that this 1930s structure has not kept up with the evolution of financial markets. We now see that there are crucial gaps and weaknesses in our regulatory structure.

So just like FDR, Obama has suggested a few reforms- consumer agency, Fed as systemic regulator, Regulatory Council and resolution authority.

Great insights from the eco historian. Excellent read. It has some useful references as well.

 

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7 Responses to “Romer compares Great Depression and Current Crisis”

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