The Great Crash of 2008: Causes and Consequences
2010; Cato Institute; Volume: 30; Issue: 2 Linguagem: Inglês
ISSN
1943-3468
Autores Tópico(s)Economic, financial, and policy analysis
ResumoIn early 1980s, I was working as research administrator at World Bank, while Third World was engulfed by a debt crisis. The current financial crisis has eerie similarities, but different outcomes. Why? First, both crises arose because there was a surplus of savings in a number of countries--the oil producers in 1970s, Asian economies and commodity exporters today--which was recycled through international banking system. Second, highly liquid banks imprudently funneled cheap credit to uncreditworthy borrowers: fiscally challenged and inflation-prone countries of Latin America and Africa ha 1970s, ninja (those with no income, no jobs, no assets) subprime mortgagees of current crisis. Third, there was a rise in commodity prices and a worsening of terms of trade of OECD, posing stagflation dilemma for their central banks, having aided and abetted earlier asset boom. Fourth, imprudent banks sought bailouts from taxpayers, claiming their demise would fatally damage world's financial system. But, outcomes have been different. The 1980s crisis was finally solved after a prolonged cat-and-mouse game when banks accepted substantial write-downs of their Third World debt, sacked their imprudent mangers, and shareholders suffered large losses. But no systemic threat to world's financial system (or economy) emerged. By contrast, today Western financial system seems to be dissolving before our eyes, and with U.S. Federal Reserve's ever expanding balance sheet, bailouts are no longer exception but norm. Many now foretell a deep and perhaps prolonged recession, with deflation, rising unemployment, and Keynes' famed liquidity trap about to engulf world's major economies. Changing Financial Structures What explains this difference in outcomes? It cannot be purported global imbalances, which were origins of both crises. It is differences in financial structures within which these temporally separated but largely similar crises occurred. In 1970s recycling of surpluses was undertaken by offshore branches of Western money center banks, which were neither supervised nor had access to lender of last resort facilities of their parent country's central bank. Hence, when their Third World Euro dollar loans went into default, there was no direct threat to Western banking system. The present crisis emerged in a radically different financial structure: rise of universal banks from United Kingdom's Big Bang financial liberalization in 1980s, and Clinton era abolition of Glass-Steagall Act, which had kept a firewall between commercial and investment banking parts of financial system since 1930s. The former had implicit deposit insurance and access to central banks' lender of last resort facilities. The latter did not. It is worth explaining why this matters. This distinction between what were previously nonbank financial intermediaries and banks is important because it is only clearing banks that can add to (or reduce) stock of money. A clearing bank holds deposits in cash (legal tender base money) from nonbanks, repaying deposits in notes and making payments for depositors by settlements in cash through an account in central bank. When a clearing bank extends a loan it adds to its assets and simultaneously creates deposit liabilities against itself, increasing broad money supply at the stroke of a pen. This ability to create money out of thin air is limited by bank's capital and cash. As cash can be borrowed from central bank, ultimate constraint on its ability to create money is its capital. But it is only because banks take in cash deposits--Keynes's widow's cruse--that they can create money. By contrast, a nonbank financial intermediary, say a mortgage lender, when it takes deposits or makes a mortgage loan has to clear these through deposits held at clearing banks. …
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