Conference on Rethinking Macro Policy II: First Steps and Early Lessons
In analyzing the most recent financial crisis, we can benefit somewhat from the misfortune of recent decades. The approximately 100 crises that have occurred during the last 30 years—as liberalization policies became dominant—have given us a wealth of experience and mountains of data. If we look over a 150 year period, we have an even richer data set.
With a century and half of clear, detailed information on crisis after crisis, the burning question is not How did this happen? but How did we ignore that long history, and think that we had solved the problems with the business cycle? Believing that we had made big economic fluctuations a thing of the past took a remarkable amount of hubris.
Markets are not stable, efficient, or self-correcting
The big lesson that this crisis forcibly brought home—one we should have long known—is that economies are not necessarily efficient, stable or self-correcting.
There are two parts to this belated revelation. One is that standard models had focused on exogenous shocks, and yet it’s very clear that a very large fraction of the perturbations to our economy are endogenous. There are not only short‑run endogenous shocks; there are long‑run structural transformations and persistent shocks. The models that focused on exogenous shocks simply misled us—the majority of the really big shocks come from within the economy.
Secondly, economies are not self-correcting. It’s clear that we have yet to fully take on aboard this crucial lesson that we should have learned from this crisis: even in its aftermath, the tepid attempts to fix the economies of the United States and Europe have been a failure. They certainly have not gone far enough. The result is that we continue to face significant risks of another crisis in the future.
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