The Blind Leading the Blind

Here is an excellent essay by Robert Shiller published by Project Synicate:

Few economists predicted the current economic crisis, and there is little agreement among them about its ultimate causes. So, not surprisingly, economists are not in a good position to forecast how quickly it will end, either.

Of course, we all know the proximate causes of an economic crisis: people are not spending, because their incomes have fallen, their jobs are insecure, or both. But we can take it a step further back: people’s income is lower and their jobs are insecure because they were not spending a short time ago – and so on, backwards in time, in a repeating feedback loop.

It is a vicious circle, but where and why did it start? Why did it worsen? What will reverse it? It is to these questions that economists have been unable to offer clear answers.

The state of economic knowledge was just as bad in the Great Depression that followed the 1929 stock market crash. Economists did not predict that event, either. In the 1920’s, some warned about an overpriced stock market, but they did not predict a decade-long depression affecting the entire economy.

Late in the Great Depression, in August 1938, an article by Ralph M. Blagden in The Christian Science Monitor reported an informal set of interviews with US “professors, banking experts, union leaders, and representatives of business associations and political factions,” all of whom were given the same question: “What causes recessions?” The multiplicity of answers seemed bewildering, and did not inspire confidence that anyone knew what was causing the deepest crisis of capitalism.

The causes given were “distributed widely among government, labor, industry, international politics and policies.” They included misguided government interference with markets, high income and capital gains taxes, mistaken monetary policy, pressures towards high wages, monopoly, overstocked inventories, uncertainty caused by the reorganization plan for the Supreme Court, rearmament in Europe and fear of war, government encouragement of labor disputes, a savings glut because of population shrinkage, the passing of the frontier, and easy credit before the depression.

Although economic theory today is much improved, if we ask people about the cause of the current crisis, we will mostly get the same answers.

...

The most important new book about the origins of the economic crisis, Carmen Reinhart’s and Kenneth Rogoff’s This Time Is Different, is essentially a summary of lessons learned from virtually every financial crisis in every country in recorded history. But the book is almost entirely non-theoretical. It merely documents recurrent patterns. Unfortunately, in 800 years of financial history, there is only one example of a really massive worldwide contraction, namely the Great Depression of the 1930’s. So it is hard to know exactly what to expect in the current contraction based on the Reinhart-Rogoff analysis.

The world has dodged a bullet. It looks like recovery has taken root around the world (at least stock markets are signaling an "all clear"). But the tragedy is that very little action has been taken to prevent a re-occurrence. The ideological fanaticism of Republicans in the US created the fertile ground for the housing bubble and speculative banking practices by their "deregulation fervor" from 1980 until 2008. Now they are blocking any attempt to fix the problems they created. I simply can't believe the audacity of the fanatical right wingers who created the problem to now block any attempt to fix the problem!