What If We Hadn’t Done the Bailouts
Populists on the left and opportunists on the right have taken to condemning the series of “bailouts” the government has undertaken since the fall of Lehman Brothers. And certainly I think these situations have been mishandled in a number of respects. And beyond that, I think these situations are inherently problematic in a variety of ways. But there’s a strong case to be made that the policy response to the recession has made things better than they might otherwise have been. When I say something like that, people tend to pester me in response for specifics: What, exactly, would have happened if we’d just let AIG and Citi and Bank of America and others collapse? The problem is that it’s impossible to say, in detail, what would have happened.
Kevin Drum, however, makes the excellent point that we can illustrate this in part with reference to Justin Fox’s chart of today’s job losses versus the Great Depression:
Consider, after all, that our response to the Depression appears to have been 180 degrees wrong. We literally did almost everything possible to make it worse: we tightened the money supply, balanced the budget, raised interest rates, passed protectionist legislation, and allowed banks to fail by the hundreds. It escalated a panic into a Depression. And this time around? Just the opposite: interest rates are close to zero, we’re running an enormous budget deficit, protectionism has largely been kept at bay, money is being pumped into the economy prodigiously, and with the notable exception of Lehman Brothers banks are being saved right and left. These actions have reduced a panic to a severe recession. If we had taken the same policy actions that Hoover and Mellon took in the 30s, does anyone doubt that the results would have been another Great Depression? I don’t. We may still be doing a lot of dumb things, but we’re an awful lot smarter than we were 80 years ago.
Kevin’s right. The right-wing advocates of no bailout and “spending freeze” are, in essence, calling for a return to the Hoover-Mellon policies that had disastrous results in the past. The nature of those results is spelled out in the chart. What people are living through today is no walk in the park, but it’s vastly better than the alternative. Meanwhile, the left-populist alternative of no bailouts and massive stimulus wouldn’t have been quite as bad because some proportion of the masses of the unemployed could have been employed in public sector jobs. To get stimulus on that scale, however, would have required an extremely high percentage of pure makework and essentially wasted funds.
What we’re seeing today is policy that’s basically on the right track, with errors on the margin. What we saw in the past was policy that was pointed in the complete wrong direction, married to good ideas like public relief on the margin. Unfortunately, as you can see on the chart there’s a ton of room between “not as bad as the Great Depression” and “worse than all the other post-war recessions.” And if we stay stuck in that territory for a long time, as I fear we might, there’s a real chance that voters will conclude in 2010 and 2012 that “bailouts and stimulus don’t work” and we’ll respond to continuing economic weakness with Hooverite policies that push us off the cliff.
50 Responses to “What If We Hadn’t Done the Bailouts”
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March 18th, 2009 at 10:17 am
These actions have reduced a panic to a severe recession.
And the counter-factual evidence for this is….where? One could say that, or one could say that the comparison to the Great Depression is ridiculous and overblown to begin with.
March 18th, 2009 at 10:29 am
And the counter-factual evidence for this is….where?
Um…in the panics that reliably put our country into a depression every 20-30 years between 1800 and 1930? You know, the ones that began just like this one, with over-leveraged financial institutions failing, wiping out both their depositors and their creditors, which in turn wiped out everyone who depended on those depositors and creditors for business, and ended with a depression?
Where’s the counter-factual example of a cascading series of financial sector failures leading to a depression when that progression of cascading bankruptcy wasn’t interrupted? Really, is that your question?
March 18th, 2009 at 10:31 am
unless you want to try and argue that “receivership” was cheaper than “no bailouts,” the left populist alternative, as you define it, would have been a disaster: the financial system froze up last fall in the immediate aftermath of the lehman bankruptcy, and a frozen financial system wouldn’t have benefited from any degree of spending, since it couldn’t have existed.
as for john henry: sheesh. we’ve had wealth destruction taking place on an unprecedented level in terms of absolute amounts. we have demand falling off a cliff, globally. we had a financial system on the brink of a complete freezeup. we have deleveraging reducing access to credit, and we’ve had such an enormous movement to a liquidity preference that we’ve gone from a negative savings rate late last year to a 5% savings rate in january. U6 is essentially already at ‘81-’82 levels, and that was the worst postwar recession from a job-loss standpoint.
so what’s ridiculous is to treat this as just another stroll in the park.
March 18th, 2009 at 10:39 am
What people are living through today is no walk in the park
Well, it is kind of a walk in the park, because local budget cutbacks have made the park dangerous and sad.
March 18th, 2009 at 10:39 am
Wow, Al, the highest inflation in seven whole months!
Why, that’s a time frame that begins half a year into an extremely deep depression, continues through a financial crisis that wiped out tens of trillions of dollars in wealth, and extends a little longer than half a year.
Boy, you sure showed Matt; inflation last month was the highest it’s been during that period!
March 18th, 2009 at 10:41 am
Er, extremely deep recession.
As depressions go, it’s a shallow one.
March 18th, 2009 at 10:43 am
This analysis is far too simplistic. Totally agree about these so-called “conservatives” that counsel “let the market figure it out.” Pretty tough to do when THERE IS NO MARKET.
But getting back to my original point, there are so many differences between the pre-1930s situation and the one that we found ourselves in circa 2007-2008. For starters, we don’t have a company like AIG that has insured a better part of the risk in the market. AIG’s collapse would be like a nuclear bomb going off…there was nothing like that in ‘29.
Second, you didn’t have these multinationals that have all of this exposure to these toxic assets. This is like cancer followed by shock…as opposed to just shock.
DIfficult to say whether or not it would have been worse than the great depression, but thankfully we didn’t find that out.
Also, one more point to all of you that are outraged (and believe me, I don’t like the idea of paying bonuses to these fools). Where’s your outrage with all of the government waste that’s been occurring for the better part of 100 years. Oh, right, you want to give the government more money…because more money will solve all of this.
Before you start getting worked up over 165 million dollars, perhaps you should insist that the 4 trillion dollars were about to spend be accounted for properly…Or does 4 trillion dollars not carry the same weight as 165 million?
March 18th, 2009 at 10:44 am
Al continues his run of irresponsible piffle: i don’t mean to fetishize core inflation, but given that headline inflation was driven by gas prices, which are driven by factors specific to their market, it’s silly to overreact to a .4% headline inflation rather than note the .2% core.
March 18th, 2009 at 10:52 am
This is a great post. But you really ought to link to Kevin’s
March 18th, 2009 at 10:55 am
U6 is essentially already at ‘81-’82 levels, and that was the worst postwar recession from a job-loss standpoint.
Besides the other things you mention, the number that stands out for me is that interest rates are at 0 effectively. In ‘81 and ‘82 they were jacked by Volker to counter inflation. Goldman Sachs says we need to get to -8 via other means to avoid deflation. You get in a deflationary trap, you get Japan in the 90s, except there are no other economies to pull us out of it.
These “know-nothings” have no idea what they’re talking about.
March 18th, 2009 at 10:58 am
Matt is just so wrong about this. The idea that the bank bailouts somehow were important to supporting the economy gets increasingly silly the more you look at it. Matt is being taken in by the same conventional wisdom that said “everyone knows” we have to invade Iraq.
First, there are thousands of banks in this country and only a few of the biggest are being bailed out. Small banks in trouble get resolved no problem. The rest of the banks go right on lending. If the big banks went through a debt-to-equity cram down they could get back to lending, too. Some bond holders would be hurt by that but why should they be made whole at tax payer expense?
Second, The capital markets never “froze” except for lending to financial institutions. Loan volume didn’t drop more than it has in previous recessions and interests rates on commercial paper for non-financial firms were not outside historical norms. This idea that Lehman was a disaster just doesn’t stand up to scrutiny. What mayhem there was was confined to money markets and would not have been so bad if Bernanke & Paulson hadn’t reversed course so dramatically from Bear to Lehman. Once the market knows what to expect risks can get priced in. This is another reason to believe that “another Lehman” is not to be feared.
Third, the opportunity cost! Are you really prepared to tell me that we couldn’t come up with a better way to spend $1 trillion than on bank bail-outs? Let your imagination run wild. I’m sure you can come up with _lots_ of things that would better advance progressive goals and provide as much or more stimulus.
Fourth, and most important, this is not a bank-lead recession. We are in a recession because the housing bubble burst. Everyone previously employed building or financing housing is now unemployed. People who were supporting their consumption with mortgage equity withdrawals can no longer do so. Quantitatively, these factors are sufficient to produce the recession we are currently experiencing. Wall Street turmoil has produced an additional “wealth effect” in people’s declining 401k’s causing them to cut consumption further, but that’s much less a loss than most people have experienced in housing.
Go read Dean Baker.
March 18th, 2009 at 10:59 am
Pardon me, but that’s not really the question among most of your readers now, and never has been the question. And, going forward, it is absolutely irrelevant.
March 18th, 2009 at 11:03 am
What DCreader says at 14 (10:58).
March 18th, 2009 at 11:07 am
Ed Smithe:
Before you start getting worked up over 165 million dollars, perhaps you should insist that the 4 trillion dollars were about to spend be accounted for properly…Or does 4 trillion dollars not carry the same weight as 165 million?
Yes we should do both. I just keep going back to McCain last summer saying the “fundamentals of the economy are sound.” Has there been a more incorrect statement in the last couple decades? Republicans should go sit in the corner and have some quiet time.
McCain reminded me of Baghdad Bob. From Wikipedia:
“On April 7, 2003, al-Sahhaf claimed that there were no American troops in Baghdad, and that the Americans were committing suicide by the hundreds at the city’s gates. At that time, American tanks were patrolling the streets only a few hundred meters from the location where the press conference was held. His last public appearance as Information Minister was on April 8, 2003, when he said that the Americans “are going to surrender or be burned in their tanks. They will surrender, it is they who will surrender”.”
March 18th, 2009 at 11:28 am
I love seeing comments comparing the recession to the Iraq War.
Because it reminds people that the disaster of the Iraq War was something the Republicans CHOSE to inflict on us.
March 18th, 2009 at 11:50 am
Isn’t it odd how record-setting deficits during an economic expansion did not lead to Republicans warning about inflation, while record-setting deficits during a prolonged recession do?
March 18th, 2009 at 11:56 am
No Matt, it is not that detail is impossible, you can’t even make an argument on general terms that the bailouts have dampened the fallout from the credit markets’ collapse.
This is not only because there are as many differences as similarities with the Great, but more importantly the bailouts and Stimulator were designed to be metric free.
You are simply parroting the line we predicted you would be reduced to:
“But it would have been sooo much worse!”
Sadly I can’t detect in you even a scintilla of irony at the realization that you are simply doing a poor imitation of Bushit.
And by the way, here’s why all was designed to be metric free: where a marker was put out it has quickly been overturned.
Case in point:
ObaMessiah claimed to great fanfare that his big Stimulator would mean that Caterpillar would hire back recently laid off workers.
Sadly quite the contrary has occurred and there are yet more layoffs announced today.
March 18th, 2009 at 11:57 am
You don’t even understand the difference between the bailout and the stimulus, do you?
March 18th, 2009 at 11:59 am
An intelligent and timely post. Obama and co are doing a great job overall given the magnitude of the task at hand. They need to stay focused and block out the noise (everyone is an economic expert nowadays!) And staff the Department of Treasury to capacity. Oh, and also avoid future embarrassments like the AIG bonus fracas (which is a storm in a teacup anyway).
March 18th, 2009 at 12:34 pm
Republicans WANT another Great Depression. They’ve been trying to cause one for 30 years. They are rich enough to not only ride out the depression, but to exploit it. Unemployment and bankruptcy could never happen to them because they are smarter than everyone else. Unemployment busts unions, depresses wages and keeps the hired help nervous and compliant. Bankruptcy kills off competitors and increases the supply of fire sale investment opportunities.
There will be a lucky few who time this market perfectly, buy a ton of assets cheap and become an order of magnitude richer than they were before. Republicans imagine themselves members of that class, although they deny that it was luck. Right now, the only thing on their mind is cutting the capital gains tax, so they don’t have to help pay for any of it.
March 18th, 2009 at 12:58 pm
The various credit spreads were heading through the roof last fall, and now they are down off peak and more or less stable.
Yes, credit _spreads_ were high but the actual _rates_ on A2/P2 (non-investment grade) commercial paper never even reached the highs it was at from mid-1999 through 2001. Rates peaked at a little over 6 percent from October through December and then as soon as the Fed CP funding facility started they dropped to ~1.5% and have stayed there. No bank recovery necessary!
March 18th, 2009 at 12:59 pm
You’re missing his point, Al, because you’re ignoring the phrase “leading indicator of.”
DTM isn’t saying that the collapse of oil prices weren’t an important cause of the deflation in 2008; he’s agreeing with you there.
Where you disagree is that you are claiming that those collapsing oil prices were a self-contained event that don’t indicate anything about the future.
DTM is saying that the collapse of oil prices is an indicator that the prices of other good will fall in the future.
I lean towards DTM’s interpretation. The collapse of oil prices wasn’t some fluke event, unmoored from the rest of the economy, that happened on their own. Oil prices fell and stayed low because demand for fuel declined dramatically, because economic activity as a whole decline dramatically. In other words, the same underlying set of conditions that caused oil prices to fall will cause prices of other goods to fall as well.
March 18th, 2009 at 1:37 pm
What if we hadn’t done the bailouts?
One certain outcome: lots of D.C. pols would see their campaign donations dry up.
March 18th, 2009 at 2:53 pm
Seriously, why are folks even arguing with this guy Al? As he said, Paul Krugman, this year’s winner of the Nobel-like prize in Economics, is just a know-nothing (post 16). The rest of us have no chance, I’m sure.
Al, could you link us to your collected works in Economics? I would be fascinated to peruse them…
March 18th, 2009 at 3:42 pm
# DTM Says:
March 18th, 2009 at 2:00 pm
DCreader,
Nominal rates have no particular meaning.
Neither does the spread. In any case, as soon as the Fed started their commercial paper program the spread collapsed. So using the spread to justify unlimited bank bail-outs is bogus. We could use the money more effectively to support the Fed program. It might cost orders of magnitude less as well.
March 18th, 2009 at 5:07 pm
DTM, your comment #40 shows the fallacy of attempting to engage with Al. i used to defend his good-faith bonafides (and not just regarding sports), but my theory is that Al beame so enamored of playing stupid that he is now indistinguishable from the truly stupid.
as for the truly stupid al: when demand falls off a cliff, worrying about deflation is the rational thing to do. as an irrational human being, i’m sure it wouldn’t cross your mind, but we’re talking about adults now.
March 18th, 2009 at 8:17 pm
Al,
So, you’re saying that the collapse in oil prices last fall indicate, what, deflation sometime in the future? That doesn’t accord with the relatively high inflation this month.
Future, nothing. There was deflation LAST YEAR. BTW, that “relatively high” inflation is an annualized rate of 0.4%. You don’t seem to have made much of an effort to familiarize yourself with the evidence you claim to put so much stock in, because the evidence is that the last half year has been characterized by very low inflation or even deflation, and that low inflation is ongoing.
March 19th, 2009 at 2:29 am
So why not 2 trillion?
Let’s say the world’s GDP is 60 trillion, produced by a global capital stock of 600 trillion.
What would have been wrong with an even 600 trillion dollar bank bailout? If that had happened, and we were not in a Great Depression by March 2009, the argument that it was necessary would have been just as valid.
Anything they had said in October would have been the only thing that could possibly have saved us from a Great Depression. It was such an emergency that it could not have possibly waited until after election day, much less after inauguration day, when it could have been discussed in a calm and rational manner, with a single coherent explanation of exactly the money was supposed to be doing, and congresspeople and even regular people actually being able to read the legislation was it was being crafted.
Yet somehow, but inauguration day, only a fraction of the trillion dollars had been disbursed.
Why not the minimum necessary to avoid the “calamitous Great Depression that we just barely avoided with the gun-to-head legislation” with the rest to be allocated under an orderly process?
It’s done now, but the US political class was a combination of bought off and played for suckers.
D-Squared: Good policy does not need a phalanx of lies.