In a typically fascinating piece by John Cassidy in the New Yorker (digital subscribers only I’m afraid, boo-hiss), he looks at the state of the ‘Chicago school of economics’, the bastion of the monetarist, neo-liberal thought that was so important in changing the tide of political economy in the 1970s and beyond. It’s clearly been a bad couple of years for the traditional elements of the school.
Converted on the road to Damascus include Richard Posner who is the main focus of the piece and has re-discovered, or more accurately discovered, The General Theory of Employment, Interest and Money by John Maynard Keynes. A lot of economists have. From a committed belief in neo-liberalism, Posner now sees the credit crunch as a ‘failure of capitalism.’
It was a another member of the ‘school’ (a term that Posner now suggests should be ‘retired’) who really caught my eye, however. Raghuram Rajan, economic adviser to Manmohan Singh, Prime Minister of India, and former chief economist of the IMF, is working on a book that the crisis was caused by……inequality.
To quote Cassidy:
“Rajan argues that the initial causes of the breakdown were stagnant wages and rising inequality. With the purchasing power of many middle-class households lagging behind the cost of living, there was an urgent demand for credit. The financial industry, with encouragement from the government, responded by supplying home-equity loans, subprime mortgages, and auto loans.”
OK, so I’m sure that Rajan doesn’t dismiss the role of irrational expectations, global imbalances, deregulation of finance, and good old-fashioned irrational exuberance. But his critique is powerful- in effect it is an argument that neo-liberalism made the market more ‘efficient’ but exposed it to calamitous breakdown. And it came in the form of the credit crunch and subsequent recession.
His argument goes further- there is a bias in the US economy towards over-stimulation. Without strong social safety nets, having a job becomes paramount. So not only is there a need for the individual to borrow more as wages become squeezed (as they did in the US) but there is a macro incentive to over-stimulate as well. In this reading, Alan Greenspan was a victim of the system- underpinned by poltical choices- as much as anyone else.
None of this more fundamental discussion has happened in reaction to the credit crunch. Maybe these discussions can give life to the second stage of Barack Obama’s presidency.
Rajan’s book Fault Lines seems like a must read when it comes out. The implication seems to be clear. Capitalism must be saved from itself. Social democracy seems like a logical reaction to ensure this in the post credit crunch world.
January 11th, 2010 at 16:24
Not an expert in economics, but Chicago School theories do seem to be coming in for some fire at the minute – ResPublica’s critique was fascinating too (the Ownership State), though I’m not sure it would draw the conclusion that this was a failure of capitalism, more that it was a failure of particular kind of de-humanised capitalism.
I suppose, as an observer, what I find most interesting is that there are nuggets here both right and left – the critique being offered develops new accounts of both the individual and the social. The consensus that appears to be forming, if I read it right, is that a) markets must serve society, not the other way round, and b) there must be wider access to markets for a greater amount of people, who must also have something to trade, as a means of spreading both wealth and prosperity.
It seems to me that this is something to be welcomed – the next few years might well prove critical.