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Crisis Economics: A Crash Course in the Future of Finance Paperback – 5 May 2011
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Succinct, lucid and compelling ... essential reading (Michiko Kakutani The New York Times)
His was one of the few voices in the economics profession to have correctly predicted the crisis ... broad, well-argued and easy to digest (Independent)
This is a wake-up call (Observer)
Nouriel Roubini was right (Paul Krugman Time)
The seer who saw it coming (The New York Times)
The man known as "Dr Doom" has been hailed as a prophet (Financial Times)
The only professional economist who really predicted the crisis, and perhaps the only independent thinker in that business (Nassim Nicholas Taleb)
About the Author
Nouriel Roubini has served as a senior adviser to the White House Council of Economic Advisers and the US Treasury Department and consultant to the World Bank and IMF. As early as 2005, Roubini speculated that house prices would soon sink the economy and in 2006, warned the IMF that the United States was likely to face a catastrophic housing bust resulting in deep recession. Back then he was nicknamed 'Dr Doom' by the New York Times. In hindsight, economists have called him a prophet.
Roubini is professor of economics at the Stern School of Business, New York University and co-founder and chairman of RGE Monitor, a web-based economic consultancy firm. He speaks English, Farsi, Italian and Hebrew.
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Roubini's sterling reputation was the reason I chose to read "Crisis Economics", a further collaboration between Mihn and Roubini. Of the half a dozen or so books about the crisis that I have read (Richard Posner's A Failure of Capitalism: The Crisis of '08 and the Descent into Depression and The Crisis of Capitalist Democracy, Robert Shiller's The Subprime Solution: How Today's Global Financial Crisis Happened, and What to Do about It, Vince Cable's The Storm: The World Economic Crisis & What It Means, etc), Roubini and Mihn offer the most wide ranging look, discussing the roots of the crisis, the government's response, and suggestions for reform. Roubini and Mihn write well, and their book is an excellent introduction for the crisis to the uninitiated. Unfortunately, "Crisis Economics" offers rather less to those of us who have spent some time on the subject. Those readers might, like me, find little new in the early chapters of the book (the ones discussing the origin of the crisis) and much to disagree with in the later chapters (the ones outlining the authors' suggested way out of it).
The first half of the book described combines a run of the mill description of the crisis's formation, mixed with standard history of economic thought (from Smith to Keynes), only partially enlivened by the rather unorthodox focus on economic crisis and failure rather than success.
The authors employ mostly conventional Keynesian perspective on the crisis, and so should be applauded for their discussion of the Austrian school views about it. But although they explain the Austrian position in full, they ultimately discard it with a superficial analysis that would not convince any Austrian. Later they argue that they are offering a synthesis of the Austrian and Keynesian perspectives, but no self respecting Austrian could possibly accept their call for massive government intervention, while Keynesians would find little to disagree with the notion that the problems of twisted incentives caused by the necessary intervention should be addressed, or at the very least taken into account.
For me, the book only became interesting in earnest about halfway through, when the authors discussed the response to the crisis. Particularly, they emphasize the role of Fed. I knew that the Federal Reserve played a huge part in the bailouts of such players as Goldman Sachs and AIG. But Mihn and Roubini's account highlighted a fact that I was insufficiently aware of - how America's central Bank acted not only as a lender of last resort, saving the financial system from collapse, but also as an almost ordinary lender, lending money to more and more non-bank institutions in order to stop the credit freeze. It seems to me that while the Fed's action as lender of last resort was probably necessary, the active intervention in the markets more questionable. Monetary tools are effective in restraining an overheated economy (as Paul Volker did in the early 1980s), and in unleashing willing investors, but they are generally no good for promoting economic activity when there's no will for it. Ben Bernanke took very extreme actions to try to encourage economic activity and especially lending, and it is far from obvious that the relatively meager results were worth the effort.
The classic Keynesian account places the onus of reigniting the economy on the government's fiscal rather than monetary powers: Crudely speaking, Keynes taught that governments should spend their way out of depressions. Oddly enough, beyond criticizing the stimulus for being a political bargain and thus far from ideal, the authors have little to say about the government's direct role in creating demand, focusing their discussion on the various ways it underwrote risks taken by other institutions.
The bottom line may be that both fiscal and monetary policy focused excessively on "reigniting" markets rather than on stimulating the economy via government spending on public works and other government projects. This arguably prevented the "work" of the crisis - culling out the weak firms from the good ones - from taking place, and increased the amount of irresponsible players who gained from the bailouts.
Moving forward, the authors make several proposal for reforms. Unfortunately, I think many of these proposals are extremely problematic. Take compensation - the authors point out that traders and managers in financial firms to excessive risks, because they had wrapped incentives - they would make a fortune if the gambles paid off, but would lose very little if they didn't. In the short run, the traders and the firms both did very well, but in the long run, the firms had to be bailed out, while the trader's bank accounts remained as healthy as ever. The authors therefore make a series of proposals, all meant to link the compensation of executives with the long term prospects of the firm they work in. The problem with these plans is that in the long run, the well being of the firm is likely to be determined by a host of factors, few of them in any person's control. Delaying compensation cuts the link between the employees' pays and their performance - which is, ironically, exactly what self dealing executives want (see Pay without Performance: The Unfulfilled Promise of Executive Compensation). Furthermore, in trying to align the interests of firms with those of the executives, the authors ignore the fact that part of the cost of a firms' downfall is carried by its creditors and suppliers (and as we see in this crisis, by the taxpayers). When the a cost of an activity are born by those other than the parties involved in the activity, the cost is what's known in economic terms as an externality. Negative externalities (costs), unborn by the firm, are not taken into account by it. Which means that from a social perspective, even rational, income maximizing firms are taking excessive risks.
Another problematic proposal is an overhaul of America's financial regulators. The authors point out that America has a host of bodies meant to regulate finance, all of them work in an uncoordinated and inefficient way. The argue that America should reform its regulators to make them more streamlined and centralized - somewhat like Britain's Financial Services Authority. But the FSA did not seem to spare Britain the crisis. Is it really a great model for a regulating agency?
The book's final chapter describes the global financial imbalances - namely the huge deficits incurred by the United States and other rich countries, contrasted with the enormous surpluses amassed by such emerging countries as South Korea and especially China. The authors disagree with the "Global Saving Glut" hypothesis (advocated by the likes of Paul Krugman and Martin Wolf - see Fixing Global Finance (Forum on Constructive Capitalism)). They argue, in effect, that America and Americans are responsible for their choice to borrow excessively (p. 250).
But whether to save or spend is a question of benefits versus costs. As long as Americans are offered amazingly cheap credit (and correspondingly, few avenues for profitable and safe long term investments), they are unlikely to stop taking advantage of it. It is natural to borrow when the costs of borrowing is low - it is unnatural to lend money for meager returns
"Crisis Economics" is therefore an eloquent introduction to the financial crisis, and a thoughtful program on how to get out of it. I disagree with many of the authors' recommendations, but they are worth considering very carefully. After all, Roubini has been proven right before.
The book begins by thwarting the popular notion of crises being unpredictable events called black swans in favor of the idea that all crises are, in fact, predictable events known as white swans. From here the book can be split into five different sections. The first section discusses the evolution of economic thought and how it has coincided with the assumed causation of major economic events throughout history. This gives the background foundation for the rest of the book. These historical pieces cleverly interwoven as recurring themes throughout the novel to give broader perspective on the phenomenon and serve to continuously prove the initial assertion of an economic crisis being a white swan.
Continuing on, the book delves into the events and practices preceding the recent recession, continuing on to dictate in highly readable detail the exact timeline of events in 2007 and 2008 that sent the country and world into a downward spiral. This section boasts a clever analogy of the recession as a "financial hurricane," being sure to include both historical and present day perspective. Roubini and Mihm then take a chapter to analyze to global reactions to crisis. The focus is mainly on that of the recession, providing multiple theories before presenting his own while continuing with the theme of the book and including relevant historical context.
Focus then shifts from identifying problems how the problems were created, to what measures were taken to prevent them. This section allows for an in depth look and the Great Depression, what went wrong and what went right, and how similar it was to the crisis of 2008. It is quite interesting to see how those in charge of steering the ship right in the 2000's had the presence of mind to step back and look to history for help. At times this section is a little too preachy. More factual information could be included and, more key characters could be introduced.
Having discussed the how the situation was handled, the opportunity is paved for Roubini and Mihm to step onto the proverbial soap box and give their insight into what needs to change to prevent the next crisis from happening. They split this section up into one chapter highlighting plausible changes, many of which have been brought up in laws but not passed yet, and another chapter outlining more radical changes that could have a strong impact on reforming the financial world but would certainly be very difficult to accomplish. I believe this is the section that sets this book apart from most. Instead of simply pointing out where the problems lie, the authors take it upon themselves to provide real solutions to prevent another crisis from happening again while smoothly transitioning into a proper economy.
The concluding section of the book provides a speculative perspective on the post recession United States economy and how it fits in with the global economy, specifically focusing on China. This section proves to be foreboding than forgiving, but this is with good reason. It is here where the authors finally seem to comment on the gravity of the crisis. This section could use a bit more depth into the possible global ramifications of the recession. It briefly mentions some high risk countries but does not delve into how they might continue to falter.
The book itself is written in a more casual style that makes the dense subject matter extremely approachable. At times the writing is almost conversational. Reading is quick and easy and even makes the dense, complicated finance jargon seem like a breeze to understand. This, however, does not compromise the integrity of the facts or opinions presented throughout the novel. Its organization is another positive aspect. While at times the historical inserts can throw the reader off kilter, it is generally organized to take you through a crisis from start to finish. Whenever it seems as though you are being lead off the trail you find yourself having taken a shortcut to the next stop.
This is a great book to give you a broad glance on everything that has to do with an economic crisis, focusing on our most recent recession. Roubini and Mihm delicately place historical and economic perspective from the first page to the last page as they navigate from the beginning of a crisis, to the middle, to the end, and to a better future. The authors do a great job in accurately providing the different viewpoints that meld together to form their opinions. At times, though, they seem a little too arrogant in their assertions without adequately evaluating rival theories. They display modern perspectives that will help their point rather that concede that someone else might be correct.
I would recommend this book to anyone looking to quickly learn everything about the recession and crisis economics in general. If you are looking for thorough foray into the workings of a crisis, spending hours on analysis with thorough statistical evidence, this is not the book for you. If you just want to read every detail about the recession, this again is not the book for you. However, if you want a true crash course in crisis economics this is it. The authors have stripped down information into a basic yet detailed form that leaves you with a sense of completeness about your newly gained knowledge