Nobel laureate Joseph Stiglitz comments on the world economy and why there were ‘foolish’ mistakes in the stimulus spending
Que: There are a number of problems in America’s financial markets. How do you see the American economy as of right now?
Stiglitz: This applies broadly to the world economy but particularly to the American economy. Effectively, we had three crises going on at the same time – besides the energy crisis and climate change crisis. We had an economic crisis you might say, where what had sustained the American economy was this unsustainable consumption, the bubble broke; and now we have this insufficiency of aggregate demand. That’s the long run problem. That will be there even if we had perfectly functioning banks. The fact is that what sustained the American economy was a zero savings rate. And we’re going to have a five percent or ten percent savings rate. That means that there’s a lack of demand. In the short run we’ve made up for it by Federal Government spending.
But over the long run, it has its difficulty – because of the growing deficit, we change borrowings from the household sector to borrowings at the Federal Government. But even at the governmental level – and this is an important point – some people have been saying the stimulus didn’t work. We should remember that for 2009, we had almost no stimulus. Because of the $800 billion, we had only $200 billion spent in 2009. Most of that was a tax cut – a third of the overall stimulus was a tax cut. This was very foolish as part of the stimulus spending because with the overhang of debt and anxiety about the labour market, we knew that people were not going to spend their tax cuts – and they didn’t; they spent very little of that. So you didn’t get stimulus – if you don’t spend, you don’t get stimulus. So that was a waste of money. It increased the deficit, but it didn’t lead to more spending.
But at the same time, the states in the United States have balanced budget frameworks, which means that when tax revenues go down, they have to either raise taxes or cut back expenditures. This is huge. The states’ shortfalls in revenues are over $200 billion. So over the two year period, we’re talking over $400 billion. In other words, at the state level we have a minus $400, at the Federal level we have a plus $800. The net is only $400 billion over two years – that’s very small! And of that $800 billion, a third of that was tax cut, which doesn’t work. So the net stimulus in the United States is very small. So no wonder things aren’t working. It’s not that the stimulus didn’t work. The fact is that there wasn’t much stimulus.
The same thing happened in the Great Depression. One other thing that happened in the Great Depression was that when people started worrying about the deficit, they started cutting back. And right now we know that the stimulus is expected to end in 2011. That means that when we pull the stimulus back, that’s a negative to the economy. So that’s going to be a big dampener. That’s on the real side [I’m talking about exports]. East Asia could export its way out. A country like Argentina could export its way out. But US and Europe can’t export their way out. Asia is too small relative to the global economy, in consumption it’s too small. The whole world can’t export its way out of the crisis. If exports and consumption are weak, it’s very hard to have investments that is strong.
All those are what you may call the real sector. What is giving the green shoots is the following – in the months after 9/15 [the fall of Lehman Brothers], credit became very scarce, the economy went into a free fall and there was a huge inventory accumulation; and they overshot. That’s why trade declined so much more than GDP. That’s why countries in Asia that were exporters declined so much more. We’re now in a situation that that inventory correction was over-corrected and we’re now correcting the correction. So we’re reaccumulating inventory. That’s the kind of inventory cycle – worse than normal – but such inventory cycles are usually relatively short and we’re getting out of that. So when people say things are better, what they mean is that the inventory cycle is over.
Then the final question is the financial sector. Now the financial sector is clearly better than it was at the precipice after Lehman Brothers. But pointing out, there are a lot of uncertainties. There are a couple million mortgages in the process of being foreclosed, houses being foreclosed. Commercial real estate is in very bad shape. We don’t know how bad because banks have a tendency to roll over. And in the United States, we have very bad accounting. This should be of course a little bit of an irony for those of you from East Asia, where in the East Asian crisis we talked about transparency.
Que: There are a number of problems in America’s financial markets. How do you see the American economy as of right now?
Stiglitz: This applies broadly to the world economy but particularly to the American economy. Effectively, we had three crises going on at the same time – besides the energy crisis and climate change crisis. We had an economic crisis you might say, where what had sustained the American economy was this unsustainable consumption, the bubble broke; and now we have this insufficiency of aggregate demand. That’s the long run problem. That will be there even if we had perfectly functioning banks. The fact is that what sustained the American economy was a zero savings rate. And we’re going to have a five percent or ten percent savings rate. That means that there’s a lack of demand. In the short run we’ve made up for it by Federal Government spending.
But over the long run, it has its difficulty – because of the growing deficit, we change borrowings from the household sector to borrowings at the Federal Government. But even at the governmental level – and this is an important point – some people have been saying the stimulus didn’t work. We should remember that for 2009, we had almost no stimulus. Because of the $800 billion, we had only $200 billion spent in 2009. Most of that was a tax cut – a third of the overall stimulus was a tax cut. This was very foolish as part of the stimulus spending because with the overhang of debt and anxiety about the labour market, we knew that people were not going to spend their tax cuts – and they didn’t; they spent very little of that. So you didn’t get stimulus – if you don’t spend, you don’t get stimulus. So that was a waste of money. It increased the deficit, but it didn’t lead to more spending.
But at the same time, the states in the United States have balanced budget frameworks, which means that when tax revenues go down, they have to either raise taxes or cut back expenditures. This is huge. The states’ shortfalls in revenues are over $200 billion. So over the two year period, we’re talking over $400 billion. In other words, at the state level we have a minus $400, at the Federal level we have a plus $800. The net is only $400 billion over two years – that’s very small! And of that $800 billion, a third of that was tax cut, which doesn’t work. So the net stimulus in the United States is very small. So no wonder things aren’t working. It’s not that the stimulus didn’t work. The fact is that there wasn’t much stimulus.
The same thing happened in the Great Depression. One other thing that happened in the Great Depression was that when people started worrying about the deficit, they started cutting back. And right now we know that the stimulus is expected to end in 2011. That means that when we pull the stimulus back, that’s a negative to the economy. So that’s going to be a big dampener. That’s on the real side [I’m talking about exports]. East Asia could export its way out. A country like Argentina could export its way out. But US and Europe can’t export their way out. Asia is too small relative to the global economy, in consumption it’s too small. The whole world can’t export its way out of the crisis. If exports and consumption are weak, it’s very hard to have investments that is strong.
All those are what you may call the real sector. What is giving the green shoots is the following – in the months after 9/15 [the fall of Lehman Brothers], credit became very scarce, the economy went into a free fall and there was a huge inventory accumulation; and they overshot. That’s why trade declined so much more than GDP. That’s why countries in Asia that were exporters declined so much more. We’re now in a situation that that inventory correction was over-corrected and we’re now correcting the correction. So we’re reaccumulating inventory. That’s the kind of inventory cycle – worse than normal – but such inventory cycles are usually relatively short and we’re getting out of that. So when people say things are better, what they mean is that the inventory cycle is over.
Then the final question is the financial sector. Now the financial sector is clearly better than it was at the precipice after Lehman Brothers. But pointing out, there are a lot of uncertainties. There are a couple million mortgages in the process of being foreclosed, houses being foreclosed. Commercial real estate is in very bad shape. We don’t know how bad because banks have a tendency to roll over. And in the United States, we have very bad accounting. This should be of course a little bit of an irony for those of you from East Asia, where in the East Asian crisis we talked about transparency.
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