I had the opportunity to listen last evening in my neighborhood, to former Treasury Secretary, Chief Economist at the World Bank and Harvard University President Larry Summers. It was stunning to learn that he was tenured at age 28!
The full speech traced the arc of the problems stemming in 2007 and 2008. The government response to the crisis and why. How long it will take for the problems to work out (another five years) and finally his four prescriptions for strengthening the US economy. The four prescriptions, if I can remember were: i) smart spending on infrastructure and education, ii) more exports, iii) energy exploration in the US. The fourth might have been reforming entitlements. But now am not sure if I am projecting my obsession on his prescriptions! :-)
From the whole speech, there was a real nice take away worth noting. It reminded me of not only my early macro economics reading, but also reminded me of a 'Jataka Tale' type of episode from Indian Mythology.
He said that in a declining economy if one person becomes nervous and spends less and saves more, it is a rational choice and indeed prudent action for that individual.
However if everybody acts that way, the economy will spiral down even faster because now overall spending and overall demand for goods and services goes down.
So individual behavior while appearing to be good is really bad when everyone behaves that way.
Now the Jataka Tale that the insight reminded me of:
A king asks his minister if his subjects are moral and honest. So the minister devised an experiment.
All milkmen in the capital were required to come to a designated spot at night in the dark and pour a cup of milk into a cauldron to be examined by the king and minister next morning.
To their surprise they found water in the cauldron and not milk that was required of the milkmen.
When the surprised king asked for an explanation the minister said, 'every milkman thought he alone was adding water to the cauldron rather than milk; so nobody would notice. But everybody thought the same!'
The madness of crowds!
11 comments:
Very nice tale !
Larry Summers is preaching exact opposite of what Adam Smith the father of economics proposed back in 1700s. Today, we have become slaves to fiscal stimuluses and QEs run by Keynesian economists that have run amok. We now told that we can never get off these drugs for the fear of economic collapse.
Let us wait and see how the story unfolding in the coming decade.
What will happen if every body spends his money is buying essentials and does not save what about the saving position, and what will happen to him on a rainy day. Infact banks will be very happy to lend him money and make him bankrupt because he will not be in a position to pay back the loan then the individual will be on roads begging.
I feel that people with excess money will always try to fool around with common man and every where in the world it is the same story. :(
As has often been said, markets… and the economy in general… depend on ‘animal spirits’ for growth.
Of course what’s being implied by the metaphor is that this ‘positive’ energy driving markets and the economy is not always strictly ‘rational.’ Rather, at the very least, we’re talking about generalized feelings of optimism if not necessarily compulsive greed.
If you drew of spectrum of a person’s or a market’s generalized feelings about the economic future, going from “We Are DOOMED!” at one end to “We Are About To Be RICH!” at the other, you might say that the optimal ‘feeling’ over the long-term – let’s call it, cautious optimism – is all too often merely a point we pass through as we run from one end of the spectrum to the other. Markets do best, the saying goes, when investors are ‘climbing a wall of worry’. The ‘wall of worry’ being the feeling that while things look OK right now, all things considered (throw in as many other weasel worded conditionals as necessary), surely there are problems in the making, as there always are. And so I need to keep a wary eye on the horizon and be quick to spot trouble and dash to safety when necessary. Which means that this sort of market is mildly volatile, but with an upward bias. Such a market is the best one can hope for over the long run.
Apropos Summers’ point, such a market is least likely to get bubbliscious and therefore have everyone scurrying for cover at the same time when it goes POP! As you know, this is pretty much conventional wisdom. Nothing new here.
On the other hand, if we looked for the political message in what this former Obama administration and prominent Democratic Party economist is saying it would go something like this – “austerity is bad right now, just look at England which may be heading into another recession due at least in part to its post-crash austerity program. Austerity is not exactly conducive to ‘animal spirits’, so it would be quite counterproductive at this moment of fear and uncertainty to push such policies, even though they might be a good for us over the long haul. Especially when done over time in concert with reforms.”
This is indeed thought provoking.. Now I wonder spending is like putting water or milk?
And so we have gestalt psychology for unruly mobs composed of perfectly reasonable people!
Tim _ Great analysis. I wanted to press him on the whole sale abandonment of the notion of moral hazard. But let it go. I was in the very first row.
I love the notion of a sea of entropy with tiny nodes everywhere fighting it by creating complex systems.
Yep, we complex adaptive systems are the engine that could… right up to the day we no longer can….
Funny – I like the story at the end
Interesting. Do you think his view on the problems stemming in 2007 and 2008 are recorded anywhere for listening? Thanks for sharing this.
Very interesting.
I have been in Washington, D.C. the last few days taking in the history.
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