By Dave Anderson:
Dr. Hamilton at Econbrowser raises an interesting point as he discussed a conference he attended last week regarding the 2008 credit market freeze-up:
>My view is that the gross deterioration of underwriting standards suggests that it was the run-up in mortgage debt between 2001 and 2007, and not the failure of mortgage debt to expand further in 2008, that indicates a pathology in credit markets.
Here's another variable that I think played an important role in what we've observed. Robert Shiller's data imply that real home prices in the United States were remarkably stable for over a century. They began an unprecedented climb in the last decade, only to reverse course in equally dramatic fashion in 2006....I presume that everyone would agree that the dislocations of 2008:Q4 did not arise in a vacuum. But some might nevertheless defend modeling those disruptions as exogenous events, if the primary purpose is to try to understand how those events affected the rest of the economy. However, I worry that this is more than just a detail of what one chooses to model, but has the danger of becoming a prevailing paradigm of some in policy circles, who may interpret the core problem as the financial events in the fall of 2008, rather than viewing the core problem as the conditions that precipitated those financial events.
If a policy maker views 2003-2008 as normal and desirable, then we get policies that look a bit like the ones that we have now where we are trying to re-capitalize the banks without nationalizing them and kicking the price discovery can as far as we can down the road and hoping to repeat that trick every couple of months.
If one views 2003-2008 as a weird and unhealthy abberation the policy prescription is different. With that assumption, re-instituting most of Glass-Steagal, stronger regulations, cram-down and rapid price discovery make more sense as we went on a bender of debt and the hangover has to be dealt with in some manner other than downing three more Bloody Maries.
The question is what is "normal."
It was obvious as early as late 2002. I know, because myself and some friends were discussing it as early as then.
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