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Simon Johnson: “Quiet Coup” Prevents Solution To Economic Problems

Simon Johnson: “Quiet Coup” Prevents Solution To Economic Problems


Simon-Johnson“… recovery will fail unless we break the financial oligarchy that is blocking essential reform. And if we are to prevent a true depression, we’re running out of time.” The Atlantic, May 2009Atlantic_Stack_sm

Many believe that the US has become a financial oligarchy with large financial firms running the government. There is certainly evidence to that effect. Bailouts focused almost exclusively on “big banks.” The cozy interchange of personnel between Wall Street and Government aroused the ire of citizens and some in Congress. “Government Sachs”, once humorous, is now a pejorative. Anger over the secrecy of the Federal Reserve mounts. Corruption and cronyism dominate discussions of what is wrong in Washington.

Simon Johnson is a Professor at MIT (Sloan School of Management) and former Chief Economist at the International Monetary Fund. Dr. Johnson’s experience and expertise provide him with a unique perspective on our economic problems. In The Quiet Coup, an article from Atlantic magazine, he shares his views.

Dr. Johnson observed similar financial crises at the IMF and as consultant to various governments. Usually these crises were in third-world economies. Despite the size of our economy , Johnson believes the current and developing financial condition of the US is little different from an emerging country. According to Dr. Johnson, the common denominator in all financial crises is governmental capture by private, powerful interests. In our case, the oligarchy is the fusion of the financial sector and the government.

[T]here’s a deeper and more disturbing similarity: elite business interests—financiers, in the case of the U.S.—played a central role in creating the crisis, making ever-larger gambles, with the implicit backing of the government, until the inevitable collapse. More alarming, they are now using their influence to prevent precisely the sorts of reforms that are needed, and fast, to pull the economy out of its nosedive. The government seems helpless, or unwilling, to act against them.

imfIn his role at the IMF Dr. Johnson would have recommended the following actions to solve our problem: 1. Nationalize the major banks, clean up their balance sheets and then sell them back to the private sector in smaller pieces; and 2. Change the regulatory apparatus so that banks could never again become big, capture the political class or engage in risks beyond those considered prudent.

While third-world countries go to the IMF begging for funds, we are too big to be bailed out by the IMF or any other entity. Similarly, we are too powerful (some would say arrogant) to allow outsiders to impose a solution to “clean up” our government. Because there is no outside force, US problems must be solved internally.

Without an outside enforcing agency, Dr. Johnson is not optimistic. He sees two plausible scenarios:

Scenario One:

The first involves complicated bank-by-bank deals and a continual drumbeat of (repeated) bailouts, like the ones we saw in February with Citigroup and AIG. The administration will try to muddle through, and confusion will reign.

Our future could be one in which continued tumult feeds the looting of the financial system, and we talk more and more about exactly how our oligarchs became bandits and how the economy just can’t seem to get into gear.

The first scenario is the one the Bush Administration chose and the Obama Administration then expanded. This solution meets none of Dr. Johnson’s recommendations.  Specifically, “Ideat is inadequate to change the behavior of a financial sector accustomed to doing business on its own terms, at a time when that behavior must change.”

Scenario Two:

The second scenario begins more bleakly, and might end that way too. But it does provide at least some hope that we’ll be shaken out of our torpor. It goes like this: the global economy continues to deteriorate, the banking system in east-central Europe collapses, and—because eastern Europe’s banks are mostly owned by western European banks—justifiable fears of government insolvency spread throughout the Continent. Creditors take further hits and confidence falls further. The Asian economies that export manufactured goods are devastated, and the commodity producers in Latin America and Africa are not much better off. A dramatic worsening of the global environment forces the U.S. economy, already staggering, down onto both knees. The baseline growth rates used in the administration’s current budget are increasingly seen as unrealistic, and the rosy “stress scenario” that the U.S. Treasury is currently using to evaluate banks’ balance sheets becomes a source of great embarrassment.

Under this kind of pressure, and faced with the prospect of a national and global collapse, minds may become more concentrated.

obama-hat-magicEither scenario involves a great deal of economic suffering. Yet, our politicians continue to convey signals of “green shoots’ and all clear ahead. President Obama concluded recently in his speech at  Brookings: “The skies are brightening. And the horizon is beckoning once more.”

There are several interesting points to Dr. Johnson’s article. First is his assumption that our government will not apply any comprehensive solution until markets create the next crisis. Johnson indicates that, while economic collapse is necessary, it may not be sufficient: “… it does provide at least some hope that we’ll be shaken out of our torpor.”

The next point is that Dr. Johnson does not discuss what happens if scenario two does not motivate reform. This possibility appears to be more than insignificant in his opinion:  ” … faced with the prospect of a national and global collapse, minds may become more concentrated [my emphasis].”

A third point pertains to Dr. Johnson’s lack of realistic recommendations. He recognizes that the IMF approach cannot be used, but never tells us what might be done. Given Johnson’s experience in similar situations, his speculations regarding other actions, time frames, political maneuvers, civil strife etc. could be invaluable.

Lest there be any doubt as to the seriousness of our situation, Dr. Johnson concludes:

The conventional wisdom among the elite is still that the current slump “cannot be as bad as the Great Depression.” This view is wrong. What we face now could, in fact, be worse than the Great Depression—because the world is now so much more interconnected and because the banking sector is now so big. We face a synchronized downturn in almost all countries, a weakening of confidence among individuals and firms, and major problems for government finances. If our leadership wakes up to the potential consequences, we may yet see dramatic action on the banking system and a breaking of the old elite. Let us hope it is not then too late.

Dr. Johnson has written an excellent article. His insights on the financial industry’s co-opting our government were especially useful. His suggestion that we were becoming a “banana republic” put our financial condition into perspective. Perhaps most important, Dr. Johnson provided an analysis that is in the tradition of political economy. That is, economic analysis was performed realistically, within existing political and institutional constraints.

Despite a highly recommended and informative read, how this economic crisis resolves is still indeterminate.