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Politics mises.ca

Published on May 28th, 2014 | by Eleanor Newis
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Debt is like heroin

“If everyone knew there would be a crisis, then it wouldn’t happen”: the words of Paul Krugman, speaking on the question why did economics fail? The idea, of course, is that the failure to predict a crisis is inherent in the nature of crisis itself. A rather common sense train of thought really; I wonder if anyone mentioned it to the Queen when she demanded to know why ‘they’ (those nasty economists) didn’t see 2008 coming. As Krugman rightly said, the real problem was not that the economic community failed to predict the last financial disaster, but their response afterwards.

Either academic economists said the wrong thing, or they didn’t shout the right thing loud enough. So far, despite the development within economic study of more complex models, availability of more data, and simply more history to work from than ever before, economics has pretty much failed to have any positive impact on peoples’ lives. And if you subscribe to the view that ‘they’ should have predicted the credit crunch, they are also to blame for the demise of Woolworths – a charge no one wants laid at their door.

Krugman’s argument is that after the crash, there should have been more adventurous monetary policy and infrastructure spending: we should start “treating unemployment as a correctable problem” rather than a natural part of the market system. Now, I don’t want to start picking bones with eminent economists, but this last sentence might well explain why economics hasn’t had any impact on public policy, at least in the UK. Pretty much every country affected by 2008 did the same thing: the complete opposite of what Krugman and his peers advised. I mean, Krugman is an economic superstar. He’s famous for work explaining the patterns of international trade, the geographic concentration of wealth, liquidity traps, currency crises… it goes on. And it also becomes even more unintelligible.

This man is obviously much cleverer than anyone in the UK government, but until I wafted almost accidentally into my university lecture theater last week I had no idea who he was. If anyone’s interested, he is actually extremely funny (much funnier than me) and actually knows what he’s talking about (which I don’t) so he’s worth looking up. Anyway, herein lies the problem – whilst economics have the benefit of public anonymity, working away inside universities, politicians are forming economic policy for TV. And rising spending after a recession just doesn’t look good in a news clip.

Whilst everyone was busy falling over themselves to compare 2008 with the 1970s, it might have made more sense (at least economically) to look back at 1990s Japan. They call it the Lost Decade; abnormalities in the Japanese economy fueled a speculative asset price bubble, which promptly burst around 1990 as the stock market crashed. The rapid growth that had begun in the 1970s stalled and financial institutions had to be bailed out by the government and central bank loans; this was followed by a debt crisis and Japanese banks and insurances were now loaded with bad debts. Sound familiar? Krugman defines this as a “liquidity trap”: a situation in which monetary policy is unable to lower nominal interest rates because they are close to zero. Even in 2012, Japan’s interest rate was 0.1% – as of Wednesday 14th May, the UK’s interest rate is 0.5%.

Mark Carney, governor of the Bank of England, declared “today is not the day” when The Guardian suggested politely that changing the interest rate might be worth a thought. In fact, the UK’s official interest rate has been held at 0.5% since 2009 – again, it’s worth pointing out the parallels with Japan, whose 0.1% rate lasted several years. Also similarly to the UK, Japan had high unemployment throughout this period, but not actual oh-my-god-there’s-a-crisis-let’s-emigrate levels: the UK’s current rate of unemployment is 6%.

Essentially, what I’m trying to say is that Japan could potentially have provided useful lessons. But the political class weren’t really keen on the idea of lessons. This brings us to the essence of Krugman’s argument. So, “debt is like heroine.” Sorry Paul? Yup, just like heroine. See, every time there is an economic crisis, no matter where it is, there is a massive uproar. People go on the radio and shout at politicians; economists start frantically writing books; bankers start editing their CVs. But, after a while, the memory recedes. People forget. And so you have the cycle of boom and bust that Labour and the Tories are constantly arguing about: an economic high followed by a crash. Yup, just like heroine. And I would take this analogy further than Krugman: I would also say it’s addictive. When the 2008 credit crunch happened some people had their homes taken away, some people lost their jobs – and some people were just annoyed that petrol prices meant they had to use the second car less.

We have become a terribly consumerist society. A good friend of mine once worked at Waitrose in Cobham (the Waitrose of all Waitroses) and told me he once got shouted at by a gentleman demanding fresh lemongrass. Apparently the available dried lemongrass was just not acceptable. (If you want to follow up on this subject but can’t be bothered to understand Kruagman’s liquidity trap theory, I’d recommend the overheard in Waitrose Facebook page – not only is it very amusing, but will probably explain the state of the UK’s economy depressingly well.)

So, after the panic of a crisis, we carry on spending. We are addicted to spending, to a constantly growing economy. This addiction is relatively harmless when you’re just arguing over lemongrass, but when it’s on the scale of Goldman Sachs it gets rather terrifying.  The political class is more addicted than the rest of us. It is my fervent hope that politicians – of whatever party – rebuild an economy for the future. But I am beginning to see that they can’t do it on their own. Paul Krugman, please shout louder.

Please note that all blog posts do not represent the views of Catch21 but only of the individual writers. We also aim to be factually accurate and balanced across all content taken as a whole.

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About the Author

Eleanor Newis

Eleanor is studying English Language and Literature at the University of Oxford, she is particularly interested in UK politics. Her interest is mainly in welfare policy, social integration, freedom of speech, human rights and also environment policy. "I enjoy writing as it is a great way of starting discussions, developing my own opinion and raising awareness around issues, as well as interrogating those in authority. It is important to question our politics, and equally important to question ourselves."



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