The Improv Economy

I'm hard at work on parts two and three of my response to Palley's paper. Between naps and stuff.

Meanwhile, this excerpt will make you weak in the knees. From Financialization revisited: the economics and political economy of the vampire squid economy by Thomas Palley.

Beginning on page 34:

... the details of how the system works reflect an improvisational response [by the Fed] to the emergent problems of increasing proclivity to instability and stagnation.¹¹  The former has required the Federal Reserve to become the de facto guarantor of the financial system. The latter has it acting as macroeconomic resuscitator via a process of pushing asset prices ever higher.

As regards instability, the system has repeatedly shown itself fragile and unstable, both domestically and internationally. Moreover, that proclivity to instability emerged earlier in the process. In the US, there has been the 1987 stock market collapse, the 1998 Long Term Capital Management crisis, the 2001 technology stock market bubble, the 2007 house price bubble, and the 2008 financial crisis. Internationally, there has been the 1990-94 Swedish financial crisis, the 1992 Sterling crisis, the 1994 Mexico crisis, the 1997 East Asia crisis, the 1998 Russia crisis, the 1999 Brazil crisis, and the 2000 Argentina crisis. The IMF (Leaven and Valencia, 2018) has documented that country systemic currency and banking crises also increased significantly in the neoliberal era (post-1980).

As regards stagnation, that proclivity became especially clear after the 2008 financial crisis when the US economy had difficulty picking itself off the floor despite massive financial assistance from fiscal policy and the Federal Reserve. However, the proclivity to stagnation was also visible long before to those open to seeing it. Thus, the Reagan business cycle (1981 – 1990) was followed by an extended weak recovery that coined the expression “jobless recovery”. Similarly, though the 2001 recession was short and shallow, the recovery was slow to pick up and did not launch robustly until 2004.

After the 2008 financial crisis, the recovery was so feeble it was labelled stagnation, and it also triggered a new set of [improvised] policies ...

 

In case you are wondering how this all came about, Palley handles that topic in the remarkable Footnote 11:

The chief architect of the current system was Federal Reserve Chairman Alan Greenspan (1987 – 2005), who took over from Paul Volcker (1979 – 1987). In 1979, Volcker initiated the great disinflation by implementing high real interest rates. Volcker viewed high inflation as an existential threat, but recognized finance’s inclinations to speculation and instability and was always a supporter of regulation. That was evidenced in the Dodd-Frank Act (2010), passed after the 2008 financial crisis, in which he advocated for the “Volcker rule” that stopped banks from engaging in short term speculative trading on their own account. That contrasts with Greenspan, who was an avowed neoliberal and partisan proponent of financial deregulation.

A few pages later, Palley sums up his thinking:

The repeated crises and the Federal Reserve’s interventions take place within a system. That system encourages crisis and the Federal Reserve has been instrumental in creating the system (Palley, 2005). The central bank has given intellectual support and policy legitimacy to the financialization paradigm, and has a fulcrum operational role. Simply claiming it is now doing its best to manage the economy is disingenuous to the point of dishonesty.