Three economics professors sounded off on the economy and the federal stimulus bill Tuesday afternoon before a large audience in Salomon 001.
Professors of Economics Peter Howitt, Ross Levine and David Weil ’82 each spoke for around 15 minutes, discussing their views on the stimulus package and sharing their overall outlooks for the economy. All three took part in a similar panel discussion in October following the passage of a $700 billion government bailout of the financial sector.
Howitt noted that last fall he called this financial crisis the worst since the Great Depression. “That was when the Dow Jones was still above 10,000,” he said. “Things are a lot worse now.”
But he noted that economic crises like the current one have been regular occurrences since the late 19th century. “This fits the pattern of a big speculative run-up,” he said. “The core of the problem is simply that a lot of these assets should never have been purchased in the first place.”
Howitt compared the current crisis to past ones and explained what they tell us to expect in the years ahead. For example, similar crises preceded by speculative bubbles were followed by four to six years of stagnation before housing prices recovered, he said.
He said he believed that government interventions, like the stimulus bill, are necessary responses to these large crises and that the government’s failure to act immediately exacerbated the downturn that led to the Great Depression. “Even Adam Smith realized there were limits to what he called the invisible hand,” he said.
Weil offered a detailed lesson in macroeconomics and talked about the effects the Obama administration hopes the stimulus package will have.
“The U.S. economy is still very productive. We have a problem with aggregate demand,” he said. “Everyone wants to save and no one wants to spend.”
Weil said the standard response in a situation like this is to wield monetary policy to fight the crisis. But with interest rates near zero, “the Fed is out of bullets,” he said.
The goal of the stimulus package is to generate growth by increasing government spending, Weil said. Although he disagreed with aspects of the package, he said he believes it was necessary.
“Will it prevent a recession? Absolutely not,” he said. “But it’s hard to tell a story where the next year or two would not be better” with it.
Weil, who described himself as a Democrat, said his main concern is that the package contains too much pork and too many pet projects from Democratic legislators.
“In the context of getting this out very quickly, there’s a risk that this will be very wasteful,” he said.
He emphasized that certain aspects of the bill, like lending to state governments, are a good idea. Many state and local governments have balanced budget provisions that force them to reduce spending in response to declining revenues, which he said exacerbates the problem.
The wisdom of the stimulus plan will ultimately depend, he said, on whether the country is able to generate enough economic growth to cut the budget deficit and justify borrowing billions of dollars from abroad.
Levine spoke primarily about difficulties facing financial institutions and the need for government interventions at the taxpayer’s expense.
“We’re unlikely to have well functioning banks in the near term unless the government gets involved,” he said. “The U.S. economy is founded on private entrepreneurship, and that entrepreneurship is founded on a well-functioning banking system.”
Levine said the cost of allowing banks to fail would be catastrophic in the current economic climate. “There would be economy-wide implications,” he said.
The Obama administration’s plan is to invest directly in the banks and to team up with private investors to purchase bad assets. In such a plan, the government would support private investors by sharing in any losses while allowing those investors to hold onto almost all profits. One problem with this plan, Levine said, is that it will enrich the banks’ current owners.
“Many of the same people that helped orchestrate the current crisis will be rewarded,” he said.
Levine also said he believes that the plan will hurt the future operation of the financial system by reducing the incentives for people to effectively monitor the banks and by creating a financial aristocracy immune to the market.
“One of the good things about the Obama plan is that it’s vague,” he said.
Levine said the government would be better off getting common stock in return for their investments and forcing uninsured investors to suffer, though that would likely be more disruptive. Regardless of the plan’s details, Levine said it would have long-ranging consequences.
“There’s going to be a re-thinking of government in many areas of our lives,” he said.