I don't care much about Tim Geithner or his financial memoir Stress Test. But Krugman's review of the book features many teachable moments so the review is well worth reading, especially as revisionist historians would like to distort what really happened. Here's the first one:
Quite early on, two somewhat different stories emerged about the economic crisis. One story, which Geithner clearly preferred, saw it mainly as a financial panic—a supersized version of a classic bank run. And there certainly was a very frightening panic in 2008–2009. But the alternative story, which has grown more persuasive as the economy remains weak, sees the financial panic, while dangerous in its own right, as a symptom of something broader and deeper—mainly a large overhang of private debt, in particular household debt.
Krugman obviously and correctly goes with the latter story. The overhang of private debt -- particularly mortgage debt among the middle and lower class, and more recently, student debt, now about $1 trillion -- is the real anchor weighing down our economy today.
Next, Krugman points out that the FIRE sector is not synonymous with the U.S. economy, something that CNBC and Wall Street types seem to forget sometimes [emphasis mine]:
Whatever the reasons, however, the stress test pretty much marked the end of the panic. ...[S]everal key measures of financial disruption—the TED spread, an indicator of perceived risks in lending to banks, the commercial paper spread, a similar indicator for businesses, and the Baa spread, indicating perceptions of corporate risk. All fell sharply over the first half of 2009, returning to more or less normal levels. By the end of 2009 one could reasonably declare the financial crisis over.But a funny thing happened next: banks and markets recovered, but the real economy, and the job market in particular, didn’t.
That's because the Great Recession wasn't just a mega run on banks that the "confidence fairy" could restore, via cheap money for banks from the Fed. Rather, the Great Recession was a problem of too much private debt dragging down aggregate demand and hence economic growth, in a vicious cycle:
The logic of a balance sheet recession is straightforward. Imagine that for whatever reason people have grown careless about both borrowing and lending, so that many families and/or firms have taken on high levels of debt. And suppose that at some point people more or less suddenly realize that these high debt levels are risky. At that point debtors will face strong pressures from their creditors to “deleverage,” slashing their spending in an effort to pay down debt. But when many people slash spending at the same time, the result will be a depressed economy. This can turn into a self-reinforcing spiral, as falling incomes make debt seem even less supportable, leading to deeper cuts; but in any case, the overhang of debt can keep the economy depressed for a long time.
And here's where we get down to the brass tacks of the federal government's response, and the Fed's position (Geithner's) on that response:
Unlike a financial panic, a balance sheet recession can’t be cured simply by restoring confidence: no matter how confident they may be feeling, debtors can’t spend more if their creditors insist they cut back. So offsetting the economic downdraft from a debt overhang requires concrete action, which can in general take two forms: fiscal stimulusand debt relief. That is, the government can step in to spend because the private sector can’t, and it can also reduce private debts to allow the debtors to spend again. Unfortunately, we did too little of the first and almost none of the second.Yes, there was the American Recovery and Reinvestment Act, aka the Obama stimulus, and it surely helped end the economy’s free fall. But the stimulus was too small and too short-lived given the depth of the slump: stimulus spending peaked at 1.6 percent of GDP in early 2010 and dropped rapidly thereafter, giving way to a regime of destructive fiscal austerity. And the administration’s efforts to help homeowners were so ineffectual as to be risible.
And Geithner, who was in the middle of Obama's inner circle of trusted economic advisers, opposed both stimulus and debt relief, notes Krugman:
Geithner also makes some demonstrably false statements about the public debate over stimulus. “At the time,” he declares, “$800 billion over two years was considered extraordinarily aggressive, twice as much as a group of 387 mostly left-leaning economists had just recommended in a public letter.” Um, no. A number of economists, including Columbia’s Joseph Stiglitz and myself, were warning that the package was too small; so was Romer, internally. And that economists’ letter called for $300 to $400 billion per year. The Recovery Act never reached that level of spending; even if you include tax cuts of dubious effectiveness, it only briefly grazed that target in 2010, before rapidly fading away.And then there’s the issue of debt relief. Geithner would have us believe that he was all for it, but that the technical and political obstacles were too difficult for him to do very much. This claim has been met with derision from Republicans as well as Democrats. For example, Glenn Hubbard, who was chief economic adviser under George W. Bush, says that Geithner “personally and actively opposed mortgage refinancing.”
Krugman takes exception to Geithner's victory dance on ending the crisis and the Great Recession:
To the rest of us, however, the victory over financial crisis looks awfully Pyrrhic. Before the crisis, most analysts expected the US economy to keep growing at around 2.5 percent per year; in fact it has barely managed 1 percent, so that our annual national income at this point is around $1.7 trillion less than expected. Headline unemployment is down, but that’s largely because many workers, despairing of ever finding a job, have stopped looking. Median family income is still far below its pre-crisis level. And there’s a growing consensus among economists that much of the damage to the economy is permanent, that we’ll never get back to our old path of growth.
There's more to this story that Krugman forgivingly overlooks, such as why Geithner was so solicitous to Wall Street banks and not Main Street Americans. After all, Geithner "met more often with Goldman Sachs CEO Lloyd Blankfein than Congressional leaders, including the Speaker of the House and the Senate Majority Leader," in his first few months in office. Why??
By Paul Krugman
June 10, 2014 | The New York Review of Books