The Slightest Glimmer

by Simon Johnson | March 8, 2009

In light of the week's terrible economic news we asked Simon Johnson, a professor at MIT's Sloan School of Management, a Senior Fellow at the Peterson Institute for International Economics, and co-founder of Baseline Scenario, if there were any reasons, any at all, to feel hopeful. Here's what he wrote.

The most dangerous thing in any economic crisis is denial. West European countries are still refusing to come to grips with the new (downward-looking) realities in East-Central Europe and what that means for their banks and their fiscal solvency. Most Asian countries have yet to wake up to the implications for their export sectors, their real estate markets, and their social stability. And almost no commodity producers in the Latin America or Africa fully comprehend how this gathering storm will affect either elite pocketbooks or the masses of already desperately poor.

Since President Obama's election, the degree of denial in the United States has fallen dramatically. At his press conference on February 9th the President said:

If you delay acting on an economy of this severity, then you potentially create a negative spiral that becomes much more difficult for us to get out of. We saw this happen in Japan in the 1990s, where they did not act boldly and swiftly enough, and as a consequence they suffered what was called the "lost decade" where essentially for the entire '90s they did not see any significant economic growth.

 

This was an accurate and remarkable statement of our predicament--remember that U.S. presidents usually choke on a word as mild as "recession."

Since then, of course, we've seen a fiscal stimulus which--while not ideal--is quite an achievement in this political system. We're also seeing the development of an approach to housing that represents a major step forward. But there is one major aspect of denial still remaining: the scale and nature of our banking difficulties.

Until this week, leading officials were downplaying the problems. Chairman Ben Bernanke's and Secretary Tim Geithner's recent appearances on Capitol Hill appeared designed to be reassuring, but few were convinced. The line from the White House was: We can't do more at this time, because there wouldn't be support on the Hill--particularly in the Senate. The market perception of default risks in and around major banks has consequently risen sharply, suggesting that we are heading for a sudden showdown.

Yet, just as the future seems most bleak, some glimmers of hope shine through. Leading figures in the Senate are making it clear that they see the need for urgent action on major financial institutions and would support the deployment of sufficiently massive resources to that end. Senator Kent Conrad, chair of the Budget Committee, has been making this point at least since January; he was joined last week by Senator John Kerry, chair of the Foreign Relations Committee. And, most concretely, Senator Chris Dodd--chair of the Banking Committee--has just introduced legislation (at the behest of Bernanke, Geithner, and Sheila Bair, the head of the Federal Deposit Insurance Corp.) that would substantially increase the resources available to the FDIC. This falls easily into the category of "sensible preparations that should have been in place long ago."

There are no magic bullets for this situation. Whatever happens, the financial situation will be difficult, and we cannot expect to turn any corners soon. But we should take some reassurance from the sight of leading senators working closely with an administration that may be coming to its senses. We may finally be done with denial.

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