From Crisis to Confidence: Macroeconomics after the Crash

A book about understanding the long economic slump since 2008

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  • Since US output peaked in December 2007 growth has been anaemic and output remains below potential. In addition, US unemployment has been persistently high. It increased from 4.4 per cent in May of 2007 to 10 per cent in October 2009 and was still at 6.7 per cent at the beginning of 2014. The post-crash period is quite unlike typical post-war recession periods after which employment has generally recovered within about two years. This pattern has been followed in many EU countries too.
  • The background to the long slump was a boom followed by a bust. Although the Federal Reserve seems to have pursued conventional monetary policy rules until 2002, from that point interest rates were kept too low for too long. This was an important policy mistake during the boom period.
  • As well as mistakes in monetary policy, several complementary government failures ensured that the boom manifested itself disproportionately in the housing sector and encouraged excess risk taking in financial markets. The central underlying fact in the boom period, however, was loose monetary policy.
  • Standard neo-classical macroeconomics does not have an adequate explanation for the slow pace of recovery from the financial crash. Many other economists continue to argue that the problem is a deficiency of ‘aggregate demand’. These economists want us to ‘stimulate’ our way out of the slump. However, repeated stimulatory measures have not effected a complete recovery. In the UK, for example, government borrowing has led the national debt to double in five years while output is still below potential.
  • Arguably, the financial crisis itself should have been sufficient to call into question the standard neo-classical and new-Keynesian economic paradigms. HM Queen Elizabeth II asked economists at the LSE why nobody saw the crisis coming. This was a good question and the answer she received was inadequate.
  • One aspect of economic theory which has been neglected is the concept of ‘animal spirits’ or ‘confidence’. Keynes, and others before him, discussed th