The boom and bust


In an new paper from the National Bureau of Economic Research, Carmen Reinhart and Kenneth Rogoff point to the deep and prolonged market collapses after financial crises.

I believe this downturn will be even worse, because in the last 25 years, the authorities have learned how to stave off such collapses – by throwing paper money and cheap credit at them. They did this after the 1985 Savings & Loan collapse, the stock market crash of 1987, the Russian debt default of 1992, the attacks of 9/11 and again now after the banking crash.

Right now, though business is bad, politicians are congratulating themselves that the downturn isn't worse. But that is only because it's real scale has been disguised by the huge amounts of taxpayer cash that has been spent on bailouts. In reality, it is as deep as the 1930s.

The problem is that 'stimulus' packages have to be paid for – by taking cash out of the productive side of the economy, or running up huge amounts of new government borrowing – effectively, trying to borrow our way out of debt. This just puts off the evil day, which is all that much worse when it comes. This downturn will be particularly long as we work off this vast debt overhang.

The solution is not to get into the boom and bust cycle in the first place. We need much tougher rules to stop the monetary authorities debauching our money, and much tougher controls to stop the banks magnifying the effect of that.