1

Neoliberalism and Its Discontents

J. Bradford DeLong

Professor of Economics, U.C. Berkeley Research Associate, NBER

Conferencia: Estado e Mercados: Gestao, Competividade e Regulacao

Cententario de Ceincas Economics da UFRGS Federal University of Rio Grande do Sul

Porto Alegre, Brazil

November 23, 2009

2

I. Introduction

In the United States, the Employment-to-Population Ratio Is in

Free Fall

3

In the World, the Volume of Trade Has Collapsed

4

II. The Neoliberal Promise: It Now Appears Empty

• Promise: relatively small state sectors, relatively unregulated financial markets, and a

light government regulatory hand would produce a rich and growing (if unequal) world…

• Magnitude of global shock counterexample to claims that in the “Great Moderation” we had finally gotten regulation of the global market economy right…

• Countries like Brazil bound to the mast and along for the ride:

o Cannot decouple without losing massive potential gains from trade…

o Cannot materially affect the course of the global economy…

5

The Underlying Logic

• A smaller state is less vulnerable to corruption

• A smaller state is less vulnerable to rent-seeking

• Private enterprises must meet a test

• Free trade maximizes contact—and thus makes successful transmission of

technology and organization more likely

• Free flow of capital maximizes market discipline over corporations and governments

• Governments will misuse their freedom if they can (small jetliners vs.

minicomputers)

6

The Neoliberal Moment

• Where did it come from?

• On the right: Thatcher: “Labor isnʼt working…” Reagan: “Iʼm from the government and I am here to help you…”

• On the center and the left: accepting the argument on the three-fold

disabilities of social democracy:

o Corruption (e.g., Halliburton)

o Rent-seeking (e.g., U.S. medical care sector)

o Inertia (e.g., Pentagon)

• Promising to do better

• Why the neoliberal moment?

7

III. Exhaustion of of North Atlantic Social Democracy

• The “Thirty Glorious Years” in the North Atlantic, 1945-1975

o Fastest growth ever

o Equal growth

o Joining the “convergence club”: Japan, East Asia, southern Europe

• The “Thirty Glorious Years” outside the North Atlantic, 1945-1975

o Growth

o But no convergence on average

o Falling out of the “convergence club”: Venezuela, the Southern Cone

(perhaps Zambia/South Africa)

8

The Crisis of the 1970s and Early

1980s

• Inflation

• A sign of government failure

• The oil shocks of the 1970s

o 1973 Yom Kippur Israeli-Egyptian-Syrian war

o The Shah of Iran and Henry Kissinger

o The Ayatollah of Iran and Jimmy Carter

• A neoliberal call for increased social discipline

• Shrink the state back to its core functions

9

IV. The Central Banking Exception

• One and only one arm of government grows in power under neoliberalism: central banking

• Central bankers as philosopher-princes

o Insulated from partisan and democratic politics

o Guardians of price stability

o Guarantors of full employment in financial crises

• Where did this special exemption to the rules of neoliberalism come from?

• A long history, back to 1825…

10

Take the WABAC Machine Back to 1825…

11

British Novelist E.M. Forsterʼs Great-Aunt Marianne and Great-Uncle

Henry

• Not Marianne Thornton: Ada, Countess of Lovelace, daughter of George “Mad, Bad, and Dangerous to Know” Gordon, Lord Byron

• Battersea Rise • Pole, Thornton, and Company • £40,000/5 = £8,000/year • Think $80 million a year today… • Capital value of $1.6 billion today… • Choosing the right parents…

12

Pole, Thornton, and the Panic of 1825

• Irrational exuberance • Excessive leverage • Trust in liquidity • Withdrawal of nine monthsʼ earnings with not five minutesʼ notice • “Free… insisted on proclaiming themselves bankrupts at once, and raved

and self-accused himself…” • “Old Scott cried like a child of five years old, but could suggest nothing…” • “Pole and Down were both out of town…” • “Henry saw it all lay upon him…” • Looking for money in central London at 4:30 PM on Saturday afternoon • Letʼs ask the Bank of England • “the failure of this House [of Pole, Thornton] would occasion so much ruin

that he should really regard it as a national misfortune…”

13

Robert Banks Jenkinson

• Had been warning about “bubbles” for quite

a while… • Believed that allowing the financial system

to crash would have very bad consequences for employment in manufacturing…

• For the first time, see, you had a large manufacturing sector—people who could not just go back to the farm if their employers could not borrow…

14

Did It Work?

15

Charlie Kindleberger

• The Minsky cycle:

o Displacement o Enthusiasm o Profits o Optimism o Runup o Greater fools around the corner o Uneasiness o Panic o Revulsion o Discredit

• Why do we care? • The peculiar place of finance in a market economy • We believe in market prices—but not when the prices set by markets are a series of semaphore flags

telling businesses to shut down and create mass unemployment.

16

Alan Greenspan

• Did not worry about liquidity traps • Believed that he could deal with any

financial crisis • William McChesney Martin: “Take away

the punchbowl before the party gets going” • Alan Greenspan: Spike the punchbowl with

the grain alcohol of very low interest rates as long as inflation is contained, and rely on the Federal Reserve as designated driver to get everybody home after the party

• Had a substantial amount of evidence on his side

o 1987 o 1991 o 1998 o 2000

• Now a relatively unhappy man

17

Robert Rubin

• Risk management

• “Liqudity puts”

• “[Y]ou might think the existence of the put would make it impossible for Citi to get those CDOs entirely off its balance sheet. But in fact Citi found a complex accounting rationale for doing exactly that…”

• The problem of compensation structures

• Need to make every 35 year old a risk

manager