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Reinhart: "This is not something that policymakers can undo quickly."

In their book “This Time is Different,” Carmen Reinhart and Kenneth Rogoff construct the richest and most detailed history of financial crises that anyone has developed. Their data set covers 66 countries, five continents and eight centuries, and gives them an unparalleled ability to see patterns and predictors among different types of crashes. And see them they do. I spoke to Reinhart on Wednesday about the speed of the recovery, why financial crises are different from normal recessions and what, if anything, can be done. An edited transcript follows.

Ezra Klein: Why are the recessions after financial crises so much worse than normal recessions?

CR: The words credit and debt cannot be stressed enough.The period ahead of a severe financial crisis is a period in which you’re borrowing from the future, fueling current growth by building up debt. The private sector accumulates debt on the expectation that incomes and asset prices keep going up. But though it’s painless to accumulate debt, it’s painful to unwind it.

Your normal recession and recovery isn’t as intimately involved with this boom and bust in leverage. That is an extremely important difference between recoveries from financial crises and normal recoveries. It’s one thing to lose five pounds and another to have to lose 50. It’s the leverage that you build up.

EK: How long do the recoveries normally take? Are we performing about normally?

CR: The answer to your question depends on your benchmark. Compared to a normal recession, we’re going slowly. Compared to your normal financial crisis, we’re on track. The average post-war recession lasted less than a year. The last time we had a severe recession was 1982, and by the end of 1982, the economy was recovering in a rip-roaring manner.

EK: But that wasn’t a financial-crisis recession?

CR: Right. That’s why I say it depends on your benchmark. Compared to a normal recession, we’re subpar. Compared to a financial crisis, we’re not out of line.

EK: So then let’s focus on financial crises. How long does the recovery usually take?

CR: The recovery in housing and employment is much slower than in equity and GDP. The housing cycle’s peak-to-trough is about six years. In GDP, your peak-to-trough is about two years,and another two years to get back to where you were before the crisis. Peak-to-trough for employment to stabilize is about five years. Full recovery is even longer, and sometimes it doesn’t happen.

EK: You mention that equity has returned, which is part of corporate America’s recovery. So they’re sitting on a lot of money, and there’s a lot of confusion and frustration over the fact that they don’t seem to be hiring. Is this normal?

CR: It isn’t corporate, non-financial companies that are overleveraged. It’s the households and the financial industry. The corporates are not burdened down by all this debt overhang that I’ve been talking about. So it’s not surprising that the corporate sector is recovering sooner. But the households, which are their ultimate consumers, are still mired in debt. And so right now, you see a period in which corporations are being very cautious, and for good reason. There’s a lot of uncertainty about the engine of growth in the United States. In recent recessions, it was households. But now there are concerns about household’s abilities to pull that off. So we have concerns about household balance sheets and, because of deficits, future tax policy. Uncertainty is not the best friend of investment.

EK: There’s a lot of the discussion about what Washington should do, but you seem to be saying that this is just going to take time.

CR: That is certainly my view. It’s not that governments are powerless. The government has been a key player in preventing a catastrophic global shock. We didn’t end in a depression. I can’t stress that enough. It’s played already a much larger role in placing a much higher bottom. But we built up this debt not overnight, but over years. And now we expect the resolution to be very rapid. This is not something that policymakers can undo quickly. If you look at the big, historic panaroma, deleveraging takes time. It’s not pretty. It’s not the answer people want to hear, but these debt cycles are lengthy.

By Ezra Klein  |  August 4, 2010; 5:57 PM ET
Categories:  Interviews  
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Now THAT'S what I 'been talking about!

Posted by: bgmma50 | August 4, 2010 6:11 PM | Report abuse

Ooh, I have a question for your research desk in light of this interview. If it's really true that recoveries following financial crises are just longer than other types of recoveries, and if it's true that one of the reasons is that households remain mired in debt, then is the idea that lump-sum tax cuts aren't effective stimulus (because presumably it most goes to savings or to pay down debt) as valid following a financial crisis? Perhaps large tax cuts would actually accelerate the recovery as much as, say, foodstamps because with foodstamps you're relying on an indirect mechanism to help with paying down debt (I see it going like foodstamps --> higher aggregate demand --> higher wages --> pay down debt).

Sounds like a tough question to answer in a day though.

Posted by: reader44 | August 4, 2010 6:11 PM | Report abuse

@reader44 : Tax cuts for whom? the top 10% are not the ones that are overleveraged, its the bottom 90%, and extending the bush cuts just gives more to those who already have the most. Now a payroll tax holiday would really help anyone who works and proportionally help lower income people more than the top 10%.

Posted by: srw3 | August 4, 2010 6:18 PM | Report abuse

"Uncertainty is not the best friend of investment." "[this is just going to take time.] That is certainly my view. ... This is not something that policymakers can undo quickly."

What a refreshing interview!

Posted by: rmgregory | August 4, 2010 6:22 PM | Report abuse

"But the households, which are their ultimate consumers, are still mired in debt."
Presumably largely because so many people are underwater on their mortgages. So cramdown would help in the short run, but the long-term problem is that incomes have been stagnant for 30 years, and that's the problem we need to address if we expect to prevent the next financial crisis.

Posted by: randrewm | August 4, 2010 7:33 PM | Report abuse

"Presumably largely because so many people are underwater on their mortgages. "posted by randrewm

Mortgage debt is only the beginning. For starters, there's also credit card debt and student loan debt.

"but the long-term problem is that incomes have been stagnant for 30 years, and that's the problem we need to address if we expect to prevent the next financial crisis."

The problem was easy credit and people who forgot how to live within their means. Both of those problems are resolving themselves in a hurry. The remaining long-term problem is debt. Consumers are shedding theirs through default. That will help consumers, but won't do much for the health of our banking system. And with Geithner and Bernanke both hell bent on forcing the taxpayer to absorb all the banking losses instead of sticking the bank shareholders and bondholders with the losses where they belong, we as a country are on the identical road Japan began down in the 90's.

And, lest anybody think we can stimulate our way out of this, Japan has been trying to stimulate their way out of the same situation for nigh onto 20 years now, with nothing to show for it except a country that's completely paved over and the biggest debt in the industrialized world.

Posted by: bgmma50 | August 4, 2010 8:02 PM | Report abuse

Thanks for covering this in depth analysis, particularly the realism of change taking time. As the comments already made indicate, rather than pondering our collective inability to engage in long term changes, we persist in insisting that we already know a secret quick fix.

I appreciate your continued efforts to educate and present a realistic picture of our current state of affairs. I also look forward to the time when your generation takes over and those stuck in the past pass on.

Posted by: pbkritek | August 5, 2010 11:11 AM | Report abuse

Corporations are sitting on nearly $2 trillion in cash. Why not levy a tax on this cash, effectively seizing it, and using it to put the unemployed back to work through govt programs? Then, you'll have the consumers back (a market, iow), getting money flowing into the economy again, because if money doesn't flow, there's no economy. Now, as in the Great Depression, money is clotted in accounts such as the corporate cash accounts.

Posted by: dwerner1 | August 5, 2010 12:42 PM | Report abuse

Another point: Using this corporate cash money to employ people would avoid having the govt create new money, thereby avoiding inflation.

Posted by: dwerner1 | August 5, 2010 12:46 PM | Report abuse


What makes you think corporations are sitting on paper dollar bills?

That $2 trillion is in all likelihood invested in money market funds (for the most part, treasury and GSE securities).

In order for the federal government to deficit spend, someone has to take their dollars and park them into treasuries (cash).

Outside of that, how many corporations will want to be based in the U.S. if their cash is "effectively seized"?

Posted by: justin84 | August 5, 2010 1:35 PM | Report abuse

justin: So you're happy with the way things are? I care not a fig for the corporations. Just get that money into circulation. Spread the wealth, IOW. Pres. Obama was right on when he said that.

Posted by: dwerner1 | August 5, 2010 2:10 PM | Report abuse

In a capitalist economy, money is the life blood. It must flow. Economic disasters arise when money becomes clotted in private sector accounts, like now. FDR's entire New Deal was based on getting the money unclotted, to flow, again. The problem was creating new money to do it, adding to inflation (which given the deflation that existed, was a good thing).

This $2 trillion is there; locked up. The economy needs an enema. It's preferable that the corp.'s provide the cash to finance govt programs on the New Deal level, rather than the govt going into more debt to create the new money to do so. As to money markets, they'll do ok once the money gets flowing, again.

Posted by: dwerner1 | August 5, 2010 2:18 PM | Report abuse

justin: Let the corporations move their headquarters off shore if they wish. They've already moved their manufacturing offshore. Let them then be protected by the laws, etc., of the countries they prefer to the U.S. Let them not receive protection by the U.S. government, its military, etc. These people cannot have their cake & eat it too.

They sit on their cash while the nation suffers. The govt should seize those assets and put them to use. The corporations will not suffer, for they never have. In fact, with the resulting improved economy because people are once again working and buying, the corporations will recrue whatever was taken from their caches.

No, no tax breaks or any other "deals." The govt leaves a small amount in those cash coffers. The rest goes to the nation, thank you, very much.

Posted by: dwerner1 | August 6, 2010 12:58 AM | Report abuse

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