Friday, February 3, 2012

In search of the cause of the crisis

A Crisis in Two Narratives

In the related Project Syndicate video, Raghuram Rajan expands upon the views expressed in this commentary. Click here to watch.
CHICAGO – With the world’s industrial democracies in crisis, two competing narratives of its sources – and appropriate remedies – are emerging. The first, better-known diagnosis is that demand has collapsed because of high debt accumulated prior to the crisis. Households (and countries) that were most prone to spend cannot borrow any more. To revive growth, others must be encouraged to spend – governments that can still borrow should run larger deficits, and rock-bottom interest rates should discourage thrifty households from saving...
The second narrative starts with the 1950’s and 1960’s, an era of rapid growth in the West and Japan. Several factors, including post-war reconstruction, the resurgence of trade after the protectionist 1930’s, the introduction of new technologies in power, transport, and communications across countries, and expansion of educational attainment, underpinned the long boom. But, as Tyler Cowen has argued in his book The Great Stagnation, once these “low-hanging fruit” were plucked, it became much harder to propel growth from the 1970’s onward...

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