Credit Booms Gone Bust: Monetary Policy, Leverage Cycles and Financial Crises, 1870-2008
Moritz Schularick
Free University of Berlin (FUB)
Alan M. Taylor
University of California, Davis – Department of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)
November 2009
NBER Working Paper No. w15512
Abstract:
The crisis of 2008-09 has focused attention on money and credit fluctuations, financial crises, and policy responses. In this paper we study the behavior of money, credit, and macroeconomic indicators over the long run based on a newly constructed historical dataset for 12 developed countries over the years 1870-2008, utilizing the data to study rare events associated with financial crisis episodes. We present new evidence that leverage in the financial sector has increased strongly in the second half of the twentieth century as shown by a decoupling of money and credit aggregates, and we also find a decline in safe assets on banks’ balance sheets. We also show for the first time how monetary policy responses to financial crises have been more aggressive post-1945, but how despite these policies the output costs of crises have remained large. Importantly, we can also show that credit growth is a powerful predictor of financial crises, suggesting that such crises are credit booms gone wrong and that policymakers ignore credit at their peril. It is only with the long-run comparative data assembled for this paper that these patterns can be seen clearly.
Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.
JEL Classifications: E44, E51, E58, G01, G20, N10, N20
Working Paper Series
{ 19 comments }
It was FRL what brought the FED into existence. To eliminate the FED we must first eliminate FRL. I believe this can be done gradually to avoid any possible collapse in the banking industry.
We need to look at what monetary policies cause these booms and busts, one policy that comes up time and time again is Fractional Reserve Banking, if we move to 100% reserve banking system we would be avoiding many of these booms and busts in the credit industry.
“We also show for the first time how monetary policy responses to financial crises have been more aggressive post-1945, but how despite these policies the output costs of crises have remained large.”
That quote is laughable. They’re the first to do this? Maybe the first neo-classicals, but definitely not the first economists.
I’d also disagree with the previous posters. Fractional Reserves are a minor issue, but the real problems are the central bank and the government intervention in the financial markets. Remove the intervention, kill the central bank, and the wide-scale hyper-leverage bubbles that we’ve seen is impossible. Any fractional reserve banker that is left over after an abolition of the central bank (and getting rid of the government monopoly on currency) would have no choice but to be prudent.
This is great! Maybe in another 40 years mainstream econ will catch up to Mises and Hayek.
Julio — “To eliminate the FED we must first eliminate FRL. I believe this can be done gradually to avoid any possible collapse in the banking industry.”
From your lips to God’s ears…but this won’t happen gradually. To happen gradually, it must happen voluntarily. But it will not be done voluntarily, therefore I don’t believe the end will come gradually.
I tend to agree with J Cortez, eliminate the FED and FRL will be a difficult model to sustain, to say the least.
The paper’s authors, Schularik and Taylor, have a piece summarizing their paper at http://blogs.ft.com/economistsforum/2009/11/credit-booms-gone-bust/ .
An ungated version of the Schularick Taylor paper is at http://www.econ.ucdavis.edu/faculty/amtaylor/papers/w15512.pdf .
Just some thoughts. Haven’t fully compose the idea, but to start with:
The President needs to authorize Congress to print “US Congressional Notes”, thus eliminating “US Federal Reserve Notes”. This also would eliminate the US paying interest rates.
Do not go on the Gold or any other type Standard. In American Ingenuity, Worth (at least historic), and Resources We Now Trust, which will back the value of our new Dollar.
This action would ensure complete US sovereignty. Having no Gold standard would also strengthen this. The US really doesn’t need to bow to any other nation in the World for economic or other securities.
However, the last leaders to institute or attempt to institute this were Killed.
We must eliminate our dependence on the World’s Money Changers……..
I did not think green backers posted here.
Take away the monopoly on money and that will eliminate dependency on any particular group of “money changers”.
Gov’t issue Greenbacks will not solve the problem; that lame idea has already been tried several times, from whence we obtain the phrase “Not worth a Continental.”
Congress does not have an enumerated Constitutional power to print paper and fob it off as money, but to “coin” money. Even that, frankly, is a temptation to abuse; eventually Congress would figure out how to debase coins — oops, that happened in 1964, did it not? Not a trace of silver in our quarters and dimes nowadays, is there?
The real solution is a voluntary free market in money. Money is “the most marketable good.”
Continental when America was first formed then Lincoln to eliminate paying 30% interests to the Rothchilds. Kennedy signed an executive order but was assassinated 3 months later. First thing LBJ did as President was rescind that order.
Mmm, imaging that?
Reagan assembled the Gold Commission to report that the US Treasury owned no Gold. Two months later he was shot, then the Gold Commission was immediately disbanded.
We have much, much more power and global influence now.
I guess we need honest people in Washington and not those bought by the Money Changers?
I mean, basically, that’s what the Fed has done, just that the US has to pay interests on the Money the Feds release to our Economy.
Another thing, do you guys think that Keynesian Economists have no idea were money really comes from. I think they actually believe the stuff grows on Trees.
While the rest of us realize It comes from the US Public, in the end.
ehmoran
Honest people in Washington? Is this a serious post?
The Fed won’t be ended anytime soon. On a related note, the current Ron Paul bill to audit the Fed is dangerous. If it goes through, it won’t be a precursor to ending the Fed, as Paul hopes. It will be used as an excuse for Congress to take more direct control of the Fed, thus making money production even more politicized than it is now.
I think J Cortez above is dead on. Get government out of banking and let the bankers do what they like at their own peril and not ours.
danny,
You’re right, I had a Senior moment……
“… we can also show that credit growth is a powerful predictor of financial crises, suggesting that such crises are credit booms gone wrong …”
I find this quote to be absolutely hilarious, for obvious reasons. But it’s also provides for quite an interesting, although somewhat fictional, glimpse into a similar situation and how it might have played out. Imagine a Soviet Food Commissar, writing to his superiors with a great sense of importance: “We can now present smashing new evidence that reducing sustainability incentives such as land ownership, impairs long-term output!”
Okay, maybe a Soviet Commissar wouldn’t have used the word smashing (unless he was referring to le resistance, of course) but otherwise I think it’s quite dead on.
These authors write that:
“Our empirical analysis lends considerable support to the Minsky-Kindleberger view of financial crises as ‘credit booms gone wrong’ ”
http://blogs.ft.com/economistsforum/2009/11/credit-booms-gone-bust/
They obviously have never heard of Mises’ theory !
Prychitko has shown in a recent and very interesting paper in the ‘Austrian Review of Economics’ that Minsky’s theory explains some aspects of a crisis, but does not go deep enough when compared to Mises’.
I can recommend this article.
http://www.scribd.com/doc/23425305/This-Time-is-Different
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