Debtwatch No. 42: The economic case against Bernanke

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The US Senate should not reappoint Ben Bernanke. As Obama's reaction to the loss of Ted Kennedy's seat showed, real change in policy only occurs after political scalps have been taken. An economic scalp of this scale might finally shake America from the unsustainable path that reckless and feckless Federal Reserve behavior set it on over 20 years ago.

Some may think this would be an unfair outcome for Bernanke. It is not. There are solid economic reasons why Bernanke should pay the ultimate political price.

Haste is necessary, since Senator Reid's proposal to hold a cloture vote could result in a decision as early as this Wednesday, and with only 51 votes being needed for his reappointment rather than 60 as at present. This document will therefore consider only the most fundamental reason not to reappoint him, and leave additional reasons for a later update.

Misunderstanding the Great Depression

Bernanke is popularly portrayed as an expert on the Great Depression—the person whose intimate knowledge of what went wrong in the 1930s saved us from a similar fate in 2009.

In fact, his ignorance of the factors that really caused the Great Depression is a major reason why the Global Financial Crisis occurred in the first place.

The best contemporary explanation of the Great Depression was given by the US economist Irving Fisher in his 1933 paper "The Debt-Deflation Theory of Great Depressions". Fisher had previously been a cheerleader for the Stock Market bubble of the 1930s, and he is unfortunately famous for the prediction, right in the middle of the 1929 Crash, that it was merely a blip that would soon pass:

“ Stock prices have reached what looks like a permanently high plateau. I do not feel that there will soon, if ever, be a fifty or sixty point break below present levels, such as Mr. Babson has predicted. I expect to see the stock market a good deal higher than it is today within a few months.”  (Irving Fisher, New York Times, October 15 1929)

When events proved this prediction to be spectacularly wrong, Fisher to his credit tried to find an explanaton. The analysis he developed completely inverted the economic model on which he had previously relied.

His pre-Great Depression model treated  finance as just like any other market, with supply and demand setting an equilibrium price. In building his models, he made two assumptions to handle the fact that, unlike the market for, say, apples, transactions in finance markets involved receiving something now (a loan) in return for payments made in the future. Fisher assumed

“ (A) The market must be cleared—and cleared with respect to every interval of time.

(B) The debts must be paid.”  (Fisher 1930, The Theory of Interest, p. 495)[1]

I don't need to point out how absurd those assumptions are, and how wrong they proved to be when the Great Depression hit—Fisher himself was one of the many whose fortunes were wiped out by margin calls they were unable to meet.  After this experience, he realized that his equilibrium assumption blinded him to the forces that led to the Great Depression. The real action in the economy occurs in disequilibrium:

We may tentatively assume that, ordinarily and within wide limits, all, or almost all, economic variables tend, in a general way, toward a stable equilibrium... But the exact equilibrium thus sought is seldom reached and never long maintained. New disturbances are, humanly speaking, sure to occur, so that, in actual fact, any variable is almost always above or below the ideal equilibrium...

It is as absurd to assume that, for any long period of time, the variables in the economic organization, or any part of them, will "stay put," in perfect equilibrium, as to assume that the Atlantic Ocean can ever be without a wave. (Fisher 1933, p. 339)

A disequilibrium-based analysis was therefore needed, and that is what Fisher provided. He had to identify the key variables whose disequilibrium levels led to a Depression, and here he argued that the two key factors were "over-indebtedness to start with and deflation following soon after". He ruled out other factors—such as mere overconfidence—in a very poignant passage, given what ultimately happened to his own highly leveraged  personal financial position:

I fancy that over-confidence seldom does any great harm except when, as, and if, it beguiles its victims into debt. (p. 341)

Fisher then argued that a starting position of over-indebtedness and low inflation in the 1920s led to a chain reaction that caused the Great Depression:

"(1) Debt liquidation leads to distress selling and to

(2) Con­trac­tion of deposit cur­rency, as bank loans are paid off, and to a slow­ing down of veloc­ity of cir­cu­la­tion. This con­trac­tion of deposits and of their veloc­ity, pre­cip­i­tated by dis­tress sell­ing, causes

(3) A fall in the level of prices, in other words, a swelling of the dol­lar. Assum­ing, as above stated, that this fall of prices is not inter­fered with by refla­tion or oth­er­wise, there must be

(4) A still greater fall in the net worths of busi­ness, pre­cip­i­tat­ing bank­rupt­cies and

(5) A like fall in prof­its, which in a “cap­i­tal­is­tic,” that is, a private-profit soci­ety, leads the con­cerns which are run­ning at a loss to make

(6) A reduc­tion in out­put, in trade and in employ­ment of labor. These losses, bank­rupt­cies, and unem­ploy­ment, lead to

(7) Pes­simism and loss of con­fi­dence, which in turn lead to

(8) Hoard­ing and slow­ing down still more the veloc­ity of cir­cu­la­tion. The above eight changes cause

(9) Com­pli­cated dis­tur­bances in the rates of inter­est, in par­tic­u­lar, a fall in the nom­i­nal, or money, rates and a rise in the real, or com­mod­ity, rates of inter­est.” (p. 342)

Fisher con­fi­dently and sen­si­bly con­cluded that “Evi­dently debt and defla­tion go far toward explain­ing a great mass of phe­nom­ena in a very sim­ple log­i­cal way”.

So what did Ben Bernanke, the alleged mod­ern expert on the Great Depres­sion, make of Fisher’s argu­ment? In a nut­shell, he barely even con­sid­ered it.

Bernanke is a lead­ing mem­ber of the “neo­clas­si­cal” school of eco­nomic thought that dom­i­nates the aca­d­e­mic eco­nom­ics pro­fes­sion, and that school con­tin­ued Fisher’s pre-Great Depres­sion tra­di­tion of analysing the econ­omy as if it is always in equilibrium.

With his neo­clas­si­cal ori­en­ta­tion, Bernanke com­pletely ignored Fisher’s insis­tence that an equilibrium-oriented analy­sis was com­pletely use­less for analysing the econ­omy. His sum­mary of Fisher’s the­ory (in his Essays on the Great Depres­sion) is a barely recog­nis­able par­ody of Fisher’s clear argu­ments above:

Fisher envi­sioned a dynamic process in which falling asset and com­mod­ity prices cre­ated pres­sure on nom­i­nal debtors, forc­ing them into dis­tress sales of assets, which in turn led to fur­ther price declines and finan­cial dif­fi­cul­ties. His diag­no­sis led him to urge Pres­i­dent Roo­sevelt to sub­or­di­nate exchange-rate con­sid­er­a­tions to the need for refla­tion, advice that (ulti­mately) FDR fol­lowed. (Bernanke 2000, Essays on the Great Depres­sion, p. 24)

This “sum­mary” begins with falling prices, not with exces­sive debt, and though he uses the word “dynamic”, any idea of a dis­e­qui­lib­rium process is lost. His very next para­graph explains why. The neo­clas­si­cal school ignored Fisher’s dis­e­qui­lib­rium foun­da­tions, and instead con­sid­ered debt-deflation in an equi­lib­rium frame­work in which Fisher’s analy­sis made no sense:

Fisher’ s idea was less influ­en­tial in aca­d­e­mic cir­cles, though, because of the coun­ter­ar­gu­ment that debt-deflation rep­re­sented no more than a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors). Absent implau­si­bly large dif­fer­ences in mar­ginal spend­ing propen­si­ties among the groups, it was sug­gested, pure redis­tri­b­u­tions should have no sig­nif­i­cant macro­eco­nomic effects. ” (p. 24)

If the world were in equi­lib­rium, with debtors car­ry­ing the equi­lib­rium level of debt, all mar­kets clear­ing, and all debts being repaid, this neo­clas­si­cal con­clu­sion would be true. But in the real world, when debtors have taken on exces­sive debt, where the mar­ket doesn’t clear as it falls and where numer­ous debtors default, a debt-deflation isn’t merely “a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors)”, but a huge shock to aggre­gate demand.

Cru­cially, even though Bernanke notes at the begin­ning of his book that “the premise of this essay is that declines in aggre­gate demand were the dom­i­nant fac­tor in the onset of the Depres­sion” (p. ix), his equi­lib­rium per­spec­tive made it impos­si­ble for him to see the obvi­ous cause of the decline: the change from ris­ing debt boost­ing aggre­gate demand to falling debt reduc­ing it.

In equi­lib­rium, aggre­gate demand equals aggre­gate sup­ply (GDP), and defla­tion sim­ply trans­fers some demand from debtors to cred­i­tors (since the real rate of inter­est is higher when prices are falling). But in dis­e­qui­lib­rium, aggre­gate demand is the sum of GDP plus the change in debt. Ris­ing debt thus aug­ments demand dur­ing a boom; but falling debt sub­stracts from it dur­ing a slump

In the 1920s, pri­vate debt reached unprece­dented lev­els, and this ris­ing debt was a large part of the appar­ent pros­per­ity of the Roar­ing Twen­ties: debt was the fuel that made the Stock Mar­ket soar. But when the Stock Mar­ket Crash hit, debt reduc­tion took the place of debt expan­sion, and reduc­tion in debt was the source of the fall in aggre­gate demand that caused the Great Depression.

Fig­ure 1 shows the scale of debt dur­ing the 1920s and 1930s, ver­sus the level of nom­i­nal GDP.

Fig­ure 1: Debt and GDP 1920–1940

Fig­ure 2 shows the annual change in pri­vate debt and GDP, and aggre­gate demand (which is the sum of the two). Note how much higher aggre­gate demand was than GDP dur­ing the late 1920s, and how aggre­gate demand fell well below GDP dur­ing the worst years of the Great Depression.

Fig­ure 2: Change in Debt and Aggre­gate Demand 1920–1940

Fig­ure 3 shows how much the change in debt con­tributed to aggre­gate demand—which I define as GDP plus the change in debt (the for­mula behind this graph is “The Change in Debt, divided by the Sum of GDP plus the Change in Debt”).

Fig­ure 3: Debt con­tri­bu­tion to Aggre­gate Demand 1920–1940

So dur­ing the 1920s boom, the change in debt was respon­si­ble for up to 10 per­cent of aggre­gate demand in the 1920s. But when delever­ag­ing began, the change in debt reduced aggre­gate demand by up to 25 per­cent. That was the real cause of the Great Depression.

That is not a chart that you will find any­where in Bernanke’s Essays on the Great Depres­sion. The real cause of the Great Depres­sion lay out­side his view, because with his neo­clas­si­cal eyes, he couldn’t even see the role that debt plays in the real world.

Bernanke’s fail­ure

If this were just about the inter­pre­ta­tion of his­tory, then it would be no big deal. But because they ignored the obvi­ous role of debt in caus­ing the Great Depres­sion, neo­clas­si­cal econ­o­mists have stood by while debt has risen to far higher lev­els than even dur­ing the Roar­ing Twenties.

Worse still, Bernanke and his pre­de­ces­sor Alan Greenspan oper­ated as vir­tual cheer­lead­ers for ris­ing debt lev­els, jus­ti­fy­ing every new debt instru­ment that the finance sec­tor invented, and every new tar­get for lend­ing that it iden­ti­fied, as improv­ing the func­tion­ing of mar­kets and democ­ra­tiz­ing access to credit.

The next three charts show what that dere­lic­tion of reg­u­la­tory duty has led to. Firstly, the level of debt has once again risen to lev­els far above that of GDP (Fig­ure 4).

Fig­ure 4: Debt and GDP 1990–2010

Sec­ondly the annual change in debt con­tributed far more to demand dur­ing the 1990s and early 2000s than it ever had dur­ing the Roar­ing Twen­ties. Demand was run­ning well above GDP ever since the early 1990s (Fig­ure 5). The annual increase in debt accounted for 20 per­cent or more of aggre­gate demand on var­i­ous occa­sions in the last 15 years, twice as much as it had ever con­tributed dur­ing the Roar­ing Twenties.

Fig­ure 5: Change in Debt and Aggre­gate Demand 1990–2010

Thirdly, now that the debt party is over, the attempt by the pri­vate sec­tor to reduce its gear­ing has taken a huge slice out of aggre­gate demand. The reduc­tion in aggre­gate demand to date hasn’t reached the lev­els we expe­ri­enced in the Great Depression—a mere 10% reduc­tion, ver­sus the over 20 per­cent reduc­tion dur­ing the dark days of 1931–33. But since debt today is so much larger (rel­a­tive to GDP) than it was at the start of the Great Depres­sion, the dan­gers are either that the fall in demand could be steeper, or that the decline could be much more drawn out than in the 1930s.

Fig­ure 6: Debt con­tri­bu­tion to Aggre­gate Demand 1990–2010


Bernanke, as the neo­clas­si­cal econ­o­mist most respon­si­ble for bury­ing Fisher’s accu­rate expla­na­tion of why the Great Depres­sion occurred, is there­fore an emi­nently suit­able tar­get for the polit­i­cal sac­ri­fice that Amer­ica today des­per­ately needs. His extreme actions once the cri­sis hit have helped reduce the imme­di­ate impact of the cri­sis, but with­out the igno­rance he helped spread about the real cause of the Great Depres­sion, there would not have been a cri­sis in the first place. As I will also doc­u­ment in an update in early Feb­ru­ary, some of his advice has made America’s recov­ery less effec­tive than it could have been.

Obama came to office promis­ing change you can believe in. If the Sen­ate votes against Bernanke’s reap­point­ment, that change might finally start to arrive.


This is an advance ver­sion of my monthly Debt­watch Report for Feb­ru­ary 2010. Click here for the PDF ver­sion. Please feel free to dis­trib­ute this to any­one you think may be interested–especially peo­ple who may be in a posi­tion to influ­ence the Senate’s vote.

Pro­fes­sor Steve Keen

[1] This book was an untimely relaunch of his 1907 PhD thesis.

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368 Responses to Debtwatch No. 42: The economic case against Bernanke

  1. pamery says:

    Steve the title of fig­ure 5 has the incor­rect date range. Thanks oth­er­wise for a sober­ing sum­mary of what awaits us, Bernanke or not. Greet­ings from Lon­don. Paul Amery

  2. Donlast says:

    If you want more rea­sons why Mr Bernanke should not be re-apointed go to Brad De Long’s web­site today. He has a Fed insider ratio­nal­is­ing the Fed’s stance on bub­bles and other issues. Incroyable!

  3. johngn888 says:

    Thanks for writ­ing this up. One thing I don’t quite under­stand. You say that Bernanke could have been more effec­tive at deal­ing with the cri­sis. He has tried to pre­vent debt-deflation. But is that in your view a long term solu­tion? Will we even­tu­ally deflate/depress busi­ness even more at a later date? If not, why?

    thanks again Prof Keen.

  4. robjoh says:


    As Pamery states, wrong title on fig­ure 5 or wrong fig­ure 5.

    Oth­er­wise a very good post, the only thing I miss is what we should do instead.

    Great­ings from Swe­den
    Robert Johansson

  5. Frank says:

    Every­time I come here I breathe a sigh of relief at the down to earth com­mon sense and no-nonsense ratio­nal­ity of this site. Thank good­ness for Steve Keen and(/or?) the Aus­tralian approach to things.

  6. David Colquitt49 says:

    Steve, I agree but surely the Amer­i­can peo­ple should address the real prob­lem; in 1913 they lost con­trol of the issuance of their cur­rency to a cabal of world bankers. Wil­son later admit­ted he had made a grave mis­take while Lin­coln would have rolled in his grave. Abol­ish the Fed.

  7. Steve Keen says:

    Thanks for that pamery, it’s now fixed on the blog and I’ll post an updated ver­sion of the PDF in a few minutes.

    Please dis­trib­ute it as widely as pos­si­ble every­one; there’s a real chance to derail Bernanke’s reap­point­ment this week, and my extra argu­ment as to why that would be a good thing could help sway a vote or two in the Sen­ate if it gets into the right hands.

  8. Steve Keen says:

    Hi johngn888,

    The main issue there is giv­ing the money to the banks rather than to the pub­lic as in Australia’s stim­u­lus pack­age. When I run the update next week I’ll include a sim­u­la­tion that shows giv­ing funds to the pub­lic is much more effec­tive in a credit crunch than giv­ing it to the banks.

    I believe defla­tion is the likely medium term out­come, as with Japan. Ulti­mately the sys­tem has to be righted by a mas­sive rebal­anc­ing of fiat to credit money, how­ever that hap­pens; my expec­ta­tion is that it will be via defla­tion rather than inflation.

  9. Gamma says:

    I don’t see any­thing in the analy­sis which gives any rea­sons why delever­ag­ing will result in true defla­tion (ie gen­er­alised price decreases) rather than asset-specific price deflation.

    After all, the lever­ag­ing period (specif­i­cally over the last 10–15 years), has not seen gen­er­alised price increases, but rather asset price increases. So isn’t it pos­si­ble we will see the reverse dur­ing the delever­ag­ing period?

    I think true defla­tion is an unlikely scenario.

  10. ak says:

    Below is what Bernanke wrote on 2009/07/21 in the con­text of wor­ries about infla­tion. He clearly believes in the money mul­ti­plier the­ory. He thinks that it should work but the impact has been very limited.

    Since the onset of the finan­cial cri­sis nearly two years ago, the Fed­eral Reserve has reduced the interest-rate tar­get for overnight lend­ing between banks (the federal-funds rate) nearly to zero. We have also greatly expanded the size of the Fed’s bal­ance sheet through pur­chases of longer-term secu­ri­ties and through tar­geted lend­ing pro­grams aimed at restart­ing the flow of credit.
    These actions have soft­ened the eco­nomic impact of the finan­cial cri­sis. They have also improved the func­tion­ing of key credit mar­kets, includ­ing the mar­kets for inter­bank lend­ing, com­mer­cial paper, con­sumer and small-business credit, and res­i­den­tial mort­gages.“

    “When the Fed makes loans or acquires secu­ri­ties, the funds enter the bank­ing sys­tem and ulti­mately appear in the reserve accounts held at the Fed by banks and other depos­i­tory insti­tu­tions. These reserve bal­ances now total about $800 bil­lion, much more than nor­mal. And given the cur­rent eco­nomic con­di­tions, banks have gen­er­ally held their reserves as bal­ances at the Fed.
    But as the econ­omy recov­ers, banks should find more oppor­tu­ni­ties to lend out their reserves. That would pro­duce faster growth in broad money (for exam­ple, M1 or M2) and eas­ier credit con­di­tions, which could ulti­mately result in infla­tion­ary pressures—unless we adopt coun­ter­vail­ing pol­icy mea­sures. When the time comes to tighten mon­e­tary pol­icy, we must either elim­i­nate these large reserve bal­ances or, if they remain, neu­tral­ize any poten­tial unde­sired effects on the economy.”

  11. Steve Keen says:

    Hi David,

    I’m in favour of abol­ish­ing the Fed’s abil­ity to be any­thing other than a clear­ing house between banks, but I don’t believe that the pub­lic can ever be in charge of cur­rency issuance in a world with pri­vate bank­ing. As I note in my reform pro­pos­als, I’d rather try to make tak­ing on debt for lever­aged spec­u­la­tion unat­trac­tive than try to reform the nature of banking.

  12. Goldilocksisableachblond says:


    I’d like to sug­gest an addi­tional graph to add to your pre­sen­ta­tions to clar­ify the impact of debt on GDP growth. Here’s an exam­ple , using the well-known Shad­ow­stats analy­sis of CPI cal­cu­la­tion “lies”. ( Note : I’m only using this as an exam­ple of data pre­sen­ta­tion , not to sug­gest that the CPI data as cor­rected by Shad­ow­stats is the “right” data.)

    Here’s a graph from Shad­ow­stats , show­ing the year-by-year dif­fer­en­tial in GDP between the offi­cial stats and his own data , cor­rected for the phoney CPI calcs :

    There’s noth­ing wrong with this graph , but I don’t think it has nearly the impact of this one from itulip , which uses the same data , pre­sented in a ‘clas­si­cal’ GDP-growth-over-time format :

    Just eye­balling your Fig. 5 above , it looks like if you net­ted out added pri­vate debt from the offi­cial GDP , you’d end up with a peak GDP of $10–11 tril­lion , rather than $14 tril­lion. Even if you ( more con­ser­v­a­tively ) net­ted out 60–70% of the added debt , the reduc­tion would still be sub­stan­tial and , of course , the fur­ther back in time you go , the more it adds up.

    The end result of this cal­cu­la­tion might pro­vide a rea­son­able sti­mate of what real GDP in the U.S. will look like in com­ing years , assum­ing total — pub­lic plus pri­vate — debt/GDP lev­els stabilize.

    Of course growth of pub­lic debt/GDP lev­els over the last few decades makes our cur­rent sit­u­a­tion look even worse. I know you intend to include pub­lic debt in your mod­els going for­ward , but it’s worth not­ing that the pri­vate debt lev­els prob­a­bly under­states the recent “debt-dependence” of U.S. eco­nomic growth.

  13. Goldilocksisableachblond says:

    I for­got to men­tion that I intend to for­ward your pdf to my Sen­a­tors. I just emailed them on Fri­day to sug­gest vot­ing “No” on Bernanke , but this will make a nice followup.

  14. Willy2 says:

    Mr. Keen,

    There was — at least — some­one who saw already in 2005 what was com­ing. One Alan Greenspan !!!

    “We’ve lost con­trol over the bud­get”“

    And you think Greenspan never ever dis­cussed this with Bernanke ?

    And that’s the take of mr. Michael Hud­son ( as well. See the front­page of his web­site. But there was a clear rea­son to keep print­ing money like there’s no tomor­row: the socalled PETRODOLLAR, the war in Iraq and Afghanistan.
    Didn’t you read the book ““Super­impe­ri­al­ism”” by mr. Michael Hud­son ? It’s avail­able on his web­site. (it requires some digging)

    There was a clear rea­son Greenspan low­ered agres­sively rates from 6% to 1%. Lend­ing broke down in the US in early 2001. This was a severe ““Credit Crunch””. And that was only two or three months after octo­ber 2000 when every­one who wanted to buy iraqi oil had to pay for that oil in Euro’s instead of USDs. (Coin­ci­dence ??? No way !!) That was sim­ply the last straw on the break­ing back of the camel. And Greenspan started to raise inter­e­strates in 2004 when he saw that lend­ing started to pick up again. I still have a graph of that.

    But I think there’s one MAJOR flaw in this entire USD Ponzi-scheme. The assump­tion that for­eign­ers always will use their USDs to buy US Trea­suries or Agency paper. For­eign­ers can also choose to sit on their pile of USD cash. That’s what hap­pened in the late 1970s when Europe called America’s bluff. And it seems the chi­nese are about to do the same thing. (i.e. stop or reduce buy­ing US Trea­suries). See the lat­est TIC data !

    It seems that:
    1. Sum­mers and Gei­th­ner are ““on the way out”“
    2. Vol­cker and Don­ald­son are ““already in con­trol””.–1

  15. Steve Keen says:

    Fea­si­ble Goldi, but I’ll have to see if I have time as I write the update for next week. I have a trip to Bangkok to meet with the UNEP and CSIRO to focus on in the meantime.

  16. Steve Keen says:

    Excellent–the more Sen­a­tors who start to ques­tion whether Bernanke is actu­ally an expert on the Great Depres­sion, the better!

  17. Goldilocksisableachblond says:

    A good piece in the FT today , apro­pos to Steve’s post , com­par­ing the U.S.housing busts of the GD vs. the GFC , and not­ing the fail­ures of the Fed :

    Hous­ing, depres­sions and credit collapses”


    The les­son is not just that the Fed failed to antic­i­pate the col­lapse in the bub­ble: it also didn’t fore­see its dev­as­tat­ing con­se­quences. This is reflected in the can­did com­ment last year by Fed Vice Chair­man Don­ald Kohn (Cato Jour­nal): “I and other observers under­es­ti­mated the poten­tial for house prices to decline sub­stan­tially, the degree to which such a decline would cre­ate dif­fi­cul­ties for home­own­ers, and, most impor­tant, the vul­ner­a­bil­ity of the broader finan­cial sys­tem to these events.”

  18. stf says:

    Great blog­post, Steve!

  19. GSM says:


    Thanks once again for a clear, sim­ple and log­i­cal expla­na­tion of events that got us to this GFC.

    Can I humbly point to another dan­ger which I hope and trust you will be keep­ing your eyes on?;

    But since debt today is so much larger (rel­a­tive to GDP) than it was at the start of the Great Depres­sion, the dan­gers are either that the fall in demand could be steeper, or that the decline could be much more drawn out than in the 1930s.”

    In their ego­tis­ti­cal desires to become re-elected, Govts will attempt to oppose all efforts to delever. They have no choice really. To allow delever­ag­ing to occur, Govts are in essence admit­ting that it was the debt (and its atten­dant loose poli­cies which they actively encour­aged) that has brought about the GFC and so much pub­lic hard­ship. So, Govts will be sorely tempted to dra­mat­i­cally and con­tin­u­ously increase their own lev­els of debt fuelled spend­ing as an off­set to the with­drawal of the pri­vate sec­tor. It could be that the real Cri­sis is ahead of us with Sov­er­eign debt defaults being the big ham­mer to drop.

  20. Karmaisking says:


    Couldn’t agree more. With this insane sys­tem we’re in, like a shark, debt lev­els need to con­stantly increase or the sys­tem dies (due to Fisher’s debt defla­tion the­sis, or Mises’ “crack up boom” — both talk about exactly the same con­se­quence of unsus­tain­able debt).

    Ice­land, Dubai, Ire­land, Greece, Por­tu­gal, heck, even the UK all have mas­sive govt debt loads now. When govt bonds yields spike or there’s a cur­rency cri­sis, these coun­tries will be on fire.

    I sup­port a free mar­ket in money (ie a return to a pre­cious met­als based mon­e­tary sys­tem) and nation­al­i­sa­tion, then a break up of all TBTF banks, then the elim­i­na­tion of the lender of last resort func­tion from cen­tral banks to remove the moral haz­ard issue that infests the sys­tem at present.

    I guar­an­tee these are the only viable long term solu­tions (regard­less of the short term pain of adjust­ing to a defla­tion­ary mon­e­tary sys­tem). The longer the cur­rent insane sys­tem drags on like a zom­bie the more govt and pub­lic debt, the more mal­in­vest­ments, the more unem­ploy­ment when even govt employ­ees have to be laid off and pub­lic ser­vices are wiped out (like in Ice­land today).

    Financ­ing “con­sump­tion” through debt is a recipe for dis­as­ter and govts are now financ­ing health care, and basic ser­vices (not cap­i­tal invest­ment!) with debt. This is yet another dis­as­ter in the mak­ing. I don’t they’ll be able to blame “the free mar­ket” this time around.

  21. Karmaisking says:

    I doubt”

  22. noah cross says:

    Bill Mitchell exam­ines Bernanke’s record on his post yesterday -

    The Great Mod­er­a­tion myth

  23. GSM says:


    From the prior thread;
    “How do you cre­ate all these jobs ‘and have them pro­duc­tive’, if you have at least a gen­er­a­tion whose prin­ci­pal skills are
    “shuf­fling paper’?”

    My sense is that pro­duc­tiv­ity will be of sec­ondary con­cern. The head­line Job­less­ness will be all that mat­ters to Obama’s admin­is­tra­tion come end 2010 and beyond. We can expect to see mas­sive pub­lic renewal and con­struc­tion pro­grams com­bined, I sus­pect, with a much higher level of protectionism.All of it funded by mon­e­ti­za­tion of new debt. If we have con­cerns about the sta­tus of Sov­er­eign debt now, it will be noth­ing com­pared to what it will be in a cou­ple of years.

  24. TheAntipodean says:

    Long­time lis­tener, first­time caller.
    Another eru­dite con­tri­bu­tion thank you.
    It was your much sim­pler com­ments on the pro­gres­sive tight­en­ing of Westpac’s LVR reported in the main­stream media today that will finally give you the credit you deserve. I think that the Great Unwashed are finally wak­ing up to the fact that debts must be repaid, and that the orgy of cheap debt is over.
    May you con­tinue to receive the kudos you deserve.

  25. Goldilocksisableachblond says:


    One minor quib­ble I have with your post:

    Bernanke said :

    Fisher’ s idea was less influ­en­tial in aca­d­e­mic cir­cles, though, because of the coun­ter­ar­gu­ment that debt-deflation rep­re­sented no more than a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors). Absent implau­si­bly large dif­fer­ences in mar­ginal spend­ing propen­si­ties among the groups, it was sug­gested, pure redis­tri­b­u­tions should have no sig­nif­i­cant macro­eco­nomic effects. ”

    To which you coun­tered with:

    “If the world were in equi­lib­rium, with debtors car­ry­ing the equi­lib­rium level of debt, all mar­kets clear­ing, and all debts being repaid, this neo­clas­si­cal con­clu­sion would be true.”

    I don’t think Bernanke’s state­ment is nec­es­sar­ily true even in the ide­al­ized world he describes , because in an econ­omy with extreme lev­els of wealth and income inequal­ity ‚such as the one that’s evolved in the U.S. over the last three decades , there are PLAUSIBLY large dif­fer­ences in mar­ginal spend­ing propen­si­ties. The after-tax mar­ginal propen­sity to con­sume for some­one like Bill Gates might be very near zero , while the same mea­sure for many in the bot­tom 90% of the income/wealth dis­tri­b­u­tion could approach 100%.

    Sim­ple , market-clearing dis­tri­b­u­tions from debtors to cred­i­tors would likely have sig­nif­i­cant impacts on aggre­gate demand , even if there were no defaults , just because of their con­tri­bu­tion to inequal­ity. On the other end of the spec­trum , the same process con­tributes to the phe­nom­e­non of “hot money” chas­ing global asset bub­bles , as many of these folks choose gam­bling over consumption.

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