Is the Crisis Real?
At a Harvard panel discussion yesterday, [correction**] Gregory Mankiw--Harvard economist and Chair of the President's Council of Economic Advisers 2003-2005, made an interesting point: The liquidity crisis isn't real. Or, to restate it: Any liquidity crisis is caused by the promise of a government bailout. Greg said that his many friends in investment banking said that there is plenty of money to invest in financial services, but right now it is "sitting on the sidelines." Why? Because the financial services industry does not want to pay the terms required to get that money back in circulation (e.g., give up equity). As he put it, why do business with Warren Buffett who will negotiate a tough deal, if you believe that the government will ride in soon with cheaper cash?
Economics professor Ken Rogoff also talked about the need to shrink the financial services sector. He thinks it is good that the investment banking houses are failing and many people on Wall Street are losing their jobs because, in his view, we have an oversupply in that sector and our economy just can't support it.
Greg's work with the current administration and Ken's background with the IMF and on the Board of the Federal Reserve add a certain credibility to their assessments of conditions on Wall Street. If they are right, the $700 bailout is saving some investment bankers' jobs in the short term, but overall it is just making the financial system worse.
It was a terrific panel: Nobel winner Robert Merton, Dean of the Harvard Business School Jay Light, Robert Kaplan--Harvard Business School and long-time Goldman Sachs partner, and me. It might be worth listening to some of the webcast (I repaired the link).
If you tune in, don't miss Greg's talk (fourth of the six) and Ken's talk (fifth of the six of us). They are calm and funny, but they make the whole rush to bailout Wall Street look like a very bad idea.
[Note: I corrected this post. I had not given proper attribution to Greg Mankiw, formerly of the Bush Administration. I've corrected the post to sort out Greg's comments and Bob's comments. Thanks for the careful help from others who read the post.]