Two Hundred Years of Financial Crises
By Richard Vague
University of Pennsylvania Press. 228 pp. $29.95
Reviewed by Joseph N. DiStefano
Is economics science? If so, why is there so much confusion over the basic causes and effects of prosperity and decline?
Richard Vague, the mass-marketing mogul turned Philadelphia investor-philanthropist-policy scholar, convened a team of researchers to measure economic downturns in the United States and the largest countries of Western Europe and East Asia, and found a pattern you might not recognize from college textbooks or cable-TV debates: Private debt — consumer and business borrowing — tends to surge before economic decline.
It’s not a unique view. Vague notes the economist Hyman Minsky, who died in 1996, made similar observations about overlending and recession. But the mainstream of American economists and other moralizers — for example, ex-Federal Reserve chief Alan Greenspan in his recent book Capitalism in America — have tended to treat private debt explosions and bankruptcies that bring real-life pain to millions as mere symptoms, resulting from higher-level problems. These include changes in the money supply (whether based on gold or central-bank fiat), bad leader policies (like high tariffs or too many wars), or natural variations in credit supply and demand.
Vague’s boom-and-bust chapters sketch the Jazz Age housing and stock credit boom that fed America’s Great Depression of the 1930s (which left a third of U.S. homeowners behind on their loans and closed 40 percent of U.S. banks); the leveraged-buyout craze that blew up in the 1980s S&L crisis; Japan’s real estate “bubble economy" and its long, slow recovery; the Anglo-American speculative financing crisis of the mid-1800s; the late-1800s epic of railroad overbuilding; and finally the 2008 financial crisis fed by shaky mortgage finance.
So who persuades these hopeful families and those sober business owners to over-borrow? Vague and his crew identify a relentless personal and business credit cycle that passes through stages of scarcity, sobriety, and sustained prosperity before exploding and repeating.
Left to their own devices, groups of banks and other lenders can be counted on to encourage developers, homebuyers, and businesses to borrow higher, riskier, and (for the lender) more lucrative sums. They overbuild industries and communities. They do this because they can make a lot of money selling into a boom, whether or not it’s sustainable.
So property prices inflate; investment returns fall; then prices stall, growth stops, more borrowers can’t pay back, the shakiest lenders fail, and the nation slips into recession, or worse. Government typically answers by fumbling through temporary relief spending programs, and by stiffening capital requirements and stifling loans to marginal borrowers, until growth becomes normal again and warnings fade, and the costly cycle repeats, Vague and his collaborators argue in closely written chapters.
It’s all a bit personal for Vague, who isn’t just a scholar but also a past practitioner: He contributed to prior rounds of debt expansion as he built what’s now JPMorgan Chase & Co.’s industry-leading credit card business, among his other mass-marketing exploits.
This is a book with special resonance in Trump-times. The last few generations of Republican conservatives used to insist that too much government debt is an evil that feeds price inflation and economic stagnation and is best avoided.
By contrast, under President Trump the budget deficit towers so high that rising interest rates will boost federal borrowing costs, squeezing Social Security, Medicare and military spending.
And yet even though — or because — Trump is scattering borrowed cash so far beyond what the IRS gathers in taxes, the economy is prosperous, employers are hiring at record levels, and consumer and business debt on the whole has not returned to the danger levels of the mid-2000s. The public-debt monster should scandalize old-school Republicans. But it doesn’t so much faze Vague, because private debt, with some exceptions, has not gotten so far out of hand. (He sees other threats to prosperity, such as global trade shocks and regional conflicts.)
Vague credits recession-tracking advisers such as Sherle Schwenninger, a founder of the Google-backed New America Foundation; the St. Louis Fed’s Center for Household Financial Stability; and the Institute for New Economics, whose backers include billionaire currency trader/liberal megadonor George Soros. Vague ran drafts past the University of Bonn’s Moritz Schularick, Australian neo-Keynsian Steve Keen, and Cornell’s Matthew Baron, among others, and hired journalists such as Inquirer and Wall Street Journal alumnus Don Steinberg, who helped make data-dense chapters flow.
The cure, for Vague and his collaborators, would be firm, simple, sustained regulation of lender capital so banks don’t wreck themselves and their clients — which could prove a recipe for slow growth, in our fast-aging society. Could we actually be better off with periodic booms and the opportunities they create?
But most Western governments aren’t good at sustained policy. Instead, they ease restrictions under pressure, then play catch-up when the economy stalls, moving in with extra public spending and rule-tightening until the next round.