Lehman Bros. failed 10 years ago. The U.S. economy was already in a recession, but Lehman’s fall and the chaos that followed sent it off a cliff: Six and a half million jobs would be lost during the next year. It was terrifying.
Still, we didn’t experience a full replay of the Great Depression, and some have argued that the system worked, in the sense that policymakers did what was needed to avoid catastrophe.
But this is only half right. We avoided utter disaster, but nonetheless experienced a huge, sustained employment slump, one that inflicted immense human and economic cost – and may well have helped set the stage for our current constitutional crisis. Why did the slump go on so long?
There are multiple answers, but the most important factor was politics – cynical, bad-faith obstructionism on the part of the Republican Party.
One crucial point I still don’t think is widely understood is that, scary and damaging though it was, the financial crisis – the disruption of credit markets that followed Lehman’s collapse – was quite brief. Measures of financial stress, which include things like interest rate spreads on risky assets, spiked for a few months but quickly returned to normal. The purely financial aspect of the crisis was basically over by the summer of 2009.
But the broader economic crisis went on much longer. Unemployment rose to almost 10 percent, then came down with painful slowness; it didn’t get back to 5 percent until seven years after Lehman’s fall. Why didn’t rapid financial recovery lead to rapid economic recovery?
At a basic level, the answer is that the financial crisis was only one symptom of a bigger problem: the collapse of a gigantic housing bubble. The bursting bubble exerted a powerful downdraft on the economy, both because it led to a plunge in residential investment and because it was a huge hit to household wealth, which reduced consumer spending.
What the crisis called for, then, were policies to boost spending, to offset the effects of the housing bust. But the normal response, cutting interest rates, wasn’t available because rates were already near zero. What we needed, instead, was fiscal stimulus: increased government outlays and tax cuts for lower- and middle-income families, who would be likely to spend them.
And we did indeed get substantial stimulus. But it wasn’t big enough, and even more important, it faded out much too fast. By 2013, with unemployment still above 7 percent, government at all levels was providing barely more economic support than it had in 2007, when the housing boom was still running strong.
Why did the response to a depressed economy fall short? We can debate endlessly whether the Obama administration could have gotten a bigger, more sustained stimulus through Congress; what’s clear is that some officials failed to see the need for stronger policies. When Christina Romer, the administration’s top economist, argued for more stimulus, Tim Geithner, the Treasury secretary, dismissed it as “sugar.”
Beyond that, efforts to fight unemployment had to deal with a bizarre Beltway consensus that despite high unemployment and record low interest rates, debt, not jobs, was the real problem.
But the most important reason the great slump lasted so long was scorched-earth Republican opposition to anything and everything that might have helped offset the fallout from the housing bust.
When I say “scorched earth,” I’m not being hyperbolic. Let’s not forget that in the summer of 2011 Republicans in Congress threatened to provoke a new financial crisis by refusing to raise the debt limit.
Their goal was to blackmail President Barack Obama into cutting spending at a time when unemployment was still 9 percent and U.S. real borrowing costs were close to zero.
Now, Republicans claimed that their opposition to anything that might limit mass unemployment was driven by a deep commitment to fiscal responsibility. But this was complete hypocrisy – something that was obvious to anyone who looked at the actual content of GOP budget proposals, which gave smoke and mirrors a bad name.
You had to be extremely credulous to take fake GOP deficit hawkery seriously; unfortunately, there were a lot of credulous pundits out there.
Anyway, the events of the past two years have made the reality of what happened crystal clear.
The very same politicians who piously declared that America couldn’t afford to spend money supporting jobs in the face of a deep, prolonged slump just rammed through a huge, deficit-exploding tax cut for corporations and the wealthy even though the economy is currently near full employment.
No, they haven’t abandoned their commitment to fiscal responsibility; they never cared about deficits in the first place.
So if you want to understand why the great slump that began in 2008 went on so long, blighting so many American lives, it is politics.
Specifically, policy failed because cynical, bad-faith Republicans were willing to sacrifice millions of jobs rather than let anything good happen to the economy while a Democrat sat in the White House.
Paul Krugman is a columnist for The New York Times. Reach him c/o The New York Times, Editorial Department, 620 8th Ave., New York.