Central banks, regulators and governments share the main blame for the financial crisis. But, as Charles Morris's book makes clear, the financial sector will have to accept significant new constraintsby George Magnus / June 29, 2008 / Leave a comment
The Trillion Dollar Meltdown by Charles Morris (PublicAffairs, £13.99)
J K Galbraith once observed that all financial crises produce similar responses: someone has to be blamed; there is a headlong rush to regulate and reform; and, amid the intense focus on the idiosyncrasies of the crisis, the thing that actually caused it all in the first place—speculation—gets overlooked. The celebrated economist, who died just over two years ago, would have recognised the credit crisis that began last year, and its aftermath, as entirely typical.
Accusations and the rush to regulate are all around, but there is little discussion about how we allowed speculative fever in housing and financial markets to become so intense that it turned into a bust.
With The Trillion Dollar Meltdown, Charles Morris has made one of the first efforts to explain why the credit bubble was allowed to inflate so grossly. If his book has a defect, it is that it focuses too narrowly on the US. This is a western financial crisis, if not quite a global one. But this should not detract from his achievement. Morris sets out to explain to a layman how esoteric problems in US mortgage financing in early 2007 exploded into a major credit crunch. To do this, one needs context: much of the book is devoted to examining the key political and economic shifts since the 1970s.
Morris’s assessment of the scale of the financial damage—the $1 trillion of the title—may seem big, but it is fast becoming accepted wisdom. The IMF recently produced a comparable estimate, although the banking industry is still lagging behind with a consensus figure of about $600bn. In the end, a full measurement of the crisis can only be made once we have accounted fully for future asset price changes, including the eventual decline in house prices and the costs associated with a recession or economic slowdown. Once all these numbers are in, Morris’s trillion may actually end up being an underestimate.
So in the long history of financial crises, this looks to be a biggie, and will take a long time to clean up. $1 trillion represents over 7 per cent of annual US GDP. The rescue of America from financial crisis in the 1980s, involving its so-called savings and loan associations, cost about 2.5 per cent of GDP, while Japan’s banking crisis in the 1990s cost about 10 per cent of…