Joseph Stiglitz is a Nobel laureate, a former chief economist of the World Bank and former chairman of Bill Clinton’s Presidential Council of Economic Advisors. His latest book, ‘Freefall’, is a worrying critique of the root causes of the Global Financial Crisis, and despite President Obama’s recent banking reforms, Joseph Stiglitz says it could happen again. The rest of this post excerpts an interview he gave three months ago to Kerry O’Brien of the Australian Broadcasting Corporation, where among other things, Joseph Stiglitz was predicting another US economic slowdown.

KERRY O’BRIEN: Joseph Stiglitz, if we can start with an up-to-date appraisal of the US economy: what is the state of the economy right now?

JOSEPH STIGLITZ: In a single word, weak, ah, and probably going to get weaker.

KERRY O’BRIEN: How serious is the risk of a double dip recession, if not this year, then next when the federal stimulus runs out?

JOSEPH STIGLITZ: It’s almost sure that growth in the United States is going to slow markedly. Whether it slows from where it was to one half per cent or one per cent or to minus one half per cent isn’t yet clear. I think what’s been happening in Europe has been increasing the likelihood that we go into a double dip, for two reasons: one, it means that global financial markets are in a little bit more unsettled state. But secondly, the US had hoped to export its way out of the recession through a weak dollar. We had a weak dollar policy. We didn’t call it that, but that’s what was going on. But, exchange rates are like negative beauty contests in the current context: who is the ugliest? And, we were winning, the US was winning hands down until this year and Europe’s financial troubles have put it in – have meant that it is doing much better in this negative beauty contest, so the dollar is stronger, and that’s gonna make it more difficult for the US to export and that’s going to mean that our economy is going to be all the weaker.

KERRY O’BRIEN: Now going back to last year, you were one of a handful of economists – literally a handful; I think there were five of you – called into the White House by President Obama in April last year to give your advice over dinner on what more needed to be done. Now, he wanted to hear from some of his critics. Did that conversation go anywhere?

JOSEPH STIGLITZ: Ah, no. Some of us warned of the risk of a slowdown and said, “You oughta be preparing the politics and the economics for a second round of a stimulus.” And, if you’re gonna do that, you have to be very careful in selling the first round of the stimulus and in making sure the banks do what they’re s’posed to do. Unfortunately, the – we do need a second round of the stimulus. Unfortunately, the politics are working against us and the likelihood of getting that second round is very dismal.

The other issue that was on the table was what to do about the banks. We had already, at that juncture, poured money, huge amounts of money, into the banks. Most of us were of the view that, if you needed another round of a bailout – hopefully that wouldn’t be the case – you had to do it a lot better than they had, because the banks have resumed their bonuses, profits from speculation, from trading are at very high levels and yet the supply of credit isn’t there.

KERRY O’BRIEN: So the banks got the money but credit didn’t restart.

JOSEPH STIGLITZ: Exactly. And unfortunately nothing was done about that.

KERRY O’BRIEN: President Obama has finally got a package of reforms through – regulatory reforms on the banks. Has he addressed the fundamental problems with those reforms?

JOSEPH STIGLITZ: I think they’ve made a big step forward in principle, and that’s what I think is so interesting about the bill. It will list a set of principles that I think, you know, to me, were a big step forward. But on almost every one of the principles, the banks came in with their political power and gutted or at least eviscerated the provision. Let me just give you an example: we said important for there to be transparency in financial markets, important for there to be transparency in derivatives. Remember, derivatives – the bailout of AIG was $180 billion. That’s an amount of money that’s hard to fathom. One company, and it was all caused by derivatives. So, everybody said we better regulate derivatives better, we oughta have more sunshine, we oughta have more transparency and they agreed on the principle, but 30 per cent of the market was exempt. Now, why? Why should you not have everything out in the sunshine? Not clear to me.

KERRY O’BRIEN: Too hard?

JOSEPH STIGLITZ: The obvious reason: politics. The influence of the banks. The most disappointing thing where they didn’t get the principle right was the too-big-to-fail banks.

KERRY O’BRIEN: Well President Obama said no longer will that be allowed to happen, where the banks are too big to fail. Now is that true?

JOSEPH STIGLITZ: No. I mean – and that statement was, to me, the biggest disappointment: his overselling what had been accomplished. What we did in the bill is to say, “The Government has more powers.” But the issue isn’t powers. If you’re too big to fail, government will bail you out and it will bail out the shareholders and the bondholders.

KERRY O’BRIEN: Can the whole thing happen again?

JOSEPH STIGLITZ: It can and it almost surely will happen again, because we didn’t deal with the problem of too-big-to-fail banks. It is one of the reasons why it will happen again. And we didn’t really deal effectively with all the kinds of excessive risk-taking, all the problems of lack of transparency that were at the core of this crisis. And so, yes, we understand what the issues are, we understand the issues better than we did three years ago, but politics intruded the power of the banks, was too great. They’re making $20 billion off of derivatives. So rather than lending, they’re engaged in all of these kinds of gambling and excessive risk-taking and generating large profits, but it’s not helping the American economy and it’s putting at risk American taxpayers.

KERRY O’BRIEN: In your view, how close did the global financial system genuinely come to a collapse?

JOSEPH STIGLITZ: That’s a good question, and I think it actually came very close to a collapse, and by that I mean the following. The various banks knew that they didn’t know their own balance sheet. They had engaged in this off-balance-sheet accounting, tricky accounting, deceptive accounting, to deceive their shareholders, the regulators, tax authorities, but they were so successful that they couldn’t tell what their …

KERRY O’BRIEN: They didn’t know themselves.

JOSEPH STIGLITZ: But that meant they knew that they couldn’t know the position of any other firm. Now, for our financial system …

KERRY O’BRIEN: What you’re saying is that the entire financial system was flying blind.

JOSEPH STIGLITZ: Exactly. And we saw that. I mean, one company, AIG, losing $180 billion and that was the company that was providing the insurance to all the other companies! So, what kept the system going was the belief that government would bail them out.

KERRY O’BRIEN: Has President Obama run out of options to prevent a double dip if one is underway? For instance, is there any stomach within Congress for a second round of stimulus?

JOSEPH STIGLITZ: I don’t think so. So I think you are right: that we’ve reached in some sense the end of the tether. Monetary policy has almost no power to stimulate the economy. The Federal Reserve already has on its books more than a trillion dollars of mortgages. We’ve become not the lender of last resort, but essentially the lender of first resort for the entire housing market of the United States. So – and we’re supposed to be exiting from that. So, monetary policy has reached its limits and unfortunately, fiscal policy has reached its limits.

KERRY O’BRIEN: I’m not sure how much you know about Australia’s stimulus packages in response to the crisis, but to the extent that you do, how did the quality of Australia’s stimulus compare with that in the US and elsewhere, in terms of its effectiveness?

JOSEPH STIGLITZ: I did actually study quite a bit the Australian package, and my impression was that it was the best – one of the best-designed of all the advanced industrial countries. When the crisis struck, you have to understand no-one was sure how deep, how long it would be. There was that moment of panic. Rightfully so, because the whole financial system was on the verge of collapse. In that context, what you need to act is decisively. If you don’t act decisively, you could get the collapse. It’s a one-sided risk.

KERRY O’BRIEN: There’s been a lot of criticism of waste in the way some of Australia’s stimulus money was spent. Is it inevitable if you’re going to spend a great deal of government money quickly that there will be some waste and can you ever justify wasting taxpayers’ money?

JOSEPH STIGLITZ: If you hadn’t spent the money, there would have been waste. The waste would have been the fact that the economy would have been weak, there would have been a gap between what the economy could have produced and what it actually produced – that’s waste. You would have had high unemployment, you would have had capital assets not fully utilised – that’s waste. So your choice was one form of waste verses another form of waste. And so it’s a judgment of what is the way to minimise the waste. No perfection here. And what your government did was exactly right. So, Australia had the shortest and shallowest of the downturns of the advanced industrial countries. And, ah, your recovery actually preceded the – in some sense, China. So there was a sense in which you can’t just say Australia recovered because of China. Your preventive action, you might say pre-emptive action, prevented the downturn while things got turned around in Asia, and they still have not gotten turned around in Europe and America.

KERRY O’BRIEN: Joseph Stiglitz, thanks very much for talking with us.


Video of the interview, including a longer version of the interview excerpted above, can be found on the Australian Broadcasting Corporation website, at this link.