Dec

15

From the Issue: A Conversation with Joseph Stiglitz

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Here’s another one from the upcoming December issue of the Blue and White: staff writer Jon Hill sat down with Nobelist/Columbia professor Joseph Stiglitz. 


Economist and Columbia Professor Joseph Stiglitz made a splash in the academic world with his pioneering work on information asymmetry, the problem of hidden surprises faced by used car buyers, eBay bidders, and insurance policyholders alike. Stiglitz’s insights earned him the 2001 Nobel Prize in economics, but now that information asymmetry has returned to the headlines in the form of failed banks, subprime loans, and a credit crisis, people are turning to Stiglitz for analysis and advice more than ever
. The Blue and White has been among those seeking out the professor’s expertise, as our coffers are quite low. 

The Blue and White: We read the headlines, we see the news stories, but from your perspective as a Nobel Laureate economist, how bad is it out there? 

Joseph Stiglitz: Oh, quite. The decline in employment in the last month is symptomatic of obviously a very severe downturn, so the dynamics are extraordinarily negative.  

The fact that the Bush administration seems to have checked out a little bit early before the end of the term is not very helpful, and combined with the fact that Paulson doesn’t seem to know what he’s doing, we’ve been spending money to very little effect and we’re going into the second inning, as it were, with a huge deficit. We’ve had a negative savings rate and a housing bubble. It’s a very pessimistic outlook. Investment will decline. States and localities are facing huge deficits. 

B&W: You’ve been warning about the dangers of giant banks and securitized mortgages since at least the early 1990s.  

JS: That’s right. The paper I had written on it was published in 1992. [Ed. note—“Banks versus Markets as Mechanisms for Allocating and Coordinating Investment.”] 

B&W: So could we have anticipated these problems?  

JS: This was all predictable. Man-made, and predictable. In my paper, I even forecasted what some of these critical errors were that they’d make, like underestimating the price declines and drops, incentive problems with securitizations … Since then, the patterns of mistakes had built up, so by 2000, it was even more easy to predict. The only thing we couldn’t predict was the recklessness with which the deregulation movement proceeded. 

B&W: How was it reckless? 

JS: It’s hard to know where to begin. You allowed a culture of risk taking to permeate what should be conservative commercial banks that are investing other people’s money. You allowed incentive structures that encourage excessive risk taking, myopic behavior, and bad accounting practices. You allowed excessive leverage. Some of these practices have been associated historically with booms and busts over and over again. The only difference with this situation and the previous ones is that the innovations allowed us to take mistakes further than had been done in the past.  

B&W: Do you feel like a bit of a Cassandra, then?  

JS: [Laughs] In other countries there were people who were paying attention. If you look around the world, some of those central banks didn’t allow the extremes that went on in the United States. India and Brazil had regulatory bodies that didn’t allow this. There were people in those countries encouraging the same excesses, but I was in India at the same time as Paulson and we were engaged in an active debate. And clearly what I think you saw there were forces pushing those countries in that direction, but there were others in charge who understand history and economic history, including the Indian Central Bank Governor [Yaga Venugopal] Reddy. And Arminio Fraga, the Central Bank governor of Brazil at a critical time in their history—a former student of mine—he was aware of this excess. They understand the dangers. 

B&W: What about people listening back in the United States, though? So far, you’ve not been publicly offered any position in the Obama administration. Newsweek’s Michael Hirsh wrote an opinion piece characterizing you as being “left out in the cold.”  

JS: [Laughs] 

B&W: Why do you think Obama hasn’t asked you to join his team so far? 

JS: You’ll have to ask him. There are a variety of ways in which you get ideas into play, and hopefully the actual team will listen to people outside. I know some of them are. And I also know that he has said he wants to hear a diversity of views, and I’m hopeful that he will. 

B&W: If you were to get your own ideas into play, though, what would they be?  

JS: I think there are some areas that have broad consensus. We need a very big stimulus. The risks of no stimulus exceed the risks of a deficit, but because we have deficit, we have to get the most bang for our buck—maximize the returns—especially to the economy. That’s why it’s important that we spend money for research, which has a very high return.  Especially research in green technologies, which addresses one of our major problems and makes us competitive in the world we’re going into.  

Increased spending on the military, from an economic view, would be a very big mistake. It doesn’t yield the long-term economic benefits. We could get more secure with less spending and a better economy. I think there’s a broad agreement on that, but there are a lot of people in the military-industrial complex who would disagree. 

The second thing I would argue for is that we have to change the incentives and behavior of the financial systems that got us into this mess. We have to have new regulatory systems and changes that aren’t just cosmetic but are deep and profound. We have to reform TARP [Troubled Assets Relief Program]. Never has so much money gone down the drain so quickly.  

The whole bailout was very badly managed. Given the resource constraints we face, we have think, “How do we maximize the impact on our economy?” And finally, I think we need a deeper understanding of the links between the financial sector and our economy.  

B&W: What is the biggest mistake Obama could make as he works to pull the country out of recession? 

JS: The biggest mistake would be a stimulus that’s too small, but that I don’t see that as a critical, likely mistake. The most serious mistake is to neglect reforming the marketplace. There will be those who go through the rhetoric about “preserving the innovative ability of our financial sector,” but the fact is, they didn’t innovate. They didn’t improve. Their social effect is probably negative. They utterly failed. They misallocated capital.  I think one has to take a harsh look at what they did and think how we can correct it.  

B&W: You alluded to military spending, and that’s a lot of what your latest book is about, The Three Trillion Dollar War. You say the Iraq War is depressing the American economy because of its tremendous cost, but some politicians would counter that the price is nothing when compared to the cost of future terror attacks and future loss of lives here at home. Is that $3 trillion price tag so unreasonable when viewed in such a context? 

JS: One of the things I point out in the book is the way we have spent that money. We have probably undermined our security, if anything. Spending money to provide security is obviously a matter of extreme value, but the point is the Iraq War may make us more vulnerable. We may finally have secured that little piece of turf, but things are going badly in Afghanistan and now spreading to Pakistan. I don’t think anyone would say after six years of fighting that our country is any more secure or that the world is a safer place. 

B&W: What about the rest of the world—and that’s another topic you’ve written on—how will this recession shape the future of globalization? 

JS:  I think it will have a profound impact. It’s not that globalization is bad; it’s the way it was managed. Capital market liberalization, finance market liberalization—these were very specific in shaping the world to the advantage of America’s financial institutions. Now that they’re failing, I think that part of the agenda will get looked at very closely in the future. A particular brand of economics has shown its weakness. Deregulation failed, and we see now from the United States that a country that doesn’t have regulated markets can cause disaster for the entire world. I think the neoliberal philosophy on globalization will be looked at with skepticism in most parts of the world. Hopefully what will emerge from this is that countries will work together and become more aware of how they affect each other. 

B&W: Who are some of the young, rising economists whose work you’ve been reading? 

JS: That’s really hard. There are lots of good, young economists, but most today are very technical, so they are people making contributions in very particular areas. One of the sad things, though, is that some of the prevailing paradigms in economics have shown their weaknesses in the current crisis. Many macroeconomists were pushing ideas like, “Central banks should focus on inflation to keep inflation down,” and that would be sufficient for maintaining economic stability. I think most people would recognize what a flawed strategy that is. Not surprisingly, this has been a wakeup call and many young economists who will turn to looking at these issues more seriously.  

But the unfortunate thing is that the young economists have been looking at behavioral theory and attracting a lot of attention with specialties, curios, curiosities. Economists like Steve Levitt and Freakonomics. They are people looking at technical issues, like game theory and irrationality, but they haven’t addressed these fundamental issues causing this current crisis.  

B&W: Should undergrads still think about going into economics these days? 

JS: Just like the 1930s inspired young people to get interested in economics and produce many great theories and scholarship, I think this will inspire people, too. And I didn’t mean to deride this other kind of work—about individual behavior and irrationalities. No one who looks at this past economic crisis can honestly say there wasn’t a degree of irrationality involved, and it’s very important that we understand that.  

B&W: Speaking of irrationality, do you think a lack of understanding has helped grow the current troubles? Do you consider economic literacy—or maybe I should say, the lack of economic literacy—to be a problem in the U.S.? 

JS: Yes, clearly. Even among some very senior politicians. [Laughs] 

It’s a problem because it makes it hard to have very serious policy conversations. People can’t take part in the democratic process as thoughtfully as they need to. Good politicians will engage in that education, but it’s so much better to have an education system that can do that from the start. 

B&W: How has Americans’ economic illiteracy shaped the current crisis? 

JS: They’re reacting symptomatically and not unreasonably. What they’re seeing is that the actions the government took haven’t worked and they’re seeing money pouring into Wall Street not working. They’re seeing Washington refuse to bail out Main Street, and then they see the arrogance of executives with bankrupt companies walking off with huge amounts of money. Americans have to say there’s something wrong with the market economy, so it’s raising profound questions. I think that will be good in the long run. 

B&W: You’ve branched out into film now with Around the World With Joseph Stiglitz. Why did you decide to explore this medium? 

JS: You were getting at it just now. I’m not going to be able to get people to listen to a 20-hour class, a 40-hour class. I’m not going to be able to make them read The Roaring Nineties. I have to reach a media that most people can understand, and film is a very effective medium. I think it succeeded in posing the serious questions and providing perspective. What we tried to do in that movie was give a middle way—a balanced picture—so that people can see the problems and the strengths. In a media like that, you can’t craft careful responses, but you can at least get people thinking. 

B&W: So if you were to boil down your economic message into a few sentences, what would it be?  

JS: That’s difficult, but I think there are three. The positive message is that a successful society requires a balance between free markets and the government taking action, because there’s a need for collective action. There’s a need for social justice, social action, and social cohesion that many of us, I believe, feel strongly about. 

The negative message is that the extremes of communism are failures, and the extremes of free market fundamentalism are failures on another hand. They both failed but in different ways. 

The third message is that our democratic institutions are undermined by campaign contributions, tax laws, deregulation, and lack of transparency. Our political system and financial system needs to be strengthened, and I know we can do it. 

— Interview by Jon Hill, Illustration by Sonia Tycko

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10 Comments

  1. maybe better idea  

    The roaring nineties. Definitely hints of the problems we are having now. Also it is more towards his specialization.

  2. awesome  

    best thing i've read on bwog so far.

    the economic literacy thing really is stunning. america needs to teach at least basic econ to everyone

  3. don't  

    take Stiglitz too seriously. Most international economists say he is using his nobel in Microeconomics (asymmetric info) as a platform to talk about issues he doesn't know very much about. Xavier's response to his views on Globalization are simple and make sense.

    To be honest, any proponent of Regulation, including Marxist economists, are having a field day; doesn't mean they're right. Stiglitz isn't wrong; just don't take his word for God. There are better economists out there and quite a lot of people have been calling this from day 1

    • sure  

      Don't take stiglitz seriously on globalization, sure, but you can definitely take him seriously on information asymmetry and financial markets, which is what he is talking about here. There are economists that have different political views on how to handle certain situations, but I'm not so sure there are many "better" economists out there, or what objective standard you are using. I love Xavier as much as the next person, but the comparison is pretty irrelevant in this context.

      • unfortunately  

        Stiglitz finds a way to lump everything into the problem of asymmetric information, including Globalization. Xavier's response was to Stiglitz's criticisms of Globalization, trade liberalization, etc.
        I think the issue of deregulation in the financial markets should be looked at independently from trade liberalization, globalization, etc. but he conflates them a lot to fit his world view

  4. Why  

    I agree with some others who think that Stiglitz pushes his own world view, which is rampantly liberal but I think it would be foolish to not listen to the guy.

    Just because a bunch of you took Xavier's macro class and have little crushes on him doesn't mean that he's the be all/end all of macroeconomics. If anything, with respect to macro policy, Stiglitz has significantly more experience, including his tenure at the world bank, chairman of the Council of Economic Advisors, financial market models which are extremely important today in the context of reflexivity, etc.

    There's a reason that Stiglitz co-teaches the second semester of macro analysis, which is considered somewhat of an honor to academics. Among living economists the guy has few peers.

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