by Zhang Baoping, Zhao Jing
CHICAGO, Sept. 2 (Xinhua) -- The U.S. government has taken necessary actions on both monetary policy and fiscal sides to prevent U.S. economy from collapsing during the financial crisis, but the recovery will take years rather than months, said a U.S. economist in a recent interview with Xinhua in Chicago.
Randall Kroszner, a Norman R. Bobins Professor of Economics at the University of Chicago Booth School of Business, served as a Governor of the Federal Reserve System from March 2006 until January 2009. During his time as a member of the Federal Reserve Board, he chaired the committee on Supervision and Regulation of Banking Institutions and the committee on Consumer and Community Affairs.
Analyzing the causes of the U.S. financial crisis right before its second anniversary in September, Kroszner said: "There are many causes for the financial crisis, one of the important factors really relates to the amount of leverage that was in the system."
He further explained: "Many firms had a lot of debts and they grow very large from buying lots of assets and were only financed with very short term instruments. When people lost confidence in the value of certain types of assets, particularly in the mortgage assets, they pulled back the financing. So you have the cycle of selling assets and pulling back financing which caused it to spiral down further and further and further ..."
Asked what the U.S. government has done during the financial crisis in the past years, Kroszner said: "The U.S. government had done a lot on both the fiscal side and monetary policy side."
While working at the Federal Reserve in 2006-2009, Kroszner was directly involved in the monetary policy. He explained: "On the monetary policy side, how we responded is to provide a lot more liquidity and a lot of financing support to the system. It was very difficult for financial firms and non-financial firms to get the financing they needed to continue to pay workers, invest and produce. We created a number of new facilities to provide credit directly into the system."
On the fiscal policy side, he said: "There have been a variety of actions, among which some have been more effective than others, such as the tax reductions that help put money in people's pockets early on to provide more disposable income."
However, there are other spending actions that are not as useful and some have not even been spent yet. "A large fraction of the money from the largest fiscal stimulus package that was supposed to be spent in early 2009 has not even been spent yet," he noted.
Regarding the impact of the Federal Reserve's monetary policy and fiscal policy, he pointed out: "What has been effective is that we tried to prevent a collapse by providing the necessary financing so that investment and production could continue. However, it led to a very large increase in the balance sheet of the Federal Reserve."
Kroszner continued: "While I was there the balance tripled from 800 billion U.S. dollars to 2.4 trillion dollars at the end of 2008 during a very short period of time. After I left the Federal Reserve, it continued to purchase longer term securities and mortgage securities to provide support, generally in the market and specifically in the housing market."
In any case, the monetary policy has been effective by providing liquidity support and keeping the interest rates low for a long time. So many banks and firms are holding a lot more cash than they used to, which allows them to be able to invest and start hiring, according to Kroszner.
The economist believes that various actions taken by the Federal Reserve successfully prevented the repeat of the Great Depression of the 1930s: "We did not want to repeat this mistake. The Fed did nothing in the 1930s but let the economy collapse. We did not want that to happen. We certainly had a very strong contraction in 2008 and 2009 but nothing like the Great Depression. So that has been very effective."
Asked what the government should do next, Kroszner said: " During the most recent meeting of the Federal Reserve, it decided to bring a little more support to the economy by not allowing its balance sheet to shrink. Now they are re-investing those proceeds in treasury securities to maintain the size of the balance sheet. The Fed is ready to provide support and understands that it needs to if necessary to provide support for growth."
However, paraphrasing statements from Federal Reserve Chairman Ben Bernanke, he said: "The Federal Reserve can not do it all by itself. It is only one actor and there have to be other policies to be undertaken. The Fed can provide the necessary conditions for support to prevent deflation and keep interest rate low, but hiring and investment will only occur when there is enough certainties in the fiscal side."
Talking about the current uncertainties, Kroszner explained: " Many experts said that the fiscal situation in the U.S. is not sustainable. But there is not a clear solution for that. This has created a lot of uncertainties down the line. Also it is not clear how this will be paid for."
In addition, he said: "Some tax cuts occurred in 2001 will expire by the end of this year. If some of those tax cuts expire, it will dramatically increase tax on investment, capital gains and potentially affect small business. In this case, businesses will not gain enough confidence to hire until the fiscal situation is clarified."
Therefore, he believes that a key thing for the government to do is try to have some clarity on the fiscal side to provide the confidence to banks and firms to start hiring permanent workers instead of temporary workers.
Looking into the future, the professor of economics said: "We will be able to come back and restore growth eventually but we may not be back for a while. We are not going to get the smooth path back to recovery but I do think the fundamentals are there, even if it may be a little rocky to get the boat sailing smoothly into the waters. It will probably take years rather than months."