Almost all advanced economies are burdened with enough debt to remain vulnerable to double-dip recessions, according to Carmen Reinhart. Moreover, the obtuse, intensely ideological prescriptions pro-offered by such luminaries as Paul Krugman in the NYT and Stanford's John Taylor and Harvard's Robert Barro in the WSJ reveal little more than how the powerful vortex of today's debates have driven the finest economic minds to succumb to silliness.

Okay, Reinhart didn't say that. I did. But it was a pleasure to hear a serious economist talk sensibly about our current global ailments at today's IMCA conference in New York City.

Her presentation was a striking contrast to the arguments kicked around in our leading national newspapers. Reading Krugman, Taylor and Barro submit 20th Century solutions to a 21st Century problems in those media outlets is like listening to a few 18th Century doctors argue whether they should bleed a brain cancer patient or cut off his foot. Reinhart may not have had a lot of solutions, but at least her diagnosis was accurate. 

Reinhart, who co-authored the authoritative This Time Is Different with former IMF chief economist Kenneth Rogoff, had just returned from Davos where billionaires were whining about income inequality. In that book, Reinhart and Rogoff found that seven of the 15 financial crises since 1790-when the French started beheading people-produced double-dip recessions within five years of the crisis. In Japan, the double dip caused by the Thai baht crisis in 1997 and 1998 produced a worse downturn than the first recession in 1991.

Europe, she noted, is well on its way to a double-dip recession.The economic news in America is better but like a recovering patient whose immune system is still weak, the U.S. remains vulnerable. 

Around the world, we are returning to a state of financial repression that prevailed from World War II until the 1980s, she added. By that she was describing a system where there is a much stronger connection between the government, central banks and the financial sector.

The main, common result coming out of most post-financial crisis recessions is that GDP growth and housing prices are significantly lower a decade after the crisis began. The median post-financial crisis GDP growth rate for the decade after the crisis is about 1%. Five more years. Fun, fun, fun.

If only that were all the bad news. In the 10-year window following a crisis, unemployment remains much higher than it was post-crisis. The rise in unemployment, she said, was most marked in advanced economies, with median unemployment typically averaging 5% higher in the decade after the crisis than the decade before.

In 10 of 15 crises she examined, unemployment did not return to pre-crisis levels even after a decade.

What about the spectacular recovery of the early 1980s that Taylor and Barro love to cite? Reinhart cited one huge difference both professors fail to mention. In the early 1980s, household debt was 45% of GDP. In 2008, it was 110%. In the last three to four years, it has fallen to 90% only after several very painful years of deleveraging. The consumption boom of the early 1980s was fueled the demographic wave of baby boomer household formation, a critical factor that is largely absent today.


Since 2008, federal debt has climbed from a little more than 40% of GDP to near 90%. Reinhart claimed nearly half the debt increase could be attributed to the government takeover of Fannie and Freddie in the late summer of 2008. Ireland had minimal public debt before 2007 but its government was forced to takeover the banking sector-and that was just the beginning.

Despite what Krugman may write, public debt build-ups often end in sovereign debt crises. There is "a systematic link between debt-to-GDP ratios and the incidence of default," Reinhart said.

Today's fiscal burden is "near or higher" than post-World War II levels and that doesn't include lots of hidden debt, she went on.

Does Krugman really believe that Keynesian-style public works spending is a cure for our debt problem? Do Taylor and Barro really think that a replay of the supply-side strategy of the 1980s-three consecutive 10% annual income tax cuts and a tripling of our defense spending-is the answer?

More likely, one thing all three agree upon is that our problem isn't just debt-it's economic growth. But with our debt level where it is, the solutions they offer might accelerate growth, but only at the virtually certain cost of more debt. Reinhart said that back in 2008 and 2009 she supported Bernanke's easy monetary policy and Obama's stimulus program, but that was then. "It's five years later," she quickly added.


Don't think that at a global level all this is an abnormal state of affairs. Since Greece won its independence from the Ottoman Empire in 1821, it has been in default 48% of the time, she noted.

While the U.S. federal government has never defaulted on Treasurys, many American states have. In the 1840s after a few newly developing mid-Western states defaulted on debts to Europe, their more solvent neighboring states liked the idea and stiffed the Europeans out of sympathy. Just like the rich guy in La Jolla on 60 Minutes.

Central banks will keep interest rates as low as possible for as long as possible. But those like Krugman who cite low U.S. interest rates as a permission slip to spend as much government money as he wants overlook one key factor.

Interest rates can stay low for a long time until they don't. Greek and Irish interest rates were very low as recently as 2007.

What about emerging markets that are buying all our debt, even as they enjoy their own capital inflow bonanzas? Well, a capital inflow party can be a double-edged sword creating its own problems and while greatly increasing the probability of a banking crisis.

That's not just in emerging markets. The U.S., U.K., Spain, Ireland and Portugal all enjoyed their own capital inflow bonanzas prior to 2007.

One piece of good news is that Reinhart doesn't expect Congress to pass The Financial Repression Act of 2012. Rather, it may come gradually through a series of little rules and regulations.

We are too accustomed to a global economy to imagine a new era of interest rate and capital flow controls. But widespread globalization existed from the end of the Civil War until World War I. After 1929, there was a backlash against it.

The best way out of this predicament is via a combination of economic growth, fiscal austerity and a steady dose of moderate inflation. Another alternative is default.

From 1980 to 2007, real interest rates were negative only 10% of the time. Since 2007, they've been negative 50% of the time. Looking at data back to 1790, Reinhart can't find a single instance when debt accumulation has occurred as fast as it has in the last decade.

As for Krugman, Taylor and Barro, they may still be drinking their own Kool Aid, but the advisors at IMCA were not. The panel preceding Reinhart's was a debate between the philosophies of Keynes and Frederick Von Hayek. When at the end attendees were asked how many of them bought into Keynesian theories, about 10 hands went up. Hayek and his Austrian school were slightly ahead, with 13-15 hands. I'd estimate there were about 400 advisors in the room.