Inside George Soros’s “Monstrous Monkey House”
Snow-capped peaks; nightcaps with Larry Summers; discussions of complexity theory over breakfast; Tennyson quotations from Gordon Brown at lunch. No it’s not Davos—it’s Bretton Woods, New Hampshire, where over the weekend the Institute for New Economic Thinking (INET), which George Soros set up in the wake of the financial crisis, held its second annual conference. Last year’s inaugural get-together was held at King’s College, Cambridge, the home of Keynes. This year’s location also had a strong link to J.M.K. It was the grand old Mount Washington Hotel, which in the summer of 1944 played host to a famous international conference about the post-war monetary system.
Soros launched INET in 2009 with the intention of fostering fresh ways of thinking to replace an economic orthodoxy that manifestly had failed. Two years on, it’s not clear how far he’s succeeding in that enterprise, but Rob Johnson, a former Capitol Hill staffer and employee of Soros Fund Management, who heads up INET, has certainly put its annual meeting on the map. This year’s conference attracted more than two hundred economists, policy makers, and journalists from around the world. The subjects covered ranged from “Too Big to Fail” to the European debt crisis to “New New Trade Theory.”
While the conference lacked some thematic unity, the speakers delivered a range of interesting insights. Soros himself kicked things off. In a panel session on Friday afternoon, he said he found the current economic situation “much more baffling and less predictable than … at the height of the crisis.” Whilst policymakers had succeeded in averting a second Great Depression, they were now at “the delicate stage” of withdrawing some of the emergency policy measures they have been relying on. Meanwhile, on issues such as Europe, financial regulation, and climate change, it wasn’t clear whether the political will was there to introduce the necessary reforms. There are a “number of unsustainable situations that nonetheless continue,” Soros concluded. “Politics has become the most important factor in determining the outcome.”
Larry Summers wasn’t an obvious choice to speak at a conference devoted to jettisoning old orthodoxies, some of which he championed. But in conversation with the Financial Times’ Martin Wolf he acquitted himself pretty well. Asked whether economics had failed, he said, “I think economics knows a fair amount. It has forgotten a fair amount. It has been distracted by a lot of things.” Summers criticized the macroeconomic orthodoxy that, in the past twenty years, has dominated thinking in universities and central banks, noting that when the crisis came it provided little guidance to policy makers. “The vast edifice—in both its New Keynesian and New Classical formulations—of attempting to place micro foundations under macroeconomics was not something that infused policymaking in any important way,” he said.
Searching for insights about what to do in a debt crisis, policymakers were forced to go back to older economic thinkers, such as Bagehot, Keynes, Minsky, and Kindleberger, Summers noted. “I was heavily influenced by the basic I.S.L.M. framework augmented to take account of liquidity traps,” he said. Other things that came in useful, he added, were James Tobin’s writings on debt deflation, modern theories of bank runs (which are associated with the economists Douglas Diamond and Philip Dybvig), and new thinking on restructuring and bankruptcy from the field of corporate finance.
Summers pointed out that he was an early critic of New Classical Economics and so-called real business cycle theory—much of which emerged from the work of Robert Lucas and colleagues. But I wish Wolf had pushed Summers on his embrace of an earlier generation of Chicago thinkers, particularly Milton Friedman. During the nineteen-nineties, when Summers was enthusiastically supporting financial deregulation from his perch at the Treasury, he frequently cited Friedman, who championed the theory that financial markets are efficient, and can therefore be largely left to their own devices. Characteristically reluctant to admit the possibility that he might have been in error, Summers gave a qualified defense of financial innovation, pointing out that many of the financial crises that have beset the world economy—including those in Ireland and Greece—had their roots in low-tech finance: bank lending to the real estate sector. Stepping lightly over the sub-prime meltdown, he averred: “Most financial crises don’t seem to have their roots in financial innovations.”
Before closing, Summers took a well-aimed shot at policymakers across the Atlantic. Wolf asked him whether the embrace of austerity policies in Europe, and particularly in Britain, wasn’t “basically nuts.” Summers replied: “I’m too soon out of government to use a word like nuts. But I find the idea of expansionary fiscal contraction, in the context of the world in which we live, to be every bit as oxymoronic as it sounds. And I think the consequences are likely to be severe for the countries involved.”
Saturday’s session began with a number of economic historians, including Berkeley’s Barry Eichengreen and Robert Skidelsky, Keynes’s biographer, pondering the lessons learned from the original Bretton Woods conference. At lunch, Gordon Brown, who was voted out of Downing Street last year, delivered a sweeping survey of global economic issues. Noting that he had recently enjoyed a “period of reflection, enforced reflection,” he argued that most of the problems facing the world—financial instability, recessions, trade disputes, environmental degradation—”cannot be addressed on an individual basis and can only be resolved by global coördination.”
In the area of financial regulation, Brown pointed out, coördination was sorely lacking, with some individual countries pursuing their own agendas and trying to cozy up to big financial institutions. “I believe we are going back to a race to the bottom,” Brown said. During a question-and-answer session, Anatole Kaletsky, an economic commentator for the Times of London, made a pertinent point: it was Brown himself who had given an honorary knighthood to Alan Greenspan, the great deregulator. Faced with this high-inside fastball, Brown took evasive action, saying that from where he had been sitting—10 and 11 Downing Street—things had seemed very different. Rather than pursuing an agenda of deregulation, Brown said, he had spent most of his time resisting calls from the City of London to go easy on the financial sector.
The highlight of last year’s INET conference was a lecture on the failures of mainstream economics from Lord Adair Turner, Britain’s top financial regulator, who heads up the Financial Services Authority. (I was so impressed by Turner’s speech that I quoted it in the paperback edition of my book, “How Markets Fail: The Logic of Economic Calamities.”) Invited back to give another keynote address, Turner on Saturday evening stepped back from the financial crisis and talked about the policy implications of so-called “happiness economics.” As is now well known, surveys of individual well-being show that beyond a certain income threshold—about twenty thousand dollars a year—additional income and consumption produces little or no extra happiness. Countries get richer. Their residents earn more money and purchase more goods and services, but their reported levels of happiness stay pretty much the same. This is the so-called “Easterlin paradox”—named after Richard Easterlin, the American economist who first documented it. Betsey Stevenson and Justin Wolfers, two economists at Wharton, have recently queried its existence, identifying in the data a positive relationship between well-being and income. But even if you accept the findings of Stevenson and Wolfers, beyond a certain level the impact of additional income is very slight: in rich countries, most people are trapped on a “hedonic treadmill.”
In view of the Easterlin paradox and other research showing that people’s happiness falls sharply when their income drops or they lose their jobs, Turner argued that policymakers should do all they can to stabilize the economy and prevent recessions but concentrate less on increasing absolute growth rates. Whether the British economy grew over the next twenty years at an annual rate of 1.75 per cent or 1.9 per cent was a trivial question relative to preventing mass unemployment, Turner argued. This line of reasoning represented a return to the arguments of Keynes, Hansen, Modigliani, Samuelson, and others, who during the middle of the twentieth century placed macroeconomic stabilization at the center of economics. I pointed out to Turner in a brief conversation that it also represented a direct repudiation of Bob Lucas’s 2003 presidential address to the American Economics Association, in which he said the issue of stabilizing business cycles had been largely solved and economists should concentrate their efforts on growth.
Some economists, such as L.S.E.’s Richard Layard, have taken the happiness research even further, arguing that it justifies a radical program of tax increases, income distribution, and environmental measures. In summing up, Turner said he wasn’t willing to go this far. Despite the research he had cited, he said he broadly supported the notion of a market economy based around economic growth. But rather than relying on the usual economic-incentive arguments, Turner’s justification for a pro-market view of the world was political: markets provided people with the “freedom to act as they like,” limited taxes enabled them to “keep a significant share of the income they have earned,” and (here Turner was quoting Keynes) competitive capitalism enabled unsavory people to tyrannize over their bank balances rather than over each other. As always, Turner’s arguments deserve to be taken seriously. In this case, though, I thought he came close to contradicting himself. (In the Q. & A. session after his speech, a couple of questioners also raised this point.) Either you take the happiness research seriously or you don’t. If you do—and Turner clearly does—then I don’t see how you can simply pronounce yourself a nineteenth-century liberal and leap off the hedonic treadmill.
The conference ran throughout Sunday. It ended with the F.T.’s Gillian Tett interviewing Soros and Paul Volcker, the former Fed chairman. Fittingly enough, Volcker turned to the issue of international-monetary reform, which hitherto hadn’t featured much in the conference despite its location. He recalled joining the Treasury in 1969 as under secretary for monetary affairs at a time when the original Bretton Woods system was still operating but running into problems. Today, he noted, there wasn’t any formal international system but rather a de facto arrangement characterized by a lack of fiscal discipline and huge current account imbalances. “Who would ever sit down and think of designing a system that permitted China to get three trillion dollars worth of reserves, and for the U.S. to happily use all that money to run up housing prices?” Volcker said. “I think there really was a connection between the international monetary system … and the great financial crisis. And nobody has had any interest” in reforming it.
And that, pretty much, was that—save for a not-too-subtle putdown by Volcker of his successor, Alan Greenspan, which in itself was worth the journey to New Hampshire. Asked by Tett to comment on Greenspan’s recent article in the F.T., in which he said financial reform was basically pointless, Volcker said: “On the face of it, without referring to Alan Greenspan, I can simply say I think the markets needed more regulation and the banks needed more regulation.”
Note about the headline: It’s another quote from Keynes, who was originally reluctant to attend the Bretton Woods conference, to which more than seven hundred delegates from forty-four countries had been invited. Keynes (wrongly) feared that nothing would get done and the result would be a “monstrous monkey house.”