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Analysis

A man 'who didn't see it coming'

by William Keegan

A man 'who didn't see it coming'

Adair Turner headed the UK’s Financial Services Authority at the height – or perhaps one should say the depth – of the 2008 financial crisis. As such, he worked closely with Chancellor of the Exchequer Alistair Darling and Bank of England Governor Mervyn King to cope with the ramifications of a systemic banking failure that none of them foresaw. As the Queen famously asked on a visit to the London School of Economics in early 2009: ‘Why did no one see it coming?’

Some had an inkling that something was wrong – William White, then at the Bank for International Settlements, and Raguram Rajan at the IMF spring to mind. But Turner freely admits that he was not among them. 

Rather, he belonged to the conventional wisdom brigade that trusted in the excessively mathematical economists who had won Nobel Prizes for their work on the now discredited efficient markets hypothesis and rational expectations hypothesis.

Fatal conceit

In this eminently readable book, which derives from hard-won experience, impressive scholarship and what comes across as agonised reflection, Turner neatly points to one of the staging posts on the way to these intellectual failures: ‘Friedrich Hayek argued that there was a “fatal conceit” in socialist planning that made it not only undesirable but also quite impossible. 

‘It assumed that it was possible for planning authorities to gain such comprehensive knowledge of both present conditions and future developments as to allow mathematically precise optimisation.’ But such knowledge ‘is not given to anyone in its totality’.

We all know that following the fall of the Berlin Wall in 1989 and the collapse of the Soviet Union in 1991, belief in the wonders of excessively free markets, nurtured during the Reagan-Thatcher years, was given free rein. Turner argues that the economic orthodoxy that preceded the financial crisis ‘suffered from not just a similar but in some senses the very same conceit’ that Hayek attributed to socialist planning.

According to those now discredited hypotheses, free markets would always deliver optimal results. All those weird financial products would reduce risk rather than increase it, central banks could control inflation, and financial stability would take care of itself.

In a world where the attenuation of the power of organised labour and the price competition unleashed by globalisation helped, central banks were credited with controlling inflation. But unfortunately this applied to inflation of goods and services rather than assets. There was a free for all in the growth of debt and credit, with the consequent financial instability.

Public and private debt

Turner’s concerns are with the historically high levels of public and private sector debt, and the need to restore sense and utility to the banking system. He is well known for describing most of the activities of the financial ‘industry’ as ‘socially useless’.

He goes into great detail about how the banking sector’s systemic risk taking might be brought under better control. Perhaps I have become an ‘old fogey’, but much of what he and others preach reminds me of the cautious approach of government and the Bank of England in those post-war decades before the era of financial liberalisation.

Turner is not alone in worrying about excessive levels of public as well as private sector debt. But I don’t think he makes enough allowance for the fact that public sector debt simply had to rise in the face of private sector deleveraging and the collapse of demand.

He is certainly – and rightly – concerned about the depressed level of aggregate demand, and the fact that output is so far below what it would have been had pre-crisis trends continued. Although historically low interest rates and quantitative easing have helped, the recovery has been exiguous by past standards.

Boosting demand

How to boost demand? Turner is very interested in so called ‘helicopter money’, a concept pioneered by Milton Friedman and popularised by Ben Bernanke – basically, printing money and handing it out, as a more direct way of stimulation than QE.

As policy-makers become more and more desperate, its time may come. For myself, I stick to the view that using old-fashioned fiscal policy is the way to stimulate a depressed economy when monetary policy has reached its limits, in the hope of producing the growth that will let the level of public sector debt look after itself. What has proved disastrous is a policy of austerity.

William Keegan is Senior Economics Commentator at The Observer.

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