From Financial Crisis to Stagnation: An Interview with Thomas Palley

Thomas Palley is has served as the chief economist for the US – China Economic and Security Review Commission. He is currently Schwartz Economic Growth Fellow at the New America Foundation. His latest book From Financial Crisis to Stagnation is available at a 20% discount here [Select country location (top right hand corner) & enter code “palley2012” at checkout]

Interview conducted by Philip Pilkington

Philip Pilkington: At the beginning of your book From Financial Crisis to Stagnation you refer to the 2008 crisis as a ‘crisis of bad ideas’. Could you please briefly explain why you refer to the crisis in this way?

Thomas Palley: A central and critical element of my book is its emphasis on the role of economic ideas in generating the crisis. This feature fundamentally distinguishes it from mainstream explanations that tend to represent the crisis in terms of surprise events and economic shocks (e.g. black swans).

My book starts with the fundamental idea that economies are made, not found. The way economies are organized and function is significantly the product of social choices, not the product of nature. Over the past thirty years we (society) have embraced a set of economic ideas that shaped economic arrangements – including the pattern of income distribution, the power of corporations and finance relative to labor, and the way in which the economy generates demand.

This shaping of economic arrangements was obviously driven by political forces acting on behalf of corporate and financial elite interests, but economic ideas also played a critical role. First, the ideas of mainstream economists provided justification for the re-shaping of the economy in ways that elite interests wanted. Second, mainstream economists put forward additional ideas that were picked up and incorporated into the policy project of corporate and financial elites. Third, the monopoly capture of economic discourse by mainstream economics served to exclude other competing economic ideas from making it on to the policy table, into classrooms, and into the public debate.

The implication of this view is the crisis is at a deep level the product of a flawed economic policy paradigm derived from a set of flawed economic ideas. Escaping the crisis means replacing that policy paradigm and the ideas from which it derives. That is a massive challenge involving both a political contest and an intellectual contest. We need to win both. One without the other will be useless. It is no good winning the political contest if you simply replace Tweedledum (hardcore neoliberals) with Tweedledee (softcore neoliberals). Likewise, it is no good winning the intellectual contest if you do not win the political contest to implement different economic policy ideas.

PP: In the book you distinguish between two sorts of alternative approaches to the crisis. One you term ‘Textbook Keynesianism’ and the other you term ‘Structural Keynesianism’. Could you briefly delineate the differences between the two approaches? Also, should it be understood that the two approaches overlap with different schools of economic thought?

TP: Textbook Keynesianism and structural Keynesianism both emphasize the significance of total (aggregate) demand for the determination of economic activity. That is what makes both of them forms of Keynesianism.

However, textbook Keynesianism sees the microeconomic structure of the economy as intrinsically healthy. If demand falls off, all that is needed is for policy to step in and temporarily fill the demand gap until private sector demand revives. That is the logic behind temporary fiscal stimulus and temporary easy monetary policy.

Structural Keynesianism argues that the economy’s underlying income and demand generating process can be structurally flawed. For instance, income distribution can become badly skewed, creating a permanent shortfall of demand. In that case, private sector demand will not revive and the solution is structural remaking of the economy’s income and demand generating process.

Textbook Keynesianism can be identified with neo-Keynesianism (what Joan Robinson less politely called bastard Keynesianism). It identifies the principal macroeconomic problem as price and wage rigidity. This way of thinking gradually morphed into so-called New Keynesianism, which means textbook Keynesianism and New Keynesianism overlap. However, we should be clear that New Keynesianism has little to do with Keynes’ original logic and it is more a theory of market imperfections in the spirit of Arthur Pigou, Keynes’ great rival.

Structural Keynesianism links with the work of Michal Kalecki who joined Keynes’ insights about aggregate demand with Marx’s insights about class conflict and income distribution. That means structural Keynesianism overlaps with Marxist sociological and economic analysis. However, classical Marxism views capitalist economies as destined to crisis because of a falling rate of profit. Structural Keynesianism does not.

PP: In the book you discuss various mainstream theories of the recent collapse. Without going into too much detail perhaps you could say something about the mainstream explanations of the crisis?

TP: In principle there are two alternative competing mainstream explanations of the crisis. The first is the hardcore neoliberal perspective, which can be labelled the “government failure hypothesis”. In the U.S. it is identified with the Republican Party and with the economics departments of Stanford University, the University of Chicago, and the University of Minnesota. The second is the softcore neoliberal perspective, which can be labelled the “market failure hypothesis”. In the U.S it is identified with the Obama administration and half of the Democratic Party. In Europe it is identified with the Third Way. Among economics departments it is identified with those such as Harvard, Yale and Princeton.

The government failure hypothesis maintains the crisis is rooted in the U.S. housing bubble and its bust. That bubble was due to failures of monetary policy and government intervention in the housing market. With regard to monetary policy, the Federal Reserve pushed interest rates too low for too long in the prior recession. With regard to the housing market, government intervention via the Community Reinvestment Act and Fannie Mae and Freddie Mac, drove up house prices and encouraged homeownership beyond peoples’ means. The neoliberal perspective therefore characterizes the crisis as essentially a U.S. based phenomenon.

The market failure hypothesis maintains the crisis is due to inadequate financial regulation. First, regulators allowed excessive risk-taking by banks. Second, regulators allowed perverse incentive pay structures within banks that encouraged management to engage in “loan pushing” rather than “good lending.” Third, regulators pushed both deregulation and self-regulation too far. Together, these failures contributed to financial misallocation, including misallocation of foreign saving provided through the trade deficit. The market failure hypothesis is therefore slightly more global than the government failure hypothesis, but it views the crisis as a purely financial phenomenon.

PP: Your interpretation of the present crisis is a little different, right? Could you explain it briefly please?

TP: Yes, my interpretation is different – very different. I call it the destruction of shared prosperity hypothesis. This view is not represented in mainstream economic discussions because it challenges the fundamental theoretical foundations of mainstream economics which are shared by both hardcore Chicago School (freshwater) and softcore MIT School (saltwater) neoliberal economics.

My argument is that around 1980 the U.S. adopted a fundamentally flawed economic paradigm. From 1945 through to the mid-1970s the U.S. economy was characterized by a “virtuous circle” Keynesian growth model built on full employment and wage growth tied to productivity growth. The political triumph of Ronald Reagan enshrined a new economic paradigm that abandoned full employment and severed the link between wages and productivity growth.

The new paradigm was fundamentally flawed. One flaw was that it relied on debt and asset price inflation to fuel growth instead of wages. A second flaw was the model of globalization which created an economic gash in the form of leakage of spending on imports (the trade deficit), leakage of investment spending offshore, and leakage of manufacturing jobs offshore. These twin flaws created a growing demand gap.

That is where finance enters the picture as its role was to fill the demand gap. Financial deregulation, regulatory forbearance, financial innovation, financial mania, and plain vanilla financial fraud kept the economy going by making ever more credit available, However, as the economy cannibalized itself by undercutting income distribution and accumulating debt, it needed ever larger speculative bubbles to grow. The house price bubble was simply the last and biggest bubble and was effectively the only way around the stagnation that would otherwise have developed in 2001.

The house price bubble delayed the onset of stagnation but at a cost. When it burst it created a financial crisis because of the scale of financial excess. Moreover, it also makes it harder to escape stagnation now because of the scale of debt burdens and the extent of destruction of credit-worthiness.

PP: Your interpretation seems to make a lot more sense than the competing theories, which appear to me reductionist. Why do you think that your colleagues – especially your left-leaning colleagues – are missing the bigger picture?

TP: Thanks, Philip. That is a very good and difficult question. It is key to understanding why the crisis has so far generated little change in economics and economic policy.

There are many mainstream (orthodox) economists who have progressive values but they miss the big picture because their theory cannot accommodate it. Moreover, they can’t abandon their theory for a host of psychological and sociological reasons. At the psychological level it would involve a devastating admission that they have been wrong; that they’ve been teaching their students a lot of nonsense for thirty years. At the sociological level it would mean giving up the trappings of power and pay that go with their current intellectual monopoly because the paymasters of the system would quickly replace them with others.

That said, many mainstream economists are starting to admit income distribution has played a role in fermenting the crisis (you have to be willfully blind not too see it). Consequently, they are busy trying to incorporate income distribution into their narrative. However, they do so in a way that leaves their core theory about markets and market efficiency unchanged. Unfortunately, journalists and the general public cannot see this and are taken in by this tactic. One of the contributions of the book is it unmasks these obfuscations by showing how these stories don’t stack up and are inconsistent with the evidence.

Finally, this discussion shows why it is very important the general public be capable of distinguishing between “values” and “analysis”. If not, people risk being fooled by the rhetoric of progressive values that provides cover for policies that are actually conservative.

PP: In the book you provide a very clear description of what actually occurred in the financial market in 2008. Reading it I thought that a lot of people – myself included – have never really put the pieces together in their own minds. Maybe you could summarise the key events briefly?

TP: The mechanics of the crisis within the U.S. financial system are actually quite simple and can be understood as a six step process. Step one was the build-up of toxic loans over several years. Step two was when loans eventually started turning sour with the bursting of the house price bubble in 2007, causing loan losses. Step three was the destruction of bank equity caused by mounting loan losses. This process began in the so-called “shadow banking system” and then moved into the Wall Street investment banks and the established commercial banking sector. Step four was the resulting threat of bank defaults triggered by equity destruction. Step five was the rush to cash spurred by the threat of default. That caused a liquidation trap as agents tried to sell financial assets to raise cash, which deepened the extent of asset price declines and caused further equity losses. Step six was the run in the commercial paper market immediately after the collapse of Lehman brothers (September 2008) whereby banks and financial institutions became unwilling to lend to each other. That put every bank (including Goldman Sachs) on the verge of default, prompting the Federal Reserve to step in and de facto take over the commercial paper market by acting as lender of last resort.

PP: In the book you mention the commodities bubble that blew up in the 2008 financial crisis a number of times. Many commodities – oil included – are nearly back at their 2008 levels. Do you think that this could be due to speculation? If so, why on earth are the US government allowing this?

TP: I firmly believe speculation is a significant part of the run up in commodity prices, particularly oil. Over the last decade there has been tremendous change in the character of commodity market participants. In the past, the market consisted of producers, end-users, and traders intermediating between these groups. Now, the market has been invaded by financial investors in the form of pension funds, endowment managers, hedge funds acting on behalf of high net worth individuals, investment bank entities trading on their own account, and exchange traded funds (ETFs) for ordinary punters who want to speculate on commodities. This transformation represents the ‘financialization’ of commodity markets and it has resulted in a tsunami of money chasing commodities as a speculative investment vehicle. After causing a bubble and a bust in 2008, it has again pushed up oil prices.

The fingerprints of speculation are all over the oil market: large one day price spikes and plunges that cannot possibly be explained by changes in economic fundamentals; high prices in the face of large and growing inventories; storage in unconventional forms like idle super-tankers; and investment banks like Goldman Sachs purchasing oil storage capacity in places like Cushing, Oklahoma.

Why have the Federal Government and Congress done little about this? Two reasons. First, Wall Street, the banks, and oil companies are big beneficiaries from these developments and they (as everyone knows) are some of the most powerful vested political interests. Money talks in politics and they have the money. Second, economists have been disastrous on this issue, continuously denying the role of speculation. The depth of this denial is evidenced by the fact that even the often critical and insightful Paul Krugman has consistently denied the role of speculation. This provides yet another example of the role of bad economic ideas in the destruction of shared prosperity.

PP: Many economists and politicians seek to blame the Fed for the housing bubble and the financial crisis. In your book you say that this is misleading. Why do you think this?

TP: In my view the Fed is both to blame and not to blame for the crisis.

The Fed is to blame because it strongly supported the over-arching neoliberal economic program that is the ultimate cause of the crisis. Its support for the neoliberal program is most evident in its support for financial deregulation, support for self-regulation, and opposition to regulation of financial innovations such as derivatives. Had the Fed not held these beliefs and done its job properly, the excesses of the sub-prime market and the house price bubble would likely have been significantly prevented. Alan Greenspan was the booster-in-chief but almost every member of the board of governors and the roster of economists working in the Fed deserve blame. They all sung from the same song book and were deaf to other music saying inflation targeting was not enough and needed to be accompanied by tough oversight and balance sheet regulation.

However, the Fed is not to blame for pushing interest rates too low and holding them there too long, which is the charge levelled by neoliberal economists like John Taylor of Stanford University. After the recession of 2001 the economy was stuck in jobless recovery and showed signs of falling back into recession. This was despite significant stimulus provided via the Bush tax cuts and Iraq war. From the point of view of escaping stagnation, the Fed did the right thing.

Unfortunately, most of the public discussion has focused on the Fed’s interest rate policy after the 2001 recession. It should be focused on the neoliberal economic thinking that still permeates the Fed. Though there has been some change in attitude toward regulation, the Fed’s fundamental thinking about the economy remains unchanged. This failure to go after deep failures of understanding is part of the mechanism that protects the policy establishment, and it explains why the people in charge of the Fed (and other central banks like the Bank of England and European Central Bank) are the same people who failed so disastrously before the crisis.

PP: Regarding the economic thinking about the broader causes of the crisis you are particularly critical of the ‘savings glut hypothesis’ that has become popular, especially with the Federal Reserve Chairman Ben Bernanke. My impression from the book is that you see this as ad hoc economic thinking that seeks to avoid the real issues. Would I be right in saying that and could you briefly outline what is wrong with the savings glut hypothesis – which, in my reading, is as pervasive on the left as it is on the right?

TP: In my view the savings glut hypothesis is nonsense economics. Looking at it from the big picture, you see it is just another in a series of explanations of the US trade deficit by mainstream economists. My book shows clearly how these explanations evolve to fit the political moment rather than to explain the phenomenon. And the enduring common feature of all these explanations is they avoid blaming globalization as the cause of the problem or having any downside.

That is absolutely staggering. Mainstream economists blind themselves to the most obvious explanation, and that is a pattern that repeats over and over again in other areas of economics. And because the explanation is so obvious and simple you can never write about it in journals which are fixated on complexity. The story about the emperor’s new clothes really does apply for much of modern economics.

With regard to the saving glut hypothesis, it ignores the fact that the US trade deficit has been rising for 30 years, long before China emerged on the scene. And there is much other evidence and argument against it – but that is in the book.

PP: The book ends on a slightly pessimistic note. It appears that, given the entrenched dominant policy paradigm governments are likely not to begin the process of economic rebalancing. Do you see any light at the end of the tunnel? Are there any social or political forces you think might move the policy debate forward, both in the US and worldwide?

TP: You are right. I am pessimistic which is why the book predicts stagnation. And by the way that prediction was made in 2010 when the book was written, so it has already been proven right. I had great difficulty finding a publisher because 2010 was the time of “green shoots” and “V-shaped” recovery and there was widespread denial about the systemic nature of the crisis. Princeton University Press who published my prior book turned it down.

I am guided by Gramsci’s aphorism regarding pessimism of the intellect and optimism of the will. My intellect tells me that as of now there is no significant political force for progressive change that moves the political and policy debate in the direction I would like to see it go. At best, we are muddling through in a way that contains the economic crisis at its current level. Moreover, if anything, the risks are to the downside from contraction in Europe, risks of trouble in China, slowing growth in emerging market economies, and the prospect of fiscal drag in the US.

In many ways the economic die have been cast. We are now moving into the stage where political risk starts to assume a bigger role. I begin my book with some comparisons with the 1930s and I believe those comparisons remain valid. Mark Twain talked of history rhyming rather than repeating, and today’s rhyme is clearly with the 1930s.

That said I am an optimist of the will. Why else write a book that contains a map for change of economics, politics and economic policy. One has to be an optimist if one believes in constitutional democracy, and I do.

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  1. DiSc

    Amen to that. I am also of the opinion that the problem is a departure from post-war equality-enhancing policies. Wage moderation, tax breaks for the wealthy and union-busting does not work.

    No quantitative easing, LTRO, or austerity measure will get us out of the crisis, and no stimulus spending for that matter. We need to go back to strong unions, welfare programs, and progressive taxation, and we need to tackle tax evasion and fiscal paradises.

    I believe in German-style social-democracy, or at least what it used to be in the ’70s, but even in “socialist” Europe there is no believable political party or trade union that advocates anything remotely resembling that.

    1. nonclassical

      Our esteemed author has quite a bit valid….but he has in no way attempted to “follow the $$$$”. Doing so, we find bought and paid for deregulatory legislation, at behest of “financial sector” and other corporate contributors.

      This deregulation leads to HFT, computer driven, hedge funds monopolizing-colluding-speculating, driving markets worldwide…it wasn’t just “energy”, but wheat, rice, etc, which quadrupled in price-again, following the $$$$. It is easy to see (Geisst-“Wall $treet-A History”) historical precedence on Wall $treet collusion, driving entire markets, as “investment banks” sell back and forth to one another-specifically to raise prices, having dominated futures markets.

      It is also easy to follow the value of derivatives from 2001, to 2008. Derivatives
      2008 valued around $680 trillion, documented here:

  2. F. Beard

    That is a massive challenge involving both a political contest and an intellectual contest. We need to win both. Thomas Palley

    What about the moral argument? I know economists poo-poo morality but the general population does NOT. Tell them that wealth inequality is bad and they may shrug; tell them they have been systematically robbed by the banks and so-called the “credit-worthy” AND that they DESERVE restitution and you’ll unite people across the entire political spectrum.

    But we’re making progress. The “loanable funds” model is on the ropes so more and more economists at least admit that the banks create money. The next step will follow naturally as people then ask “Create money for whose benefit? My mortgage is underwater, my mother is getting a pittance for her savings and my brother is unemployed but the top 1% are doing just fine.”

    1. Jessica

      “I know economists poo-poo morality but the general population does NOT.”

      Excellent point

    2. Paul Tioxon

      Morality, from the church, has taken sex to be the benchmark of morality, and no condemnation what so ever of big picture of capitalism. Abortion, abortion clinic bombings, the assassination of doctors in church no less, all indicated the hypocrisy of the bible believing fools who try to use their right to free speech in politics as a thin disguise for their religion. Over 20 states with hard core neo-liberals want to outlaw abortion and do so by placing invasive ultra sounds into women’s vaginas by statute. This is the morality of the church. The gay marriage obstructionists try to shove their uptight sex hang ups on the populace with their Adam and Eve not Adam and Steve argument. Anti-sexting laws make teen age sex gossip an arrestable crime. Now, even contraception, rubbers and pills, are under attack. Don’t tell me what phony religious political positions are about morality, they let the our homes be taken in foreclosure and pass laws against anything that has to do with sex because people like you think being and acting human is a sin. And you and people like you vote for this crap time after time while ignoring the big picture.

      1. F. Beard

        Morality, from the church, has taken sex to be the benchmark of morality, and no condemnation what so ever of big picture of capitalism. Paul Tioxon

        It’s Biblical ignorance that allows some to claim the Bible is all about sex. It isn’t.

        He has told you, O man, what is good;
        And what does the LORD require of you
        But to do justice,
        to love kindness,
        And to walk humbly with your God?
        Micah 6:8

        I see no mention of sex in the above.

        But my comment had to do with robbery, not sex. How many people, religious or not, believe robbery is OK? Yet robbery is what banking is all about though it is done very subtlety.

      2. René

        “Religions are against sex because down the centuries they have come to know that sex is the most enjoyable thing for man. So poison his joy. Once you poison his joy and you put this idea in his mind that something is wrong in sex — it is sin — then he will never be able to enjoy it, and if he cannot enjoy it, then his energies will start moving in other directions. He will become more ambitious.

        Ambition is sex energy diverted, and the society diverts you. You say, “Why are all the religions against sex?” They are against sex because that is the only way to make you unhappy, guilty, afraid. Once you are afraid, you can be manipulated. Remember this fundamental rule: make a person afraid if you want to dominate him. First make him afraid. If he is afraid, you can dominate him. If he is not afraid, why and how can you dominate him? How will he allow you to be the dominator? He will say, “Be gone. Who are you to dominate me?” First make him afraid.”

      3. Fiver

        Would just note that just as religion is quite obviously not the only incubator for the nurture of moral conduct, the “church” you reference does not represent all churches.

        Morality absolutely does have a place in this argument – a huge one.

  3. Jose L Campos

    ” step one was the build up of toxic loans over several years”
    Why was there a build up of toxic loans? That is what has to be explained.

    1. John

      Because the issuers could make money on them with no consequences or interference from regulators.

    2. No Know

      Check out the words of Willie Sutton too. Why do they do it?
      “’cause dat’s where da money is!”

      1. RanDomino

        Why was there more money in it all of a sudden, compared to the actually-productive economic activities of the previous decades? The only answer that makes sense is that those activities were tapped out. Then the question becomes, how is this phenomenon not endemic to capitalism?

    3. Mel

      Because of what Palley says:

      “My argument is that around 1980 the U.S. adopted a fundamentally flawed economic paradigm. [ … ]
      The new paradigm was fundamentally flawed. One flaw was that it relied on debt and asset price inflation to fuel growth instead of wages. A second flaw was the model of globalization which created an economic gash in the form of leakage of spending on imports (the trade deficit), leakage of investment spending offshore, and leakage of manufacturing jobs offshore. These twin flaws created a growing demand gap.”

      What I’ve called the “War on Payroll”. A toxic loan is a loan that, from the get-go, can never possibly be paid back. Extending loans en masse to replace wages that will no longer be paid is pure guaranteed poison.

      I quibble about the timeline. I think that the process of killing off wages and pensions happened through most of the ’70s. But my milestone is the _Wall Street_ movie which shows that by 1987 toxicity was an obvious social movement. I’d thought it was released sooner than that.

      1. Jose L Campos

        But there is no explanation still. Adoption of a flawed plan needs an explanation. Why must a flawed plan be adopted. Is it because the system cannot pay higher wages, because when higher wages are paid the “profit” wanishes? That is the crux. The crux that is ignored, yea willingly overlooked.
        Profit can’t exist, so all sort of mental contorsions try to flush away the fundamental unpleasantness.

        1. F. Beard

          On top of the company’s profit is the bank’s profit from loans to the company.

          Neither are necessary with the use of common stock as money.

          We could all prosper together, if the counterfeiting cartel, the banking system were abolished.

    4. nonclassical

      ..he doesn’t document the loan fiasco either-first, mortgages were contrived into “securities”…securities are used as COLLATERAL, to borrow against, to go drive futures markets…to monopolize and collude.

      Then morgiges were broken into tranches=parts and pieces, sent to offshore
      subsidiaries and combined with credit card debt, student loan debt, car loan debt, etc. These then became MBS=”mortgage backed securities”…more collateral to borrow against.

      I am leaving out illegal non-registration of mortgage loans=MERS..the entirety of the situation involves illegality…and no accountability.

      bushbama is pushing “stimulus”= “quantitative easing”=printing $$$$…

      fundamentalists are pushing “austerity”…

      masses in streets all over the world are demanding accountability..which U.S. media will not discuss in these terms…

  4. Middle Seaman

    Even if we assume that Palley offers a new model for understanding the current financial system, the real question is whether he offers different solutions to the financial crisis than are offered by previous models. From this interview, haven’t read the book, Palley’s model doesn’t offer solutions we haven’t discussed in public before.

    Many of us support less debt, especially when we borrow from the non-rich and give the borrowed money to the rich. Many of us believe that wage stagnation and retreat and massive unemployment, a form of wage retreat, cause huge moral, societal and finance damage. All that was true even in FDRs days when he wanted to propose the 2nd bill of rights.

    A model is worthy if it sheds light on unseen before elements. Palley’s model doesn’t do it although his intentions are excellent.

    1. fresno dan

      “Many of us support less debt, especially when we borrow from the non-rich and give the borrowed money to the rich”

      I have never seen it said better.

  5. jake chase

    Nice to know there are two economists (Steve Keen being the other) who may understand what is really going on in the economy. I am not certain economics has any relevance except as it contributes to propaganda on behalf of elite interests. I suppose this guy will be drummed out of the Flat Earth Econmic Society. Hope he has a guaranteed income (or is tenure the same thing?)

  6. Dan B

    “My intellect tells me that as of now there is no significant political force for progressive change… At best, we are muddling through in a way that contains the economic crisis at its current level. Moreover, if anything, the risks are to the downside from contraction in Europe, risks of trouble in China, slowing growth in emerging market economies, and the prospect of fiscal drag in the US.”

    A thoughtful interview. However, we’ll suffer as long as we think restarting real growth is the answer. Energy, water, climate, etc., are now imposing limits to growth. Future generations will ask how we could not make the connection -it’s much like Simmelweiss being ridiculed and ostracized for proposing to his fellow MDs in Vienna that they should wash their hands between contacts with patients.

    1. Fiver

      Right you are.

      Anyone who cannot imagine a better distribution of wealth and power within an annual $15 trillion economy with creative policy and socially generated solutions OTHER than the truly archaic “growth at any cost” thinking that dominates the debate just isn’t trying.

  7. Ramanan

    “There are many mainstream (orthodox) economists who have progressive values but they miss the big picture because their theory cannot accommodate it. Moreover, they can’t abandon their theory for a host of psychological and sociological reasons. At the psychological level it would involve a devastating admission that they have been wrong; that they’ve been teaching their students a lot of nonsense for thirty years. At the sociological level it would mean giving up the trappings of power and pay that go with their current intellectual monopoly because the paymasters of the system would quickly replace them with others.”


  8. Susan the other

    “They (mainstream economists) all avoid blaming globalization” for the mess we are in. Instead they all talk about the imbalances caused by things like “savings gluts.” Does Palley imply (or does he imply the opposite?) that if we all just spent all our money buying and selling that global growth would be maintained and money would saturate the world with prosperity like the ocean stream? Or is Palley saying we are willfully simplistic and out of balance in the most fundamental way – we don’t have any jobs – aka: we don’t have an economy at all. That perhaps we should have been more self sufficient nationally? Or is he saying that 4 decades of “inflation” have so destroyed money as a means of exchange or investment it has become meaningless? And we are going to have to start over.

    But never fear, soon the globalizers will commoditize unemployment and trade it just a photon faster than the speed of light. Thereby turning back time.

  9. Fred

    This analysis is very unlikely to provide any more ability for government to correct the problems than any of the other analyses :

    0) The economy is a very complex system.

    1) No economic theory can predict the future in any detail. They are all based on inadequate data and the assumption that the future will be like the past.

    2) There is no adequate control system for a government to control its economy. Control systems are well understood in several branches of engineering and we know what is required in the general case.

    There is a vast accumulated evidence that governments can, and normally do, screw up their economies.

    There is zero evidence that governments can improve their economies over long periods of time, and many studies that show that the attempts produce lower economic growth rates.


    As a result of 100 years of gov meddling, we have no idea how much anything costs. It is impossible to make good investment decisions without knowing costs.

    1. diptherio

      “There is zero evidence that governments can improve their economies over long periods of time, and many studies that show that the attempts produce lower economic growth rates.”

      Yes, because everyone knows that the interstate highway system and rural electrification did nothing to improve our economy. Uh…what?

      1. Fred

        In complex systems, teasing out cause and effect is impossible without experiments. Economics is not an experimental science.

        The gov does X, the economy improved. No matter how strong the ‘common sense’ connection between X and the improved economy, it is a correlation, and you can’t claim causation without the experiment.

        Additionally, even if you can show a causal improvement in some part of the economy, showing a net improvement is a lot harder, and showing that this was an optimal investment is a lot harder than that.

        Meanwhile, in the real world, studies of ‘total government burden’ (taxes and regulations) vs growth rate of GDP consistently show a negative correlation. Inasmuch as infrastructure investments are a good part of that, one concludes that most infrastructure investments don’t improve the economy. China’s high speed trains, and most of the trains in the US, are good examples.

        1. Hugh

          BS. Not all growth is equal and not all growth is good. Wages have been flat for the last 35 years. During this time, the benefits of growth in GDP have gone overwhelmingly to the 1%. Meanwhile the 99% haven’t just been treading water, they have been loaded up with debt. In the last 15 or so, growth has been bubble related. The rich lose more from bubble busts but those losses are quickly replaced while those of the 99% are not. So overall the 99% suffer more and are worse off after bubbles. And this is under a low regulation regime.

          As others have mentioned, there are physical limits to growth. We are already in the era of peak energy and water. Growth can’t continue forever in a finite system. What we need is a reconfiguring of resources to make what we have more sustainable.

          Similarly, we need to make the distribution of our society’s resources fairer across that society. If this means slower growth, more regulation, and a fairer, better society, then who cares about your obsession with growth?

          1. kaj


            I am amzed at your saying that Governemnt intervention/regulation leads to lower growth. Have you heard of China??? 10% growth for the last 20 years.

            Never mind, how about Denmark, Sweden, Norway. All heavily regulated economies and yet consistently growing better than the U.S. for thwe last 30 years of Reagan+ .

            Some times one wonders about the ignoramuses trolling the space.

          2. Fred

            Hugh, you seem to be arguing, but not against any point I made.

            Kaj, Norway’s growth is based on oil. China’s growth is based on very cheap labor. This is all economics, any particular advantage can overcome the total government burden.

            However, look at the growth rates of the original Asian tigers : 12% for 20 years. Then their govs started growing, growth rate slows. So watch China over the next 10 years, you won’t be so impressed.

            As for Denmark and Sweden, you are wrong :
            Country 1999 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010
            Denmark 1.3 2.8 1.8 0 2.1 3.2 3.2 1.7 -1.2 -4.7 2.1

            Average = 1.1% / year

            Country 1999 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010
            Sweden 3.8 4.3 1.8 1.7 3.6 2.7 4.7 2.7 -0.4 -5.1 5.5

            Average = 2.05% / year.

            I am not really impressed with those average growth rates, tho Sweden’s is better than Germany’s, at about 1.0%.

          3. Fred

            Additionally, of course, except for Norway, all of those countries are heavily indebted and will fully participate in the Greater Depression.

            Their tax rates don’t protect them from debt nor from the consequences of debt and gov regulations.

            Try again.

    2. nonclassical

      corporations were very adament in BUYING government legislative deregulation
      and access…

      U.S. economy =$6.5 trillion, world economy = $16.5 trillion per year, deserted for over 3 years already.

      Who didn’t understand when credit card co’s lobbyists wrote new bankruptcy legislation, that millions of Americans were going to go bankrupt?

      Some knew what was coming 8-10 years ago, took steps to protect families….

  10. JurisV

    Another superb interview Mr Pilkington!

    Palley’s explanations are very clear, helped my growing understanding — and I share his pessimism about our times rhyming with the 1930’s. I also was impressed with how much his views rhymed with, what I felt was pretty much a majority sentiments in the recent INET conference:

    1. The current economic models are “Science Fiction” — Dirk Bezemer. They don’t now, but must include “money”, banking, and capital flows across borders to be even minimally useful.

    2. Any new Paradigm has to focus on “reducing injustice –Prof Amartya Sen . He also said to make the distinction between “justice and injustice.” He said “reducing injustice” would be a more appropriate focus.

    3. GDP (and its growth) should not be the economic focus; rather it must be focused at the root on human beings. So focus on improvement in “human welfare.” — Joseph Stiglitz

    4. One of the results on the financial crisis has been to produce a growing “Democracy Deficit.” — many speakers and discussants mentioned this.

    5. ETHICS…… The moderator in the Amartya Sen session had a good discussion in responding to several questions on ethics. He said (and I’m paraphrasing) “New Economic Thinking” needs to, in part, go back to the ideas of the “Old Thinkers” ! He mentioned David Hume and Adam Smith who he said had much to say about ethics and its importance.

    6. Understanding the historical record in Economic thought and theory was brought up time after time. The years after the rhyming 30’s saw an understanding of Economics with Fisher, Keynes, Shumpeter, Minsky that spoke to ethics, morality, justice in Economic Theory — and ultimately to the welfare of the human inhabitants of THE MARKET !

    A positive note: The moderator of the session in which Dirk Bezemer presented, in his summary said that this INET conference (the third one) had ideas and conversations that were radical compared to the one just two years ago in Cambridge. The current crisis is forcing the economics community to question the established Pillars and re-evaluate fundamental assumptions.

    A pessimistic note: POWER… The financial community and their political supporters have amassed an incredible amount of Power in the last decades along with wealth. They are not going to easily relinquish that power. Andrew Haldane said that the burgeoning “revolution” in economic thinking has to keep coming up with facts supporting a new narrative so that those in politics can use those as “weapons”. I think Haldane was being overly optimistic. Things are going to get a lot worse for the middle class before we see any hints of the necessary “pitchforks and torches” argument.

    1. JurisV

      oops… I forgot to list the mention of regulation, regulation, regulation that was also said to be imperative in any system that has even a hint of being effective.

      And having just now read Fred’s comment above — I have to say that my pessimism is overwhelming. If we closely look at the historical record — it’s excruciatingly difficult to be very optimistic of achieving rational progress over any extended period. And not just in economics.

    2. Aquifer

      Do you have links to these sessions that you talk about? i would like to see more of them in addition to the ones presented on NC

      Appreciated …

  11. Chris Wroth

    Thank you for a terrific interview. May I offer Mr. Palley an optimistic ray of hope? If someone (?!!) is able to convince Ireland to offer Mosler bonds, the subsequent success of that issue could push MMT to the front of the conversation. After all, look what happened after Iceland started listening to Michael Hudson. There is always hope.

  12. Paul Tioxon

    The change from the New Deal to the rotten deal for the middle class, is still not quite apparent from this interview, but then, I’d have to read the whole book. But let me say this based on what Philip has teased out of the author. I believe I understand and agree with the big concept you are trying to articulate. From the virtuous cycle of mass production, mass consumption, America liberated a massive middle class. It was the wages of the big businesses that gave the middle class the new moniker, consumer, which drove more businesses and more prosperity into more corners of American society than ever before. Low Unemployment and wage growth equaled more consumption of finished goods keeping factories humming, tractor trailers rolling, and shopping center parking lots jammed. But it took wages, rising income on the part of the massive middle class to do all of this.

    As capital escaped first to Europe via the Marshall Plan and then to Japan, slowly what was made and sold in America became first made somewhere else and secondly, the profits were harbored somewhere else. The increasing incomes based on increasing productivity leaked elsewhere. The differential in wages of course had not escaped the capitalist, who pocketed the difference and kept it offshore. The trade imbalance grew, without Chinese or Korean savings glut, it grew with American capital’s glut. So, the wages stagnated and then given the death by a thousand cuts. Cuts in benefits, cuts in pensions, cuts in public services that were once nominal in cost, now unaffordable. Such as quality public education, low or free college tuition.

    And all of this has to be justified. The economics profession is little more than pseudo-scientific justification for political domination by those who use money and its debt as social control. Even among the other 2 pillars of social science, sociology and political science, simple analysis of how to win elections has replaced serious research into policy alternatives. That, and menial counting of misery without any political access to reduce the suffering recounted in a thousand studies of unemployed, the poor and criminals the new names of the citizens formerly known as consumers, voters, and labor.

  13. gundar

    My question has always been ‘why should we have bailed out the big banks at the outset of the crisis?’ Would not doing so produce.the catastrophic effects all the bankers and politicians predicted in that scenario? Would there not have been other firms willing to step into void created a Goldman or bofa implosion? The crisis would have been the opportunity to restructure the system without waiting for an econo-clysm. It’s too bad nobody had the forsight to seize the.opportunity

    1. nonclassical

      …not all banks needed or wanted bailouts-read this, from Bartlett and Steele,
      twice Pulitzer Prize winning journalists, documenting what actually was done.

      From previous bushcheney lies people should have expected piracy-bum’s rush
      out of office..not all banks were anywhere near needing $$$$…so supplying all
      can be seen as cover-up…(yet another by bushitters) :

  14. Hugh

    “My argument is that around 1980 the U.S. adopted a fundamentally flawed economic paradigm.”

    OK, who is the US here? Isn’t it our elites. And it wasn’t in 1980 with Reagan but in the second half of the 70s under Carter and Volcker that this began. And the “this” in question was not a “flawed economic paradigm”. It was kleptocracy.

    I agree with much that Palley says but as always the centrality of the criminal element, that is kleptocracy, is missing. What he does here is rather like describing walking into a bank with a loaded gun and walking out with a lot of cash a flawed paradigm, instead of what it is bank robbery and a crime.

    How exactly are we to fix the problem of kleptocracy if we continue to refuse to recognize it, and our elites culpability in constructing and maintaining it?

    1. Aquifer

      Agree completely – here is my cartoon version;

      After TPTB were temporarily cowed by the social movements empowered by labor, etc, in the New Deal era,they went undercover a bit and laid their plans – hmmmm, how to destroy the power of labor to demand better wages, working conditions, bennies, etc hmmm

      Aha, make them unnecessary – their power, their leverage is enabled by their necessity to capital; in order to sell our stuff here we have to make our stuff here – so if we can figure out how to sell stuff here without having to make it here, we won’t have to deal with domestic labor, we won’t need ’em, their power is broken …

      The glory of “globalization” was born – the trick was to sell this pig in a poke before folks caught on, and they did a masterful job – actually convincing folks it was “good” for them and for those who had looked behind the curtain, it was “get over it, it’s inevitable, ya gotta go with the flow”. Even lefties considered (still do, unfortunately) the “p” word anathema, when in fact it is those 3rd world countries they have a soft spot for that were supposed to benefit as well from trade who are now crying for the right to protect their own domestic industry.

      The key is, has always been, local economies, local industry, using local resources sustainably to serve local populations. No need to “compete internationally” – what a load of bunk that is but it is part of the unquestioned mantra before which we must bow even as we choke on it ..

      There is a common theme here, whether politics, or economics or whatever – if you wish to propagate a system, you must convince folks TINA, and if a competing idea sneaks through, then the next step is label it a “bad” or “spoiler” idea, and if that isn’t enough, then convince folks it “can’t win” – and the extent you must saturate folks minds with this claptrap is commensurate with the layers of BS the system is composed of.

      This works so well, it’s scary – you don’t even have to engage the idea on it’s merits – this is how the kleptocracy you speak of has succeeded and still succeeds.

      IMO, we won’t make any progress politically, or economically or socially until we shake off this concept of TINA, and refuse to accept that the alternatives we might choose “can’t win” …

      Whaddya think?

      1. F. Beard

        I think we can have all the benefits of capitalism without a government backed/enforced private money cartel, the banking system.

      2. Hugh

        I agree. Our elites control the terms and forms of public discourse. They close out any alternatives. They do not address problems or they miscast them and they take off the table at the outset any solution that might work. This is the contradiction of our elites. They justify their system of privileges on the basis of being better able than the 99% to identify and fix problems, but in practice they are doing the very opposite of this, because very often what is a problem for the 99% is a looting opportunity for them.

    2. nonclassical

      exactly my point Hugh…remember, bankster’s own paid raters rated MBS “AA”
      or “AAA”…

      we KNOW criminality was rampant….

  15. emptyfull

    “One has to be an optimist if one believes in constitutional democracy, and I do.”

    Amen, brother. Good interview.

  16. Aquifer

    “My book starts with the fundamental idea that economies are made, not found. The way economies are organized and function is significantly the product of social choices, not the product of nature.”

    Thank you – i have been positing that for years, and get blank stares. The very idea that economic theory is not embedded in the fabric of the universe and does not wear the cloak of inevitability, but is a tool fabricated in the mind of man and hence malleable and disposable is such heresy – who but a kook or a rube would think of such an idea …

    We made it, we can change or discard it and make a new one – yup, uh,huh, “yes we can”

    “My intellect tells me that as of now there is no significant political force for progressive change that moves the political and policy debate in the direction I would like to see it go.”

    Well, Mr. Palley – feed this political force into your intellect and see if you can’t help it become “significant” …

    Economic systems are a tool to serve people, not the other way around, and are to be used, modified, discarded to the extent they do so …. Why is this a “revolutionary” concept?

  17. Fiver

    Agree with Hugh and others that this explanation is wholly unsatisfactory in several respects – chiefly by ignoring the clear fact that the US has long been run by a fusion of elite, global, criminal corporatism (public and private) and military/security supremacy. Given that the US “left”, largely evaporated post-Vietnam and “liberals”, “progressives” or plain vanilla Democrats have been backing up and/or moving “right” for decades, the record reads like part 30 year elite business/government felony rap-sheet, part stunning chronicle of political/social failure EVER to face the big ones squarely. The grotesque looting and “security” madness has now been normalized – not a day goes by that many billions head into the wrong pockets right in front of our eyes.

    I’d suggest the it goes further back, at least to Nixon’s Admin. And I’d also note the role of the Bank for International Settlements. Consider this piece from Ellen Brown re the end of Canada’s experiment with Government borrowing – from 1939-1974, Canada’s Government borrowed from the Bank of Canada (essentially itself)for essentially nothing. The BIS succeeded in getting this changed by 1974. Canada was forced by someone to start borrowing from banks, and has racked up $1 trillion in interest payments to domestic and foreign banks (bigger than Canada’s annual GDP for many of those years). How many of these sorts of “profit squeezes” have we seen since? Including the current US/Goldman Sachs pillage of Europe. Here’s both from Ellen Brown.

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