NCPA - National Center for Policy Analysis


February 10, 2010

Viewed historically, the housing and financial crisis was a classic boom and bust.  Prolonged prosperity dulled people's sense of risk.  The crucial question is: Why?  One answer is speculation and complacency flourished because the prevailing view was that the economy and financial system had become safer, says columnist Robert J. Samuelson. 

For example: 

  • For a quarter century, from 1983 to 2007, the United States enjoyed what was arguably the greatest prosperity in its history.
  • The boom was triggered by the conquest of high inflation, which had destabilized the economy since the late 1960s; from 1979 to 1984, inflation dropped from 13 percent to 4 percent; and by 2001, it was 1.6 percent.
  • As inflation fell, interest rates followed -- though the relationship was loose -- and as interest rates fell, the stock market and housing prices soared.
  • From 1980 to 2000, the value of household stocks and mutual funds increased from about $1 trillion to nearly $11 trillion; the median price for existing homes rose from $62,200 in 1980 to $143,600 in 2000; by 2006, it was $221,900. 

The paradox is that, thinking the world less risky, people took actions that made it more risky.  The pleasures of prosperity backfired.  They bred carelessness and complacency.  If regulation was lax, the main reason was that regulators -- like the lenders, investors and borrowers they supervised -- shared the conventional wisdom.   Markets seemed to be working.   Why interfere?   That was the lesson of experience, not an abstract devotion to the theory of "efficient markets," as is now increasingly argued, says Samuelson. 

The quest for ever-more and ever-better prosperity subverts itself.  It might be better to tolerate more frequent, milder recessions and financial setbacks than to strive for a sustained prosperity that, though superficially more appealing, is unattainable and ends in a devastating bust.  That's a central implication of the crisis, but it poses hard political and economic questions that haven't yet been asked, let alone answered, says Samuelson. 

Source: Robert J. Samuelson, "The Perils of Prosperity," Newsweek, February 8, 2010. 

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