Unedited Rush Transcript Event The Shift and the Shocks: What We've Learned--and Have Still to Learn--from the Financial Crisis Martin Wolf, Financial Times Athanasios Orphanides, MIT Sloan School of Management Kevin Warsh, Hoover Institution, Stanford University Peterson Institute for International Economics, Washington, DC October 9, 2014 Adam Posen: Great man comes and that’s not me. Welcome everyone back to the Peterson Institute for International Economics. It’s a very pleasant evening. We’ve got some people here who are rarely here. We’ve got some people here who’ve been living here all week so it’s a good blend. We have one of the more festive occasions on our pre-meetings calendar, a good friend and a role model of communication Martin Wolf has agreed to premiere his Washington book and premiere his book, excuse me, do the Washington premiere for his book. It’s been a long week, I’m sorry. Do the Washington premiere for his book here at the Peterson Institute and we’re delighted to have him back on our stage. We had a great discussion with him about the Euro area with Jacob Kirkegaard and others a few months ago and tonight, we’re blessed to have two terrific policymakers who will now be able to discuss some of the implications of Martin’s book. But of course the main purpose of all this being economists is to sell. This is the book. The Shifts and the Shocks by Martin Wolf. This book is for sale outside. This book is not coming money to us; it’s money to Martin. We like Martin. Go buy the book. Special added bonus, if you buy the book tonight right here, Martin will sign it for you. I have now publicly shamed him into doing that. Buy The Shifts and the Shocks. Okay, enough of that. So all of you are aware of the central role Martin Wolf plays in the public and the highest level of discussions of economic policy in the world. He is the chief economics commentator at the Financial Times. He was made CBE commander of the British Empire in the 2000 honors list for services to financial journalism. He’s an honorary fellow of Nuffield College, Oxford, an honorary fellow of Corpus Christi College, Oxford, an 1 honorary fellow of the Oxford Institute for Economic Policy and just to show his diversity, an honorary professor at the University of Nottingham. He is of course ubiquitous at the World Economic Forum at Davos. He’s is ubiquitous at events around the world. I used to, when I was living in London, have some notion of his travel schedule. It frightened me terribly. But most of all, he is a serious committed independent commentator on the world we see and he cares about trying to get it right and that’s why his columns have these horrible little data charts on them every week in the financial times because he’s actually trying to figure out reality. And interestingly even when I subbed for him, they won’t let me have charts either so Martin is very special. The subtitle of his book which is the real talk he’s going to give us today is what we’ve learned and have still to learn from the financial crisis and I will introduce our distinguished discussants afterwards but now if Martin is ready, turn it over to him. Thank you, Martin. Martin Wolf: Thank you very much, Adam, for that very kind introduction and for some reason that I don’t really understand because I’m usually quite efficient about this, I had six as the time this was going to start and now I was told it was actually 5:30. So I apologize to all of those of you who have had to wait. I should just correct one point because of the extraordinary and indeed almost disgusting activities of my agent, I will get no money from any of the copies that you buy because he managed to persuade the poor hapless publisher to make an advance that they will certainly never recoup and certainly, you will not make the difference I assure. So I’ve been doing this just for penguin. From now on, I’m trying to reduce their losses perhaps in the hope that they will publish me once again. This is an incredibly ambitious book in the sense that I’ve tried to put together my thoughts about what’s been going on in the global economic system and in the financial system and how they interacted before and since the crisis, I tried to integrate the global aspects of the crisis including the emerging world with the specific issues raised by the Eurozone so about a quarter of the book is about the Eurozone and like nearly all the books written about this crisis, it does recognize that there were other countries involved than the United States. The overwhelming dominant literature on the crisis is of course from the US and most of it with some very distinguished, but rare exceptions, really seems to think there was only a crisis in the US, nothing else really happened. And so it is very ambitious in scale and scope and in some places very radical and provocative and that was intentional. I wanted to shake people’s confidence that we ever knew what we’re doing and that we know what we’re doing now. So if I offend you, well, tough. 2 What I’m going to do is divide my discussion of my book into two parts. The first part really covers the first two sections of the book which I call the shocks and the shifts and the second part is about my ideas about solutions and responses. I should stress and it is inevitable, in the course of writing the book and in the course of events, my ideas changed to a certain degree--that’s good. So there’s always these imperfections but I decided that I had to stop at a certain point and I’m absolutely sure if I started the whole book now, it would probably be quite different, but that’s just how things are if you’re writing about an analytical book on current events which of course these are. I’m a little better off in this regard than the people who wrote books about the crisis a year or two after because so much happened after that. So let’s start off then with what happened, my view of happened. The first point is a very big point and it’s probably key to me in starting this. This was a gross failure. This was a colossal failure of policymaking and I think the people in charge and by the way, it’s also a colossal failure of commentary including mine that I didn’t understand how severe the dangers were though I was aware of some of them and indeed I wrote about some aspects of the problems and risks in my book for Johns Hopkins which followed the lectures I gave in 2006 in size which did bear on some of these issues and I understood some of them, but I certainly didn’t understand the potential disaster. And I think it’s important that we start off with what we have to learn that what we used to think which really should shake our confidence, when I say we, I mean respectable people running respectable institutions like treasuries and central banks and respectable people writing columns in respectable papers like the Financial Times, what we used to think was utterly wrong. And what we used to think more or less was that if we had an inflation targeting central bank which did a good job of inflation targeting, we had a relatively competitive deregulated financial system which was subject to what we in Britain used to call light touch regulation. In the US, you might call it Greenspan regulation that everything basically will be fine. And if anything went wrong it would be pretty easy to clean up the problem afterwards. I’m not going to name names. This was pretty universally believed. I should say that I was never of the, and indeed, I wrote already in the early 2000s, never in the camp of thinking that it was easier to clean. But I thought leaning was very difficult. And as a result of this I regard what has happened as a shock not just to the world economy which it clearly is, that’s obvious, we’ll come to that in a moment but it has to be a shock to economics, to macroeconomics and 3 the macroeconomic conventional wisdom. And in fact, it’s one of the two huge transforming shocks since the Second World War, the first of course being the great inflation of the ‘70s which led to radical rethinking of economic policy and macroeconomic policy. And I think one of the real issues here is no comparable rethinking seems to me to be going on in response to this shock. Economists seem to think that somehow it didn’t happen or if it did happen, it wasn’t very important. And so, I think, the economists have not responded adequately so this is my manifesto as it were. People should be thinking about this disaster seriously. My argument is in essence that the reason the crisis was so enormous is that it came out of the interaction between some really extraordinary and some of those I was aware, developments in the global macroeconomic system.