A Proven Framework to End the US Banking Crisis Including Some Temporary Nationalizations

Testimony Before the Joint Economic Committee of the US Congress Hearing on "Restoring the Economy: Strategies for Short-term and Long-term Change"

February 26, 2009

Chairwoman Maloney, members of the Committee, thank you very much for inviting me to testify today at this critical juncture in American economic policymaking. I am especially honored to be following the testimony of Paul Volcker, one of the greatest public servants this country has had in the economic sphere, to whose wisdom we all would do well to listen.

Today, we face extreme financial fragility and, as a result serious, risks to our economy’s prospects for a sustainable recovery from its current troubles. Congress must grapple with difficult choices about America’s banks, and it must make those choices soon. Making the right choices now will require money upfront, large amounts of taxpayer money, and thus it is necessary as well as right for Congress to lead on this issue. But making the right policy choices now will restore US economic growth much sooner, at much lower cost, and on a sounder basis than trying to kick the trouble down the road or waiting for events to force the issue. Members of this committee are well familiar with such warnings, usually with respect to far-off economic problems. This time and this problem, however, are costing our citizens their jobs, homes, and hard-earned savings right here and now. And the correct policy response right now will make all the difference.

Luckily, although the scale of the banking problem that we now face is unfamiliar to us, the kind of banking problem we face today is familiar, and in fact well understood. We have seen this before in the United States in the mid-1980s Savings and Loan crisis, in Japan’s post bubble Great Recession of the 1990s, in the Nordic countries from 1992–95, and many times in many other countries. It is reasonable to ask why these kinds of crises keep happening, and how to prevent them in future. I would be happy to discuss that, but that is of lesser importance to our current circumstances. It is also reasonable to ask why economists who did not foresee the current crisis can be trusted to give advice with great assurance now that the crisis has hit. I would say this is analogous to the doctor who does not foresee that his patient’s common cold will turn into pneumonia (or at least saw it as quite unlikely), but knows how to treat the pneumonia once it occurs.