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¿Are banks really the problem?

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At the Financial Times’s Alphaville blog, Matthew Klein recently looked at the evidence, and was surprised to find that there’s little support for the bad-banks-did-it story, even though everyone repeats it (read Mr. Klein’s post here: on.ft.com/1O5NQQy).

But take a look back at my 1998 Brookings paper on Japan, which is more or less when I entered the debate (here: brook.gs/1uDT2jO). Back then, it was almost universally believed that the failure of monetary base expansion to filter into bank lending demonstrated that a dysfunctional banking system was the core of Japan’s problem. But I argued (on pages 154-158) that the nonresponse of monetary aggregates was exactly what you should expect in a liquidity trap, and that there was little evidence (pages 174-177) that banking problems were central to the economy’s weakness.

So, déjà vu all over again, all over again.

Desperately Seeking Consensus
The good people at the Vox EU economic analysis portal are engaged in a laudable effort to clear the ground for euro reform, starting with the formulation of a “consensus narrative” about the origins of the euro crisis (read the post here: bit.ly/1jaGONr). This is a great idea: How you think about the past plays a large role in how you think about what should happen next.

Furthermore, the authors’ narrative looks right to me. No, the eurozone disaster wasn’t about fiscal irresponsibility, or a failure to undertake structural reforms, or the debilitating effects of the welfare state, or any of the other stories floated by motivated reasoners. The crisis was a “sudden stop” crisis, in which vast capital flows into the eurozone’s peripheral economies came to an abrupt halt, which precipitated severe hardship. The fiscal issues were a consequence, not a cause, of this financial harrowing.

Can the analysts at Vox EU achieve the consensus they seek? It’s definitely worthwhile for them to try. It’s obvious, however, that a lot of people inside and outside the eurozone have strong vested interests in other narratives.

Will German officials stop insisting that Europe’s troubles are all about fiscal profligacy? Will Osborne & Co. in Britain – or, for that matter, the fiscal scolds in the United States – accept a narrative in which membership in the eurozone was a crucial element in the debacle, undermining their warnings that Britain or the United States will turn into Greece unless we adopt austerity now now now?

I have my doubts, to say the least.

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