The Emperor Nero fiddled while Rome burnt. The world’s governments today must not repeat the error.
After the collapse of Lehman Brothers Holdings Inc., world leaders rallied around impressively to rescue the banking system. But then they seemingly patted themselves on the back and pressed the pause button. Instead of battling the immediate crisis, politicians allowed themselves to get sidetracked by the idea that they should focus on building a new “Bretton Woods”.
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Many European governments haven’t even injected the capital promised a month ago. Meanwhile, Henry Paulson, the US treasury secretary, made the mistake of saying that he was going to leave it to the incoming Obama administration to spend the rest of the $700 billion (Rs35 trillion) that hadn’t been used in his first round of recapitalizations.
As the politicians have dawdled, the crisis has rushed ahead. In the latest developments, Citigroup Inc. is on the ropes and the US car industry looks about to be sucked down the plughole. It is now clear that the relentless avalanche of bad news since Lehman went down has undermined confidence not just in banks but among consumers and companies. In kitchens and boardrooms around the world, people are pre-emptively tightening their belts in an attempt to avoid becoming roadkill.
It is imperative that governments summon up their energies and get ahead of the curve. Three things are needed. Top of the list is leadership. The crisis will not wait for Barack Obama to get into the White House. Somehow, the incoming and outgoing administrations have got to start working seamlessly on action plans.
Second, the banks must be properly recapitalized. Money must be injected—probably even more than was initially envisaged. The goal should be not simply to ensure that the banks don’t go bust, but to make sure that they have enough capital to start extending loans again.
Third, there must be coordinated fiscal stimulation. Some countries have already started this. But piecemeal action will not be nearly as effective in softening the blow to confidence as coordinated worldwide action.
Given the deterioration in sentiment in the past month, a stimulus equivalent to 1% of gross domestic product—the round number being bandied around—is probably not enough. Despite the genuine risks in running up budget deficits, governments should probably take a big gulp and go for double that number.
Even if all these things happen, a deepish recession cannot be avoided. But at least there would be a good chance of limiting the damage. A slump with mass unemployment, repossessions, social unrest and the risk of a retreat into nationalism is too awful to contemplate.