Fixing the economy: We got it wrong

„Obama's economists had more hubris and less ambition than Reagan's. They thought they could predict events accurately and put just the right policies into place. And that was before politics interfered, cutting the actual package to well below what Romer thought necessary. Larry Summers, however, was later quoted saying that he still thought the stimulus was about right, which raises the question: Why didn't it work as planned?

In fact, stimulus alone was never going to bring recovery. This crisis was caused by financial collapse, rooted in massive banking fraud. The financial system is our economic motor and when it fails it cannot be revived simply by pouring money on it, any more than a wrecked reactor can be restarted just by adding fuel. Team Obama faced a situation not seen since the 1930s — a worldwide banking meltdown. The financial system needed to be rebuilt — and it still does. But Team Obama chose to overlook this.

The result was debt-deflation. Falling asset prices tipped more and more households into insolvency, business stagnated, tax revenues dropped, states and localities cut their budgets and deficits widened. The situation is similar in Europe, with countries rather than households in the deepest trouble, and wild rumors attacking the shares of even the biggest banks.

Federal budget deficits in this situation are like IV-bags in an emergency room: they stabilize things. IV's are definitely linked to sickness, and no one would use them if they weren't necessary. But very few doctors propose to cut back on saline while the patient is still sick. Today, however, the official economists and their followers in Congress, the White House and the media are divided between those who would remove the IV's slowly, whether the patient recovers or not, and those who'd like to charge through the wards, yanking needles from arms. The debt deal enacted earlier this month put the first group in charge, but that's pretty cold comfort.”