April 12th, 2012
03:30 PM ET

The trouble with libertarian paternalism

Editor's Note: Raghuram Rajan, a former chief economist of the IMF, is Professor of Finance at the University of Chicago's Booth School of Business and the author of Fault Lines: How Hidden Fractures Still Threaten the World EconomyFor more, visit Project Syndicate's website, or check it out on Facebook and Twitter.

By Raghuram Rajan, Project Syndicate

There are many arguments against government paternalism: apart from limiting individual choice (for example, the choice to remain uninsured in the current health-care debate in the United States) and preventing individuals from learning, history suggests time and again that the conventional wisdom prevalent in society is wrong. And, since governments typically try to enforce the conventional wisdom, the consequences could be disastrous, because they are magnified by the state’s coordinating – and coercive – power.

A clear example is financial regulation, which in many ways is a form of paternalism. In the US, the low risk assigned to senior tranches of mortgage-backed securities made them attractive instruments for banks to hold, given the relatively high return they offered. But they proved far from safe, despite the prior conventional wisdom. And, because the regulator had pronounced them safe, far too many banks overloaded on them, rendering them even more risky when the banks tried to sell them at the same time. FULL POST

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Topics: Perspectives
March 14th, 2012
02:45 PM ET

Democratic inequality

Editor's Note: Raghuram Rajan, a former chief economist of the IMF, is Professor of Finance at the University of Chicago's Booth School of Business and the author of Fault Lines: How Hidden Fractures Still Threaten the World EconomyFor more, visit Project Syndicate's website, or check it out on Facebook and Twitter.

By Raghuram Rajan, Project Syndicate

Why did the household savings rate in the United States plummet before the Great Recession? Two of my colleagues at the University of Chicago, Marianne Bertrand and Adair Morse, offer an intriguing answer: growing income inequality.

Bertrand and Morse find that in the years before the crisis, in areas (usually states) where consumption was high among households in the top fifth of the income distribution, household consumption was high at lower income levels as well. After ruling out a number of possible explanations, they concluded that poorer households imitated the consumption patterns of richer households in their area.

Consistent with the idea that households at lower income levels were “keeping up with the Vanderbilts,” the non-rich (but not the really poor) living near high-spending wealthy consumers tended to spend much more on items that richer households usually consumed, such as jewelry, beauty and fitness, and domestic services. Indeed, many borrowed to finance their spending, with the result that the proportion of poorer households in financial distress or filing for bankruptcy was significantly higher in areas where the rich earned (and spent) more. Were it not for such imitative consumption, non-rich households would have saved, on average, more than $800 annually in recent years. FULL POST

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Topics: Economy
January 30th, 2012
12:00 PM ET

Rajan: A crisis in two narratives

Editor's Note: Raghuram Rajan, a former chief economist of the IMF, is Professor of Finance at the University of Chicago's Booth School of Business and the author of Fault Lines: How Hidden Fractures Still Threaten the World Economy.

By Raghuram Rajan, Project Syndicate

With the world’s industrial democracies in crisis, two competing narratives of its sources – and appropriate remedies – are emerging. The first, better-known diagnosis is that demand has collapsed because of high debt accumulated prior to the crisis. Households (and countries) that were most prone to spend cannot borrow any more. To revive growth, others must be encouraged to spend – governments that can still borrow should run larger deficits, and rock-bottom interest rates should discourage thrifty households from saving. FULL POST

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Topics: Economy
October 13th, 2011
08:03 AM ET

A standby program for the eurozone

Editor's Note: Raghuram Rajan, a former chief economist of the IMF, is Professor of Finance at the University of Chicago's Booth School of Business and the author of Fault Lines: How Hidden Fractures Still Threaten the World Economy.

By Raghuram RajanProject Syndicate

How will the eurozone crisis play out in the next few weeks? With luck, Italy may soon get a credible government of national unity, Spain will obtain a new government in November with a mandate for change, and Greece will do enough to avoid roiling the markets. But none of this can be relied upon.

So, what needs to be done? First, eurozone banks have to be recapitalized. Second, enough funding must be available to meet Italy’s and Spain’s needs over the next year or so if their market access dries up. And, third, Greece, now the sickest man of Europe, must be treated in a way that does not spread the infection to the other countries on the eurozone’s periphery. FULL POST

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Topics: Debt Crisis • Economy • Europe
September 8th, 2011
11:30 AM ET

Is inflation the answer?

Editor's Note: Raghuram Rajan, a former chief economist of the IMF, is Professor of Finance at the University of Chicago's Booth School of Business and the author of Fault Lines: How Hidden Fractures Still Threaten the World Economy.

By Raghuram Rajan, Project Syndicate

Recently, a number of commentators have proposed a sharp, contained bout of inflation as a way to reduce debt and reenergize growth in the United States and the rest of the industrial world. Are they right?

To understand this prescription, we have to comprehend the diagnosis. As Carmen Reinhart and Kenneth Rogoff argue, recoveries from crises that result from over-leveraged balance sheets are slow and typically resistant to traditional macroeconomic stimulus. Over-levered households cannot spend, over-levered banks cannot lend, and over-levered governments cannot stimulate.

So, the prescription goes, why not generate higher inflation for a while? This will surprise fixed-income investors who agreed in the past to lend long term at low rates, bring down the real value of debt, and eliminate debt “overhang,” thereby re-starting growth. FULL POST

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Topics: Economy • Jobs • Perspectives • United States
More competition needed in education
May 16th, 2011
08:45 AM ET

More competition needed in education

Editor's Note: Raghuram Rajan and Brian Barry teach at the University of Chicago’s Booth School of Business, where Barry is Executive Director of the Initiative on Global Markets. You can read more from them at Project Syndicate.

By Raghuram Rajan and Brian Barry

President Barack Obama, like many Western leaders nowadays, made improving education one of his main promises to voters during his election campaign. But other domestic issues - health-care reform, budget battles, and high unemployment - have understandably loomed larger. And the United States is not alone: education reform is being held up in the United Kingdom and continental Europe as well. FULL POST

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Topics: Economy • Education • Global • United Kingdom • United States