To know why and how, flip through the pages of Raghuram G. Rajan's latest book fault lines
To know why and how, flip through the pages of Raghuram G. Rajan's latest book fault lines
Sulkings colleagues, a boss who kept promising a hike that never came, the laptop I couldn't buy and the holiday that didn't happenu00a0-- that was how I recalled recession until I got hold of Raghuram G Rajan's Fault Lines.u00a0 
In developing countries, inequality of income has pernicious effects.
It restrains development and also leads to the wrong kind of policies
Driven by logic
The book would interest anyone who's clueless about taxation
procedures and loan repayment. Apart from being a detailed explanation of how the global recession came in, the book also gives sound logics as to why the fissures that almost pushed the world economy to the brink of collapse still exist and will continue to pose a threat until leading economies implement fundamental reforms.
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Experience speaks
The author, who has spent a major part of his life at international banking and financial institutions, has gone a step back to tell the readers how even the most sturdy economies experienced sleepless nights like the ones during the great depression in the decade preceding World War II. The book takes a broader view of the
external and internal forces of the financial set-up that caused the downturn.
Contradicting beliefs
Contrary to popular belief that the financial pundits were clueless about the approaching Tsunami, Rajan proves why the bankers had the idea of everything that led to the crash. The price of risk taking had been distorted by the processes outside the financial system, including the push towards low- income housing, the extreme stress on the stimulus given by the Federal Reserve and the willingness to intervene, if the system got into trouble.
What led to the blunder?
Rajan points out that the inequality of income that created the political pressure to send money in a particular direction was one of the key reasons. In developing countries inequality of income has pernicious effects. It not justu00a0 restrains development, but also leads to the wrong kind of policiesu00a0-- something similar to this happened in the US. Poorly educated or skilled people are lagging behind in the rat race because jobs are becoming more and more demanding.
The fraction of people graduating from high school in the US has not improved since 1970 and the fraction of males graduating from college has remained stagnant over a long period of time so the supply of educated people is not keeping up with the demand for them, resulting in income inequality. It led to too many people being left behind in the 80s and 90s and the political process response. How do you handle such people? You try to retrain them, educate them but that's difficult and it takes a long time.
The next possible alternative was credit. If they could get easy credit for a house they would feel better
-- and borrow against the rising price of that house and fund consumption. But that only took the attention off the fact that incomes were stagnating.
The push towards low-income housing credit was a way to take people's attention away from the deeper problem and it worked for both Republicans by creating voters with houses and for Democrats as it created more flows towards their national constituency. That's why both Presidents Clinton and Bush supported it.
Tonnes of money was poured into the initiative for low- income housing by various quasi-government and government agencies and it created the mess in the housing sector. Also, when the trouble set in, the relatively short safety nets like unemployment benefits expiring after six months caused a lot of anxious jobless people.
Couples with very low savings really had nothing to fall back on. It may take more than five years for the jobs lost during recession to return. And this is why measures like the six months of unemployment benefit wouldn't work.u00a0 Another trouble-spot can be traced to the growth strategies of the world's largest economies.
Germany, Japan and, most recently China, have relentlessly pursued an export-oriented growth strategy and have been unwilling (or unable) to stimulate domestic consumption. In contrast, the US (and the UK) have relied on a consumption-driven growth strategy and have been all too willing to tolerate an increase in household and government indebtedness.
TIme to be serious
Rajan asserts that in the absence of serious economic and political reforms, the end result is usually an economic crisis. To avert such crises, Rajan proposes that the IMF go beyond its role as a lender of last resort to engage in a debate with the citizens of nations (with serious economic imbalances) a la Oxfam ufffd on the economic and political compromises necessary to avert such crises. While such debate could alleviate the economic and political pressures that lead to a crisis, it is unclear whether the IMF is prepared for such a role.
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