Wednesday, November 19, 2008


One of the alleged myths they examine is that "Banks play a large role in channeling funds from savers to borrowers." This one is particularly interesting, and not just because, as taxpayers, we are now part owners of the biggest banks in the country -- and some smaller ones, too.

The idea that banks take the money we have on deposit and lend it out to other people is fundamental to our idea, our model, of what a bank is all about. It is the same model that George Bailey (James Stewart) explained to his panicked depositors in "It's A Wonderful Life." More importantly, it is the model upon which our fractional reserve system, the Federal Reserve, and the idea of monetary policy is built. If it turns out to be more myth than model, we have a problem. . .

One policy implication of their conclusion is clear. If banks aren't all that necessary as intermediaries between lenders and borrowers, we shouldn't waste time and money rescuing them. Although they didn't put it this way, it would boil down to something like this: "The banks seasoned their own soup. Let them drink it." . . .

Bank lending, though, is still very important to the smaller businesses in our economy that, in many respects, make the big businesses possible. A healthy banking system that provides direct lending to businesses is still crucial to our economy.

How important is banking to monetary policy, though? In examining bank lending and the other "myths" of the financial crisis, researchers have put the spotlight on the changes that have transformed the banking industry and raised questions about how effective monetary policy can be.

Banks, especially big ones, have become players more than lenders -- a structural change that goes far to explain their new relationship with risk. In the face of this, it is hard to believe that the Federal Reserve's actions on short-term interest rates would have the same effect as those taken, say, in 1966 or 1987.

Dean Baker, Prospect It would be reasonable for USA Today to remind readers that the forecasters whose views it presents in the article, "Economic forecasters' survey says recession to last 14 months," all somehow managed to overlook the massive housing bubble. They were therefore caught by surprise when it collapsed, pushing the economy into the most severe downturn since World War II. Readers may have found this background helpful in assessing the predictions from this group of economists.


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