Growth

1
Growth Crises

• Michael Smitka
• Fudan University ????
• November 2000

2
Overview - why so few crises?

• Leverage is dangerous!
• Banks avoid crisis using rules of thumb
• Those rules work - most of the time

3
Why then crises?

• Change undermines rules of thumb
• Change in types of industry / borrowers
• Change in strategic environment / flow of funds
• Change in regulatory environment
• Mistakes are made
• and a shock produces crisis

4
Remedies?

• Regulators face a new structure
• They work by rules-of-thumb, too
• And have the same history
• An AMF role?
• Experience beyond one economys limits
• But would their advise be taken?
• Even once would repay the effort!

5
Japans Case

• No need for financial controls
• project selection was easy
• failure was hard / recessions were few far
  between
• But pricing long-lived assets was hard
• Real estate grew faster than economy
• Stock prices grew faster than economy
• Growth industries grew very fast indeed!!

6
Growth Dynamics

• Transition out of agriculture
• Fast productivity growth in industry
• Urbanization!
• Household formation
• Infrastructure, housing
• But its a one-time transition!
• And eventually ends

7
Slowdown

• Industry no longer needs funds
• But households keep saving
• Past savings was at low income levels
• So accumulated wealth is modest
• Need to keep saving to fund old age
• Who then will borrow?

8
Shifts in Japanese Savings Flows
9
The Primary Shock 1970 vs 1976

• Corporate investment fell 10 of GDP
• Savings rose!
• Banks were left to scramble

10
Interregnum

• Japanese fiscal deficits
• created a new borrower for banks
• MOF policy stopped that by 1982
• Reagonomics US consumption boom
• Export-led growth from 1982
• Appreciation / Plaza Accord stopped that from 1986

11
Secondary Shock

• Bad macro policy
• Easy money from 1986
• Japan as Number One psychology
• Just as banks sought new borrowers
• Real estate and more real estate!
• Small business
• Also international loans

12
Shocks, continued

• Bubble economy
• Stock prices doubled
• Urban real estate prices rose even more
• Fiscal policy mistakes accentuated
• On-again, off-again policy built up debt
• Regulatory policy errors accentuated
• Banks allowed to make more bad loans

13
Lessons

• Long-lived assets easy to mis-price
• Stocks
• Real estate
• Outside nay-sayers may be right
• Rapid growth creates pressures that virtually
  promise crisis

14
But crises may be inevitable

• Even the slow-growing US suffered
• Interest rate shocks undermined SLs
• Regional growth led to real estate bubbles
• A new venture, international lending, proved
  disastrous (esp. to borrowers)
• And now deregulation
• Loan quality falling in a boom economy

15
The End

• Until leverage strikes again
• Deregulation is no panacea
• Regulation fares no better