Policy Lessons from the Latest Recession

I have been pondering lately what I think the long-run lesson(s) from this recession will be. Of course, this is pretty hard to guess at right now. However, lack of knowledge or perspective has never been much of a barrier to pontification, so here goes.

The biggest lesson I have learned is that government policy can really mess things up. The home mortgage crisis, severe as it was, should not have caused a recession as serious and as deep as the one we are experiencing. John McCain was widely criticized late last summer when he said the fundamentals of the economy were strong. Ex post he was very, very wrong. But at the time what he said was pretty consistent with the evidence.

When the government (and I include the Federal Reserve under that blanket) decided that it had to move to shore up the banking system, one of the things it did was signal to the average consumer that the economy was in a lot worse shape than they previously thought. Couple that with the haphazard way in which policy was made, with few or no discernable principles determining which institutions were too big to fail and which were not, and you create an environment with a lot of uncertainty. The congress' on - off -on passage of the TARP bill was another example of policy being made in an environment of great uncertainty.

Current policy is still being made under this rubric. The stimulus package was passed without a single member of congress having read the bill. How much certainty does that inspire? There are similar problems with the budget.

We may be moving away from policy under extreme uncertainty. At least the president's address to congress cleared up the uncertainty about his policy priorities that were never addressed during the campaign. However, the policies are so clearly bad that we are begining to replace uncertainty about whether things will be good or bad with certainty that they will be bad.

Even that may not be true. If the policies are bad enough, then congress may actually fail to enact them.

The lesson I have drawn so far is that clear policy principles are really important. I suspect that even adherance to suboptimal policies early on would have been better than moving all over the map haphazardly.