Photographed by Zhu Gaolei

Joseph E. Stiglitz giving a speech at the Chinese Academy of Social Sciences

 

In late March, after delivering a speech on 2014’s economic forecast at the symposium on International Economic Policy and Governance co-sponsored by the Chinese Academy of Social Sciences (CASS) and the British Academy (BA), Stiglitz sat down for a dialogue with CSST.

 

CSST: Prof. Stiglitz, we all know that you won the Nobel Prize in Economics for your contribution to understanding how information asymmetry affects markets. What happens when there is informa­tion asymmetry and how does this change our understanding of eco­nomics?

 

Stiglitz: Since the beginning of modern economics, it has always been assumed that there was perfect information. It is similar to how in physics people assumed there was no friction in earlier, simple models. Everybody knew that this assump­tion was not correct, but they did not know how to analyze and think about situations in which there was imperfect information. In particular they did not know how to under­stand the effect of asymmetric infor­mation, where some people know something that other people do not know. I helped figure out a way of analyzing this problem. It shows that basically most of the results that have been established for over two hundred years in economics have to be rethought. Some of the most fun­damental results, for example that “markets are always clear” or “mar­kets are efficient” are not true. This ignited a huge body literature over the last half century trying to under­stand how markets with imperfect or asymmetric information actually work. There is a large literature talking about issues of agency, moral hazard, adverse selection and incentives. This includes issues of governance, corporate gov­ernance and public governance.

 

CSST: You said that one big issue in economics now is to seek the right bal­ance between the market and the gov­ernment. How do we find this balance?

 

Stiglitz: The basic idea we have learned both from history and theory is that the two extremes do not work. If you leave everything to the market, you have crises, firms exploiting innocent people, monopo­lies, and environmental degrada­tion—in short you have a society that does not work very well. On the other hand, we’ve learned that if the government does everything, things do not work very well either. So you need a balance. The problem is that the balance differs from one country to another, and from one period to another. So this is going to have to be a constant subject of discussion. There is no one answer. It has to vary from one stage of de­velopment to another. It is not just a question of how big the govern­ment should be; that is the wrong way of thinking about it. It is what the government should be doing: the government needs to regulate the environment, provide social protection, promote equality of op­portunity and promote science and innovation. Markets will not do that enough on their own.

 

CSST: If we find that balance, will that be sufficient to prevent and ad­dress financial and economic crisis?

 

Stiglitz: It will go a long way. What we have learned is that the financial market is very good at creating new risks and instabilities. So if we have the right regulatory structure, we will succeed in achieving stability, but we must constantly be aware that we will have to have new regu­lations. For instance, in the U.S., we had a very good set of regulations adopted after the Great Depression and things worked very well for al­most forty years. Then we got a gov­ernment who said things are work­ing so well, we do not need that set of regulations. After that, there were new derivatives but there were no regulations for them. Since they were created, somebody should have done something about it. The ideology of the market fundamen­talists said ‘no’, but those who saw the dangers said ‘yes’. There was a big battle, and unfortunately the people who argued for no regula­tion won and the American people and the world suffered.

 

CSST: Talking about the crisis, it has been five to six years now. So where are we now?

 

Stiglitz: Clearly we are much bet­ter than when we were at the very bottom but we are not really back to health. In the U.S., we are still about 15% below the trend of where we would have been. If you look around most of the advanced coun­tries, GDP per capita adjusted for inflation, or GDP per working-age population adjusted for inflation is lower than it was before the crisis. Several countries in Europe are in depression. Unfortunately, given the current policy, it is not likely that Europe and America will get back to health any time soon.

 

CSST: How are emerging markets doing now?

 

Stiglitz: I think the emerging countries did astoundingly well. After the crisis, many were very worried whether the emerging countries would be able to sustain themselves when export markets in Europe and America were demol­ished, as many of these countries’ growth was based on exports. The good news is that they did not pick up the ideology of austerity that has prevailed in Europe and the Republican Party in the U.S.; they read the textbooks about Keynesian economics, about the importance of stimulus. China used one of the strongest stimulus packages and it worked.

 

In addition, America’s quantita­tive easing monetary policy has caused turmoil in global financial market and made the problems in the developing countries and emerging markets all the more difficult. When quantitative easing was introduced, money flooded into many of these countries, causing ex­change rate appreciation and asset bubbles. However, because America had not fixed its own financial mar­kets, money was not going where it was needed or wanted. That was in the first stage. Now we are in the second stage when we are tapering off. As a result, money is moving out of many countries, causing another round of havoc. The good news is many of the countries figured out how to manage the inflow and are just reversing the policy. But it is still difficult; I do not want to minimize either the difficulty or the cost of un­doing the policies that have resulted from quantitative easing. As America fixed its economy, it did not really think as much as it should have about the impact on other countries.

 

CSST: You said that the biggest problem with global economy is weak global aggregate demand. How do we fix this problem?

 

Stiglitz: Some problems are do­mestic within individual countries, some extend across many coun­tries and some are associated with the way the global system works. Europe and America’s austerity is weakening global aggregate de­mand. Europe and America have fi­nancial systems that do not do what they should in terms of providing credit to small and medium-sized enterprises to expand jobs. I hope we can fix that; this is in the world’s interest, but it is not happening very rapidly. Another global problem is inequality. If we had a more equal society, we would have a more ro­bust global economy. I think every country needs to think about this is­sue. The third thing is the rules of the game—the way the global economic system works. I have argued that we need a global reserve system; the absence of a global reserve system weakens global aggregate demand. We do know what needs to be done, so the question is whether we have political institutions and the political will to get it done at the national and global level.

 

CSST: How do you view the pros­pects for the post-crisis era?

 

Stiglitz: We are creating a very different global order than we had before the crisis. The world is going to be much more multi-polar. I think the crisis showed the weakness in the American economic model and weakened America’s soft power. We are living in a new world in which power is more diffuse. It is less likely that corporations and special inter­ests—say, the U.S.—would demand a global economic system that gives them privileges at the expense of the emerging markets and developing countries. We are likely to get a fair globalization. The problem is wheth­er we can get that system to work.

                                                                                                                                   Translated by Jiang Hong

                                                                                                                                     Revised by Charles Horne