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Paranjoy Guha Thakurta is an educator and commentator.

Great recession to Great Depression II?

Published Jun 30, 2015, 12:51 pm IST
Updated Mar 28, 2019, 5:18 pm IST
RBI Governor Raghuram Rajan
 RBI Governor Raghuram Rajan

After the great recession that started in 2008, and eight decades after the first Great Depression wreaked havoc across the world in the 1930s, is Great Depression II in the offing? A day after the media interpreted statements made by the Reserve Bank of India governor, Raghuram G. Rajan, as suggesting that another ’30s-like Great Depression could take place, the RBI clarified that he had not implied that there is an “imminent danger” of the world economy slipping into the Great Depression that had been caused by “many factors”.

The RBI’s “clarification”, which blamed the media for “mis-characterising” Dr Rajan’s remarks, did concede that he had said that “the policies followed by major central banks around the world were in danger of slipping into the kind of beggar-thy-neighbour strategies that were followed in the 1930s.” A beggar-thy-neighbour economic policy is one through which one country seeks to remedy its own problems by hurting the interests of a neighbouring country.


This is not the first time Dr Rajan has said that “competitive” monetary easing by the Central banks of many countries poses a threat to the stability of the international system. Speaking at an event organised by the London Business School on June 26, the RBI governor urged Central bankers from across the globe to define the “rules of the game”. Here’s an excerpt of what he said:

“...But I do worry that we are slowly slipping into the kind of problems that we had in the ’30s in attempts to activate growth... I think it’s a problem for the world. It’s not just a problem for the industrial countries or emerging markets, it is a problem for all of us... The question is, are we now... trying to produce growth out of nowhere or are we, in fact, shifting growth from each other, rather than creating growth? Of course, there is past history of this during the Great Depression when we got into competitive devaluation...”

Dr Rajan has been prescient in the past. His remarks are taken seriously. In 2005, at a conference held at Jackson Hole in the US, the last of its kind attended by Alan Greenspan, then chairman of the Federal Reserve (America’s Central bank), Dr Rajan made a presentation as chief economist of the International Monetary Fund. His paper was titled “Has financial development made the world riskier?” His answer was “yes”.

He argued at that conference that after financial institutions created complex financial instruments like “credit default swaps” and invested heavily in them, the world banking system had become extremely vulnerable. “The inter-bank market could freeze up and one could well have a full-blown financial crisis,” Dr Rajan remarked.

He was clearly the party-pooper at the conference. Other presenters argued that his apprehensions were exaggerated and that Greenspan was the best central banker in the history of the US. In Fault Lines: How Hidden Fractures Still Threaten the World Economy, Dr Rajan wrote: “I exaggerate only a bit when I say I felt like an early Christian who had wandered into a convention of half-starved lions.”

In the book he stated that forecasting the crisis did not require “tremendous prescience” and added that “all I did was connect the dots...” Two years after he was scoffed at, there was no dearth of people congratulating Dr Rajan for being bang on target. In 2005, he had contended that the causes of the financial crisis went beyond greedy bankers, apathetic politicians and inept government officials. He indicated how rational individual choi-ces collectively brought down the world economy because of a highly flawed international financial order in which incentives for taking on risks were incredibly out of sync with the dangers the risks posed.

A world economy excessively dependent on indebted American consumers to power economic growth coupled with growing inequality were among the main reasons identified by Dr Rajan that led to the great recession. Economic historians recall that the Great Depression, which commenced with a stock-market crash in October 1929, lasted till the Second World War began, in 1939. During this decade, international trade ca-me down by more than half. Global gross do-mestic product (GDP) collapsed by more than 15 per cent in the first four years of the 1930s. Factories shut down and unemployment soared.

The prospect of such a state of affairs returning is frightening to say the least. If the international crisis deepens in the near future, the likelihood of good times (achche din) coming to India would become increasingly remote. One way in which this country could be badly hit would be if global crude oil prices rose. It is worth remembering what happened in 2008. That calendar year crude oil prices jumped from $40 a barrel to $147 a barrel before collapsing again to $40 a barrel.

World prices of crude oil crashed from $115 a barrel a year ago to below $50 a barrel in January and is currently hovering around $60 a barrel. A right-wing publication like the Economist attributed the fall in prices to the tussle between Saudi Arabian sheikhs and small shale oil extractors in the US. But geo-political considerations, notably the desire of the West to spite Russia under Vla-dimir Putin after his intervention in Ukraine, have also played a significant role in the fall in oil prices.

All these calculations could change dramatically, especially if the European monetary union cracks up because of the actions of the government in Athens. Will this then act as a trigger to what Dr Rajan fears? Unlike the Greek finance minister Yanis Varoufakis, the RBI governor is no fire-breathing radical. Not only is he a firm believer in the virtues of free enterprise capitalism, if anything he is fairly conservative — groomed as he has been in the bastion of right-wing economics, the University of Chicago where the likes of economist Milton Friedman taught for more than three decades. His book, co-authored with Luigi Zingales, has a self-evident title: Saving Capitalism from the Capitalists.

Unlike those who believe the ongoing world economic crisis is “of” the international financial system, economists like Dr Rajan would argue that the crisis is “in” the system. So should we heed his words of warning? Or should we ignore him as a scare-mongering prophet of doom? The answer to these questions will be known very soon.

The writer is an educator and commentator