GZ: It’s a matter of adaptability?
AK: It’s all about adaptability. The wonder of capitalism and the reason that capitalism has survived world wars, revolutions, disease, and whatever, is that it is a very adaptable system, unlike any other socioeconomic systems we’ve seen throughout history. It is highly adaptable, and that’s why it continually reinvents itself. It’s an evolutionary system.
GZ: In what areas do you think government is likely to expand?
AK: Financial regulation is obviously one area where we need more government. Even more important is the macroeconomic role of government in stabilizing growth. The idea that somehow the private economy had found a way of moderating itself and of just stabilizing itself and avoiding booms and busts is not valid. Booms and busts have to be consciously averted through macroeconomic policy. Also, international trade imbalances will not be left to market forces in the future.
GZ: In what areas will government contract?
AK: There clearly are areas where government is going to have to shrink. The enormous growth of social spending that we’ve seen all over the world, largely on pensions and medical care, is completely unsustainable. What the crisis did was bring the crunch point forward by about ten years, so instead of becoming unsustainable in 2025, the Medicare and Social Security system here in America or our National Insurance system in Britain is going to become unsustainable within the next few years.
GZ: If the proper steps are taken, you’re optimistic?
AK: I am potentially optimistic. And what I mean by that is I think the reasons for optimism are still valid. In other words, we have seen that the system can adapt, can save itself, and can change in response to a changing environment.
GZ: Specifically, what needed to occur for that to happen?
AK: First, a deep depression had to be avoided after the crisis, and now a double-dip recession has to be prevented. To do that you had to guarantee the credit system without limit. You had to ensure that the banking system, the financial system, did not collapse, and it was only, ultimately, the government and the central banks that can do that. Second, you had to reduce interest rates to the lowest possible level, which again, the US did extremely quickly, getting it right down to zero rates within three months. And the third—and this one is most debatable and probably least important—was fiscal stimulus. All three of those actions were the right actions to take in the aftermath of the crisis, but the real question is, How big should they be, how long should they go on, and what should be the exit strategy? That’s where the real debate is.
GZ: What about investment?
AK: We are now moving into a phase where government stimulus has to make way for business spending. Businesses have strong cash flows and profits and should become sufficiently confident or even optimistic about the outlook for demand in the next five years to start investing some of that money. There is some sign that’s happening. I mean, even the last couple of quarterly GDP figures show that real corporate investment in the US has been growing at annualized rates of 10 percent-plus, so there is some sign of this coming back, but it’s a slow process. And, unfortunately, unemployment is the last indicator to start improving in any economic cycle.