Three issues keep us up at night. They are the basis of what we see as fundamental movements in the economic sphere that are being met by policy makers in only a superficial way. Over the last year, we have repeatedly seen that these superficial monetary and fiscal policy moves have been ineffective in dealing with the three issues we will address here. We believe policy is piling on the Band-Aids while the source of the bleeding is left unattended. . . .
First, current economic difficulties reflect both cyclical and structural forces. Policy makers emphasize the traditional “Keynesian response” to a sudden drop in aggregate demand. There is an emphasis to getting us back to where we were. However, it is where we were that was out of step with long-run sustainable growth. . . . The attempt to “getting us back to where we were” should therefore entail policy actions that would sustain spending above the pace consistent with sustainable long-run trends. This will force spending, employment and fiscal deficits above the long-run equilibrium rate. Pricing and resource allocations are likely to be distorted.
Moreover, extensive promises of macroeconomic growth via stimulus tend to fall prey to the Lucas critique. . . . [footnote omtited]
Second, credit policy appears aimed at sustaining institutions rather than addressing the fundamental problem of transparency and the quality of information. . . .
Third, we believe the process of decision-making itself is flawed. Two specific problems have developed in policy decision-making, in our opinion. Small distributional coalitions tend to form over time in countries. Groups, such as the housing industry, for example only, tend to form political lobbies and influence policies in their direction. These policies tend to be protectionist and thereby reduce overall economic growth by misallocating capital away from a free-market allocation. The benefits of these policies are concentrated among coalition members, while the costs are spread throughout society. . . . [footnote omitted]