He describes the 1997 Asian crisis in a way that makes it clear that differing views are reasonable about how it might have been prevented. I take from his description that macroeconomics is a chaotic system. Chaos theory says that chaotic systems should be amenable to control, but only with very good modeling of the system and the effects of intervention. Weather is chaotic too and I think that models adequate for such control, of either weather or macroeconomics are not at hand. I think that economics modelers generally overlook the existence of intelligent agents in the systems they model. There are modelers within the modeled. Such guarantees chaos, I believe. But this is not evil.
From the chaos perspective I take it from Krugman’s report of the Asian crises that it might have been prevented by small steps taken late in the game by an omniscient actor while the 2008 crises, as I see it, would have required much earlier intervention.
On page 103 he begins a funny and I think very useful hypothetical world scenario. He describes a crisis and three possible but unsatisfactory policies to deal with it. Initially he fails to follow thru in describing the problems with free floating exchange rates. At the end he does and concludes that a floating rate is the least bad. (And so I forgive him.) He claims that the resulting rate fluctuations are difficult for business to deal with. I have always suspected that this was because businesses are tempted to gamble on rates rather than thoroughly hedge. Wishful thinking can blur the two. It is hard to admit that the fantastic deal you just signed was in light of an impending rate change, especially if your bonus depends on it. It seems to me that currency speculators allow hedging so that business can attend to business. His claim that some businesses will be tempted to speculate and damage themselves is merely an example of businesses doing dumb things to themselves. Darwin has the answer to this. Leave the speculation to speculators and stick to business. Under broad circumstances both theory and modeling conclude that speculation tends to smooth prices. When governments interfere with free exchange, speculators are provided with the leverage they need to game the system. The speculators usually win. My advice to governments is “Don’t do that.”.
By page 108 Krugman comes to this conclusion but considers it a necessary compromise. I think that he thinks that speculators are merely defanged rather than actual contributors to a smooth economy, given floating exchange rates.
A meme had spread that Thailand was a good place for commercial activity, then the counter-meme overtook it. Monetary turmoil merely reflected this. Confidence is a many splendored thing.
I wish he would back off and ask: Do we need the shadow banking system? What does it do for us? What sorts of banks do we need? What is the cost of the bail-out and who will buy the bonds that permit it?
Krugman has an interesting article in the NY Times today that claims that the nation has made no net investment this decade. (‘investment’ in the sense of an economist, such as building factories) It is curious that he does not recommend investment as part of the solution. Not all public works are wasted, but it is a good bet.