Jan F Qvigstad: On learning from history - truths and eternal truths
Speech by Mr Jan F Qvigstad, Deputy Governor of Norges Bank (Central Bank of Norway),
at the Norwegian Academy of Science and Letters, Oslo, 13 November 2012.
The text below may differ from the actual presentation. This speech does not contain assessments of the
economic situation or current interest rate setting.
* * *
I have received valuable assistance in preparing this speech. Outside the Bank, I would like to thank Mike Bordo,
Marc Flandreau, Henrik Mestad, Henrik Syse and Knut Sydsaeter. At the Bank, I would like to thank the following
persons in particular for their contributions: Øyvind Eitrheim, Amund Holmsen, Jon Nicolaisen, Øystein Olsen,
Øystein Sjølie, Birger Vikøren NS Mari Aasgaard Walle. I would also like to thank Helle Snellingen for her
contribution to the translation of the text into English.
Introduction
All scientific and scholarly disciplines have a particular, and not immutable, set of truths.
Mathematics and theology are possible exceptions, though for different reasons. As the late
Professor Knut Sydsaeter underscored when assisting me with this speech; in mathematics
new results are proved on the basis of fundamental axioms and become new truths.
Theology also relies on truths, even eternal truths. Even if logical proofs of God's existence
have long been an important pursuit, it is safe to say that the truths in theology today stem
from faith.
The discipline of economics can readily be formulated in the language of mathematics, and
economic models are usually tested empirically before gaining acceptance. Conflicts arise
when theories that appear to be patently true are unsupported by empirical evidence, or
when contradictory theories find support at the same time. In other words, we economists are
in a borderland between faith and the strict proofs of mathematics.
The notion of learning from history cannot easily be explored without invoking the American
physicist Thomas Kuhn. This year is the 50th anniversary of the publication of his
groundbreaking work, The Structure of Scientific Revolutions.1 According to Kuhn, disciplines
progress within an established set of truths - a paradigm. Observations irreconcilable with
the paradigm are tolerated as inexplicable. Eventually, however, the number of inexplicable
observations can become so overwhelming that the paradigm breaks down. New truths have
to be established - a paradigm shift occurs.
Such shifts can be painful. The old paradigm will usually be defended by those whose
training lies in a more distant past, often persons in positions of leadership in academia and
government bureaucracy.
Long before Kuhn, Henrik Ibsen touched upon the same idea in An Enemy of the People.
Dr. Stockman talks about the few who attain the new truths, unlike the compact majority that
have yet to embrace them.
Social scientists, like economists, face some peculiar problems when attempting to learn
from history. First, we do not have a laboratory in which we can perform experiments.
Second, economic policy is part of the reality we observe. The outcome of a particular
measure will depend both on shifting economic conditions and on economic agents'
expectations of the effect of that measure. It goes without saying that in a situation like that,
drawing useful lessons from history can be a challenge.2
Scientific truths provide a common basis for further research and development, but they can
be a scourge if they are not challenged. The recognition of economic correlations lays the
groundwork for good economic policy, resulting in a better life for more people. The outcome
can be disastrous if the established truths lay the foundation for bad economic policies.
Economics as a discipline has in the past hundred years undergone several prominent
paradigm shifts, with widespread impacts and implications.
What have we learned from 1930 to the present day?
More than five years have passed since the turbulence in financial markets began. Today's
situation resembles the one Governor Nicolai Rygg described in his annual address in 1933:
"The figures for world output are truly disheartening. A recent estimate of the number of
unemployed is an appalling 30 million." Except for the phrasing and style, that speech could
be cut and pasted from that address in 1933 to describe the situation today. The queues of
the unemployed that we used to see in 1930s-vintage black-and-white photographs we are
now seeing on television in living colour. Youth unemployment in southern Europe is
especially high. The Red Cross is setting up food banks in Spain. The middle class is being
hit by higher taxes, lower pensions and unemployment. Political scientists tell us that this is a
recipe for social and political unrest.3
In May 1945, the work began to rebuild our country after the Second World War. At that time,
Friedrich Georg Nissen was the highest-ranking official in the Ministry of Finance. Nissen
trained in the law, and the photograph of him in Einar Lie's book on the history of the Ministry
of Finance shows a man formally dressed in a three-piece suit. He believed that the central
government budget should be balanced each year. Fiscal policy was conducted based on
this principle, which leading politicians also agreed with.4 Tax revenue was to be spent, but
not a penny more.
Broadly speaking, the prevailing paradigm up until the Great Depression of the 1930s - both
in economic policy and in economic theory - was that the authorities' role should be limited
to keeping domestic order and ensuring a stable and predictable regulatory and operating
framework. Prices adjust automatically to supply and demand, and the general view was that
Newton's theory shown to be insufficient, during the solar eclipse of 1919. Scientists were then able to
observe that the light from distant stars was bent by the Sun's gravity, just as Einstein had predicted. Many
scientists once believed that the Earth looks the way it does, with mountains and valleys, because the Earth
was originally a red-hot mass that gradually shrivelled as it cooled. We know what an orange looks like after a
long drying process or what clay looks like after being exposed to the air for a time. What was a smooth
surface becomes wrinkled. It was 100 years ago this year that the German meteorologist Alfred Wegener
proposed an alternative theory of continental drift. He used heuristic arguments based on studies of
coastlines. Brazil has a coastline that is an apparent perfect fit with the Gulf of Guinea on the west coast of
Africa. Even so, the theory was not accepted until it was given a proper theoretical foundation and empirical
grounding. The breakthrough came 50 years ago, when the American geologist Harry Hess proposed his
theory of sea-floor spreading, and by the end of the 1960s the theory of plate tectonics became established
science. The Centre for Advanced Study, which is located here in the Academy, recently hosted a research
group that is at the very international forefront of this field. Headed by Professor Trond Helge Torsvik, this
group worked to incorporate the theory of plate tectonics into a broader theory of mantle dynamics as an
explanatory model for movements in the Earth's crust. The aim is to understand the development of the Earth
over several hundred million years. This is truly an ambitious example of learning from history. The Centre for
Earth Evolution and Dynamics at the University of Oslo was just awarded the status of Centre of Excellence in
research.
3
Descriptions of the causes of the financial crisis that began in1929 bear a striking resemblance to today's
headlines: a massive and unregulated shadow banking system, global imbalances and substantial income
inequality (see John Kenneth Galbraith (1997): The Great Crash, 1929, Houghton Mifflin).
4
"More than anyone else", Einar Lie writes, "he adhered to the fiscal policy convictions that he brought along to
the postwar Ministry of Finance, which bore the stamp of his experience from a time without sufficiently
stringent regulation of government finances". Lie, E. and C. Venneslan (2010) Over evne.
Finansdepartementet 1965-1992 [Beyond our power], Pax forlag
markets were self-correcting. Following the Depression, a new truth emerged, with John
Maynard Keynes and Norway's own Ragnar Frisch at the forefront: prices and wages do not
adjust that quickly - nor can we expect that markets will automatically ensure full
employment. Hence, government should play a more active role in economic policy.
At the Ministry of Finance, Nissen kept to the traditional view. But the political leadership, and
eventually the younger economists who started at the Ministry, had other plans.5 The
economy was to be managed. Keynes' idea that the budget should be used actively to
manage demand and output over an economic cycle was to them an obvious truth. In a
Kuhnian sense, the older civil servants had to go for the new thinking to gain ground. The
legal experts at the Ministry had to give way to the young economists.
The new regulatory regime was enthusiastically implemented after the war, and crowned with
success. The contrast between the blight of the interwar years and the postwar boom was
stunning.
The ambition was not only to keep unemployment low. Which industry sectors should be
allowed to invest? What type of dwellings should we build? Who should be able to buy a car
and have a telephone installed? In the 1950s and 1960s, these were questions in respect of
which the central government had firm views.
Keynes, regulation and planning were predominant truths in the former government building
for several decades. Yet neither did these truths remain eternal. In the 1970s, deficits
ballooned when the government used countercyclical policies to "build a bridge" over the
global downturn. But it was a bridge to nowhere. Inflation took off and government finances
were strained to breaking point. The policy of micro-managing the economy had gone too far.
Wage and price controls at the end of the 1970s, the last gasp of the postwar paradigm, did
little to help. Norway was close to being placed under IMF administration.
In fact, it was not possible to steer the economy towards permanent prosperity. The old
doctrines collapsed.6 New ideas for managing the economy took shape because the old
system no longer functioned. Underlying the new truths was the notion that economic policy
needed to operate through the proper market incentives and that economic policy must be
sustainable and predictable. At the Ministry of Finance, the new ideas took hold primarily
because a younger generation was taking over, just as when Nissen was pushed aside.
Political micro-management lost considerable traction.
Through the 1990s and up to the mid-2000s, economic growth was high and both inflation
and unemployment low in much of the world. Cyclical fluctuations were moderate. The new
truths appeared to be working well. This period is known as the Great Moderation. But
underneath the positive developments, imbalances were building up both within and across
countries.
As we have all experienced, it is easy to ignore the bill as long as the food keeps coming and
the conversation keeps flowing. Countries and governments can live with deficits for a while,
but sooner or later the bill has to be paid.
Budget deficits and high sovereign debt levels meant that the authorities had little slack when
the financial crisis hit in autumn 2008.7 Countries rapidly embarked on an unavoidable path
of fiscal austerity at the very time that demand was falling and unemployment rising.
Unsound fiscal policies have particularly severe consequences when they coincide with a
financial crisis. Capital markets were unable to manage the large pool of savings from
emerging market economies in Asia. Safe yields had fallen and the search for returns
provided fertile ground for creativity in financial markets. Governments worldwide allowed the
banking system to grow in the belief that regulations were sufficiently stringent, that a large
banking sector is a benefit and that banks' self-interest would prevent them from taking
excessive risk.
The regulations, which in the 1980s were regarded as overly rigid, had been introduced
during the crisis of the early 1930s as a still-vivid memory. The well-known Glass-Steagall
Act had been passed in 1933 precisely to prevent financial sector excesses. Banks that took
deposits from the public were subjected to strict rules concerning the amount of risk they
could take. Deposits were guaranteed by deposit insurance, and banks could draw on central
bank liquidity if necessary. Investment banks whose customers were professional investors
had a freer hand, but no safety net.8
Banking gradually became a growth industry in many countries. Strict regulations in one
country prompt banks to flee to another. The result was the dilution or elimination of many
regulations that attempted to rein in the imagination of the financial sector. The rationale
behind the Glass-Steagall Act was discarded. This trend was universal. Unfettered financial
markets were apparently a success. Mortgage-backed securities enabled more Americans to
become homeowners, and a bullish stock market was good for pension funds - as long as it
lasted.9
7
Debt levels among European countries were, on the whole, excessive in 2008, though this varied substantially
from country to country. For example, Ireland and Spain had moderate sovereign debt, but both countries
have later incurred additional obligations owing to the problems in their banking sectors. By 2008, the
government debt of Italy and Greece had already exceeded 100 percent of GDP.
8
In the US, under the Glass-Steagall Act, which was passed in 1933, banks were no longer allowed to engage
in retail banking (deposits, lending and payment services) while also engaging in more risky investment
banking activities. When the act was formally repealed in 1999, it had long been the subject of intense
The Separation of
discussion in the academic literature. See, for example, George Benston (1989),
Commercial from Investment banking: The Glass-Steagall Act Revisited and Reconsidered, Kluwer Academic
Press, Randall S. Kroszner and Raghuram G. Rajan (1994), "Is the Glass-Steagall Act Justified? A Study of
American Economic Review,
the U.S. Experience with Universal Banking before 1933", Vol. 84, pp. 810-32,
Eugene N. White (1986), "Before the Glass-Steagall Act: An Analysis of the Investment Banking Activities of
National Banks", Explorations in Economic History, Vol. 23, pp. 33-55, and Charles W. Calomiris (2003), U.S.
Bank Deregulation in Historical
Perspective, Cambridge University Press. Marc Flandreau (2011), "New Deal
Financial Acts and the Business of Foreign Debt Underwriting: Autopsy of a Regime Change" shows how the
Glass-Steagall Act and other New Deal legislation conferred greater power on policymakers at the expense of
international bankers and discusses some consequences for financial markets. Flandreau's article can be
downloaded from Norges Bank's website: http://www.norges-bank.no/Upload/82434/EN/FLANDREU%20
Paper.pdf.
In this area, there are few, if any, ultimate truths, and the pendulum appears to be swinging back again. In the
US, the UK and the euro area, reintroducing some sort of separation between retail and investment banking is
now being discussed (cf. the Volker Rule (US), the Vickers Commission (UK) and the Liikanen Plan (EU).
Andrew Haldane at the Bank of England has recently discussed this issue in his speech, "On being the right
size", where he also outlines proposals for future banking sector regulation (see http://www.bankofengland.
co.uk/publications/Pages/speeches/2012/615.aspx). CEO Sandy Weill of Citigroup, the largest US bank
before the crisis, said in July 2012 that repealing this act had contributed more than any other factor to the
financial crisis. See also the article, "Roosevelt's lessons for President Obama" by Marc Flandreau (2012), in
The Global Journal (http://theglobaljournal.net/article/view/770/), where the author discusses historical
perspectives on New Deal policies in the 1930s.
9
For decades, a number of policies have been implemented in a large number of countries, including Norway,
Fault Lines
to support home ownership. In (2010), Raghuram Rajan describes US housing market policies.
Big banks can easily give rise to big ideas about the importance of a country. But the
financial crisis showed that big banks above all give rise to a political headache and a
massive bill for taxpayers. Banks that are so large that they can undermine the entire
financial system cannot easily be allowed to fail.10
The Basel Committee on Banking Supervision seeks to ensure that different countries
operate on a level playing field. While this is a good thing, the result was often compromise
whereby the country with the weakest regulations set the standard. One must also recognise
that the new rules introduced in the 1980s did not take into account banks' ability and
creativity in terms of circumventing these rules. Rules intended to mitigate the risk of financial
instability actually encouraged banks to take on ever more risk.
What do economists do when regulations do not work? Well, paradoxically, what we do is
argue that we need to regulate more and better. There is now a version III of the Basel rules,
which have grown from 37 to 616 pages.11 Andy Haldane, Executive Director of Financial
Stability at the Bank of England estimates that, all together, the rules - once they are fully
incorporated in national legislation in Europe - will number 30,000 pages.12 Is this really the
way to go? Has the pendulum swung too far?13 Are we facing a new paradigm shift?
In spite of lessons learned: back to square one
The philosopher Henrik Syse has reminded me of this very phenomenon. Truths we took to
be eternal often prove to bear the stamp of their time. We then find new truths and throw out
the old ones. Following the policy failures in the 1970s, many economists believed that
Keynes and his disciples were wrong, and "Keynesian" almost became a term of abuse,
referring to irresponsible government spending. But to draw such a conclusion is to go to
10
Experience shows that governments routinely bail out banks on the verge of failing. Of course, this sort of
implicit government guarantee makes lending to these banks safer, and their borrowing costs fall. The
difference between the rate they actually pay and what they would have had to pay without the implicit
government guarantee amounts to a subsidy. Andrew Haldane at the Bank of England notes in his speech,
"On being the right size" that if we look at some of the world's largest banks, this subsidy amounted in the
period between 2002 and 2007 to around half of post-tax profits. When the financial crisis erupted, this implicit
subsidy became explicit and was equal to more than post-tax profits. By comparison, the value of the subsidy
exceeds the amount spent globally each year on development assistance (see http://www.bankofengland.
co.uk/publications/Pages/speeches/2012/615.aspx. However, this subsidy does not go to the needy. Figures
for the US show that CEOs of the largest investment banks earned 500 times the median US household
income in 2007, a ratio that has increased fivefold since 1989. Andrew Haldane discussed this recently in a
speech "A leaf being turned" (see http://www.bankofengland.co.uk/publications/Pages/speeches/
2012/616.aspx).
11
Nevertheless, Basel II gives banks ample leeway to determine their own capital requirements. In 2007, the
Swiss bank UBS held USD 50 billion in US CDOs, but the bank believed that these were risk-free, since the
paper had the highest rating from the rating agencies and the bank had also purchased credit default
insurance. Thus, the bank did not have sufficient capital reserves to cover any losses on this portfolio (Gillian
Fool's
Tett (2009): Gold).
12
Andrew Haldane (2012): "The dog and the Frisbee", speech at the Federal Reserve Bank of Kansas City's
36th symposium 'The Changing Policy Landscape', Jackson Hole, Wyoming (see Bank of England website).
13
Swings of the pendulum are a frequently used metaphor in studies of financial crises. See, for example,
Michael D. Bordo (2003), "Market Discipline and Financial Crisis Policy: a Historical Perspective", in Market
Discipline in Banking: Theory and Evidence. Research in Financial Services: Private and Public Policy,
Volume 15, 157-182, Edited by George G. Kaufman, Elsevier Publishers. According to Bordo, the pendulum
swings between measures to prevent crises, manage crises and resolve crises. Erik F. Gerding (2006), "The
Next Epidemic: Bubbles and the Growth and Decay of Securities Regulation", Connecticut Law Review,
shows how economic upswings are often periods of deregulation and overoptimism in securities markets,
while the downturns that follow are marked by austerity and calls for stricter regulation. Moreover, regulations
become less effective as time passes, and market participants forget the previous crisis. Gerding provides
examples of such cyclical pendulum movements going as far back as the 1600s.
extremes. Keynesian policy is often appropriate in a contractionary period, but it also
involves saving in times of growth - a component that had been widely forgotten.14
The economists Carmen Reinhart and Kenneth Rogoff have summarised the experience of
financial crises all over the world over the past 800 years. They show that history repeats
itself. The "truth" most often proclaimed in boom periods just before the bubble bursts is the
"this time is
belief that different", which is also the ironic title of the book.
Although history never repeats itself exactly, some key features recur: one recurring feature
is that boom periods are confused with an increase in the economy's growth capacity. Good
times are mistakenly interpreted as perfectly normal.15
When times are good, it is difficult to gain acceptance for setting aside funds. There are
always unsolved tasks in a society, and these tasks attract attention. In the 1930s, Ragnar
Frisch understood that it is difficult for politicians to recognise good times at the time. He
believed that it was the task of economists to ascertain the cyclical situation.16
When the crisis arrived in 2007, government finances were in disorder. Deficits and debt rose
to such high levels that it was difficult for many countries to borrow money. When credibility
is lost and lenders draw the line, Keynesian policy has reached its limit. These countries now
have no other choice than to cut welfare schemes and public spending. The political fury we
are now witnessing in Athens, Madrid and Rome is being directed at today's political leaders.
Perhaps their rage should be directed at those who were in positions of responsibility in the
good times, instead of at those who are now left with the washing-up.
We have furthered our understanding of economics over the many decades since Keynes,
Frisch and others laid the basis of modern economics after the 1930s crisis. Theories have
become more advanced, and methods and calculations far more complex. We have reams of
regulations.
Perhaps one lesson to be learnt from history is that the simplest method can sometimes be
the best, as Andy Haldane has argued. Friedrich Georg Nissen's rule that budgets should
always balance was not particularly sophisticated, but if his ideas had been followed before
the crisis, many countries would now be better off.
However, the principles behind Nissen's ideas were not completely unfamiliar when
European politicians drew up the Maastricht Treaty at the beginning of the 1990s. The Treaty
contained simple rules for economic policy: budget deficits should be below three percent
and government debt below 60 percent of GDP.
The rules sparked debate, and academics the world over - including in Norway - ridiculed
them as far-fetched and hopelessly rigid. And as so often before, the rules soon sank into
oblivion, particularly after the major EU countries Germany and France had pushed them
aside.
14
Georg F. Nissen was not alone in focusing on the fiscal balance. Nicolai Rygg wrote the following in 1948:
"There is a tenet that is not difficult to endorse: in times of slow economic growth, when the private sector
relaxes, central and local government should support the economy, initiate projects to sustain activity and to
prevent a rise in unemployment. But the other side of this coin is also important: in years when economic
conditions are favourable, when the private sector is at full speed, the government should hold back and put
aside reserves to boost its financial strength so that it can provide support when the economy needs it."
Nicolai Rygg (1948), "I økonomisk stormvaer" [In stormy economic weather], festschrift for Joh. H. Andresen,
also published as an annex to the periodical Statsøkonomisk tidsskrift nr. 3/4 1948, p. 23. In this article, Rygg
highlights his assertion that government budgets must balance over the business cycle.
15
Governments consistently overestimate growth in their forecasts (Frankel 2011). But this is difficult; in summer
2008, the average OECD country overestimated the budget situation in 2007 - the year prior to the forecast -
in an amount equivalent to 2 percent of GDP (National Budget 2013).
16
In his 1933 pamphlet "Saving and Circulation Regulation", Frisch proposed the establishment of an advisory
committee on the business cycle, composed of economics experts.
In retrospect, we can acknowledge that simple rules of thumb can often be useful. For my
own part, many years' experience of economic policy have led me to notice the prevalence of
the figure 4.17 A current account deficit exceeding 4 percent of GDP is often a harbinger of
future problems. Spain is a case in point: government finances were fairly healthy, but
deficits were building up in the private sector. Inflation of more than 4 percent is usually a
sign of economic instability. If unemployment in a country is persistently above 4 percent,
there is probably something wrong both with the functioning of the labour market and with the
level of political ambition. And the financial crisis has shown that total banking sector lending
in the most heavily indebted countries has often been more than 4 times GDP.18 In this
situation, any rescue packages would be too expensive for taxpayers - Ireland and Iceland
are two examples.
This is a familiar element in our everyday lives. Speed limits are an example of such a rule.
Calculating the optimal speed for a specific car on a specific road is extremely complicated. It
would require considerable knowledge of both mechanics and physics. Speed limits help us.
Of course, it might be optimal to drive faster or slower than the speed limit, but the rule is
simple to understand and easy to enforce. This simple rule helps to shape our behavioural
patterns to ensure efficiency and safety in the traffic system.
Simple rules can also make it easier to resist the temptation to postpone problems.
Economists call this the time inconsistency problem. Odysseus solved his time inconsistency
problem by having himself tied to the mast and instructing his crew to plug their ears with
wax and ignore him when he would later ask them to steer the ship towards the song of the
Sirens. That was an easy rule for the crew to follow.
But rules can be too simple.19 They must be used only as points of reference, not as excuses
for doing nothing. Economic policy rules should be common knowledge. An independent
body should be established to tell us when we are "speeding", and procedures must be in
place to implement measures to solve the problem.20 The new "Fiscal Compact" in the euro
17
See Berg, Qvigstad and Vonen (2011) Two essays on the magic number 4 , Staff Memo 2/2011, Norges
Bank, and Llewellyn and Qvigstad (2012) The "Rule of Four", The Business Economist, Vol 43, No. 1.
18
The financial sector faces risk involving probabilities of various outcomes that we can forecast fairly
accurately. But it also faces genuine uncertainty, where probabilities are also unknown. We do not know all
the possible outcomes of bank behavior or the real probabilities. Such uncertainty is more effectively managed
using simple and robust rules, rather than rules that are as complex as the systems they are meant to
regulate.
19
The psychologist and Economics Nobel laureate Daniel Kahneman touches on this theme in his book,
Thinking, Fast and Slow (Allen Lane, 2011) (see e.g. page 98). Kahneman points out that the application of
heuristics - simple decision-making rules often used to find answers to difficult questions - may produce
answers that are imprecise or wrong. The use of heuristics may be regarded as a way of substituting complex
questions with simple ones. While simple rules produce answers quickly, these answers may not be a proper
response to the question we want to know the answer to. An analogy to this is substituting the fundamental
question, "Am I driving safely?" with "Am I obeying the speed limit?"
20
Most countries have balanced budgets as a long-term strategy. However, the long-term intention of a
balanced budget is often abandoned in practice. This is another example of the time inconsistency problem.
Today, many European countries are forced to pursue fiscal austerity, even if their current economic situation
makes such a policy undesirable. The most rational option would be if governments were able to approve
credible tightening measures that cut spending and raised taxes in the medium term, but that had negligible
short-term austerity effects. Pension reform would be such a measure. The problem is that investors, who will
be lending money to governments in the meantime, have little confidence that governments will actually follow
through on their plans. History shows that they have good reason for this lack of confidence. Thus, the OECD
and the IMF are recommending measures intended to deal with the time inconsistency problem and bolster
confidence that long-term plans will actually be implemented. Independent fiscal policy boards that monitor
government budgetary policy and that speak up if plans are not followed is one such measure. These boards
will also make recommendations for realistic economic forecasting, so that projections of future tax revenues
are credible. The idea is that greater credibility reduces borrowing costs and thus the need for cuts. The UK
has basically followed up these recommendations by establishing the Office for Budget Responsibility (see
http://www.hm-treasury.gov.uk/data_obr_index.htm). In the Eurosystem, there is now a tendency to give the
area is a tightening of the Maastricht Treaty, precisely to prevent the simple rules from being
broken.
We should be less concerned about what is completely right and correct according to the
prevailing truths, and more concerned about avoiding major mistakes, irrespective of what
the truth might be.21 And this is the line of thinking behind our inflation target for monetary
policy and the fiscal rule for oil revenue spending.
We must be humble and constantly search for new knowledge. But as I have shown, there is
a tendency for this humility to vary with the business cycle. Marc Flandreau and Mike Bordo
tell me that during upturns, the colossal blunders of yesterday are forgotten by politicians,
journalists and central bank governors, but not by economic historians. And right now, their
profession is enjoying its golden age.22
Simple economic rules can perhaps prevent countries from getting into difficulties, but once
the rules have been broken and the crisis is a fact, the solution is anything other than simple.
Real problems must be solved by real measures. That takes time and is painful, as we are
witnessing in Europe today. Much of the adjustment in real terms is still to come, and there is
still some way to go before we will be able to say that the global economy is on safe ground.
The full consequences of inadequate regulation of financial institutions became visible only
after the crisis was a fact. However, macroeconomic imbalances were widely recognised
beforehand. In the mid-2000s, Federal Reserve Chairman Alan Greenspan raised the key
rate to reduce the US savings deficit. But long-term interest rates were kept low by the Asian
savings surplus that found its haven in the US. International organisations such as the IMF
and the OECD pointed out what needed to be done, but the solution required measures to be
implemented by a number of countries with differing interests and finding a good solution