Eastern Economic Journal, 2015, (1–3)

© 2015 EEA 0094-5056/15

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Book Review

What Have We Learned? Macroeconomic Policy after the Crisis. edited by George
Akerlof, Olivier Blanchard, David Romer and Joseph Stiglitz. Cambridge, MA:
The MIT Press, 2014. 359pp., $27.95. ISBN: 978-0262-02734-2.

Cindy Jacobs
Trinity College, Hartford, CT, USA.

What Have We Learned? contains non-technical essays by internationally recognized

macroeconomists and policy leaders. They evaluate policy responses to the financial crisis,
assess our current knowledge, offer recommendations to mitigate future crises, and point to
avenues for further research. The essays are organized into five sections — monetary
policy, macroprudential policy, financial regulation, fiscal policy, exchange rate regimes,
and capital account management. Given space limitations, this review will focus on the
early topics.
The first section assesses monetary policy during and after the financial crisis. Various
authors see a need for central banks to monitor financial risk more closely, and support
policies and regulations to mitigate financial risks.
The contributors agree that monetary policy has grown more complex since the financial
crisis. Janet Yellen observes that, before the financial crisis, monetary policy focused on
the Fed’s short-term interest rate policy to achieve price stability and maximum employ-
ment. Central banks lacking the Fed’s dual policy mandate, notably the ECB, have focused
on short-term interest rate policy to achieve price stability. Since the financial crisis,
the Fed has taken a greater interest in addressing financial stability.
Monetary policy, however, is a blunt instrument for addressing financial stability; we
need macroprudential and microprudential policies as well as financial regulation. This
requires coordination with other federal agencies and international bodies to reduce
risks to the global financial system. In the aftermath of the financial crisis, the Fed is
faced with more complex policy decisions to promote financial stability and fulfill its
traditional dual mandate.
Central banks have been challenged to implement policies that provide sufficient
economic stimulus with interest rates at their lower bound. Forward guidance, which affects
expectations, can address this problem. Yellen asserts that since asset purchases are
complementary to forward guidance policy, the financial crisis has led to an expansion of
monetary instruments: classes of asset purchases, maturities, and timing of purchases (p. 33).
The section on macroprudential policy provides an overview, an analysis of the
limitations of this policy, and two illustrative country studies. Andrew Haldane provides
an excellent introduction to macroprudential policy. Its objective is to reduce cyclical
swings in the financial system because of cyclical swings in the economy (type 1) and,
more ambitiously, protect the real economy from volatility in the financial system (type 2).
US stress tests focus on bank resilience during a severe economic downturn, a type 1
policy. In contrast, the Bank of England focuses first on bank resilience but also includes
employment and output objectives. Brazil, Hong Kong, India, Korea, Israel, and other
countries have also undertaken type 2 macroprudential policies, which aim to stabilize
specific asset markets (such as housing) to stabilize the overall economy.
Price-based instruments (capital and liquidity ratios, taxing specific financial transac-
tions) and quantity-based instruments (establishing loan-to-value (LTV) or debt-to-income
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(DTI) limits for mortgages) are used to implement macroprudential policy. Unlike
monetary policy, macroprudential policy can be targeted geographically or on specific
sectors judged to be risky. Implementing these policies may create political pressures to
limit the independence of central banks. Haldane points out that, like monetary policy a
half century ago, effective macroprudential policies will require trial and error. “But the
biggest error we could make would be not to try” (p. 70).
In a concise and informative essay, Claudio Borio offers four caveats on macropruden-
tial tools. First, he advises us to “Beware of macro stress tests as early warning devices in
tranquil times” (p. 77). As economic and financial conditions usually appear very strong
before a financial crisis, stress tests can falsely point to financial stability. Second, he warns
against an analysis of counterparty interconnections to detect vulnerabilities in the
financial system. This is less important, he believes, than risks faced by the entire financial
system. Third, Borio cautions that macroprudential policy is more effective at improving
the resilience of the financial system than at restraining the excesses during a boom. Given
the lengthy financial cycle (as long as 20 years), financial risk builds. This poses challenges
in calibrating and timing macroprudential tools (such as capital requirements) to constrain
financial excess. Finally, Borio warns us not to overburden macroprudential policy. We
need all our policy instruments: monetary, fiscal, macroprudential, and microprudential.
Case studies of Israel (by Stanley Fischer) and Korea (by Choongsoo Kim) illustrate the
strengths and limitations of the macroprudential tools. Fischer outlines the 2010–2013
measures to tighten mortgage requirements and moderate housing price increases.
He points out the difficulty of discerning whether the policies have kept home prices from
rising “too much” and notes the trade-off between macroprudential and monetary policy
goals. In the case of Korea, when tighter monetary policy was insufficient to curb steeply
rising housing prices and easy access to credit, the country imposed countercyclical LTV
and DTI regulations, between 2002 and 2010, in the midst of the housing boom. In
addition, leverage caps on banks’ foreign exchange (FX) derivative positions and a
macroprudential stability levy on non-core FX liabilities of banks were imposed to reduce
volatile and pro-cyclical capital inflows. Kim provides evidence that these policies
“produced the intended policy effects on house prices, mortgage lending by banks and
capital flows, at least in the short run” (p. 109).
Several contributors in the fiscal policy section caution against excessive debt-to-GDP
ratios, but agree that many countries (particularly in the euro zone) provided inadequate
fiscal stimulus and premature fiscal consolidation.
Janice Eberly, Anders Borg, and Nouriel Roubini maintain that countries with excessive
debt-to-GDP ratios face a significant constraint on policy. Borg maintains that a country’s
fiscal situation should be an important factor in determining its fiscal tools. For example,
with a low debt-to-GDP level, Sweden would be a candidate for active fiscal policy;
countries such as France and the United Kingdom, with higher debt levels, should rely
chiefly on automatic stabilizers.
Roubini questions whether high debt-to-GDP ratios slow down growth, asserting that
the causality could be reversed. Empirical work by Herndon et al. [2013] suggests that the
association between high debt (the 90 percent threshold) and slow economic growth may
not be as strong as Reinhart and Rogoff [2010] suggest. Roubini distinguishes between
high debt because of high and unsustainable public spending (e.g., Greece) and private
sector excesses (the financial crisis), leading to asset bubbles and busts. In the latter case,
public debt results from lower revenues and a rapid increase in automatic stabilizers.
A balance sheet crisis requires a large fiscal stimulus, together with activist monetary easing,
to avoid a collapse in private spending and an onset of a depression. The cost of rescuing
financial institutions and households can be enormous, which drives up public debt.
Eastern Economic Journal 2015
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Roberto Perotti examines the short-run impact of fiscal consolidation with case studies
on Denmark, Sweden, Ireland, and Finland in the 1980s and 1990s. He points out that
fiscal consolidation in these countries was modest; only in Ireland were spending cuts
larger than revenue increases. Fiscal consolidation was implemented with income policies
to restrain wages along with real currency depreciation; thus, exports were a key factor in
the subsequent recoveries. These fiscal consolidations were implemented during periods of
high and declining nominal interest rates, which would not be applicable in current
conditions in which interest rates are at record lows for most countries except those that
have a higher default risk. According to Perotti, “‘expansionary fiscal austerity’ in the
short run is probably an illusion: A trade-off does seem to exist between fiscal austerity
and short-run growth” (p. 202).
Roubini lays out an optimal path — an initial short-run fiscal stimulus when demand and
balance sheets are weak, then a medium- to long-term plan of fiscal consolidation coupled
with central bank debt monetization. However, most countries have taken a sub-optimal
route. In Europe and the United Kingdom, fiscal consolidation has been front-loaded,
monetary policy has been too tight, and banks have been insufficiently recapitalized; this
created a credit crunch and a double-dip recession. Roubini also supports more flexible
fiscal targets in Europe to avoid austerity-induced recessions. He notes that Germany has
sufficient fiscal space for more fiscal stimulus, which would improve its economic growth
as well as that of Euro area nations.
The final two essays in the volume critically appraise the ideas presented elsewhere in
the volume. David Romer views financial shocks as common occurrences, and doubts that
modest policy reforms can avoid the next financial crisis. He asks whether larger reforms
deserve some consideration, including higher capital requirements, a more regulated
financial system, modifications to debt contracts making them less prone to instability, and
Pigouvian taxes on financial activities imposing risks to the economy. Joseph Stiglitz
criticizes macroeconomic models that failed to predict the crisis. He claims these models
assume that markets are efficient, stable and self-correcting. Standard economic models
have incorporated market instability as exogenous shocks, but Stiglitz maintains that the
financial shocks have been a product of the market itself. Standard models have not
adequately integrated the role of the financial sector, such as the provision of credit to
small and medium-size businesses and the different risks posed by debt vs equity financial
instruments. Also, traditional models, by focusing on national aggregates, have not
considered heterogeneity in household incomes: “It was the fact that a large number of
people at the bottom were at risk of being unable to make their debt payments that should
have tipped us off that something was wrong” (p. 342).
What Have We Learned? is an excellent and well-edited collection. It provides a
conversation on policy responses to the financial crisis. The essays are written at a level
accessible to undergraduates and informed lay persons. Readers will learn a lot from the
informed and nuanced discussion.

References
Herndon, Thomas, Michael Ash, and Robert Pollin. 2013. Does High Public Debt Consistently Stifle Economic
Growth? A Critique of Reinhart and Rogoff. Working Paper No. #322, April, Amherst: University of
Massachusetts.
Reinhart, Carmen, and Kenneth Rogoff. 2010. Growth in a Time of Debt. American Economic Review, 100(2): 573–578.

Eastern Economic Journal advance online publication, 9 November 2015;

doi:10.1057/eej.2015.29
Eastern Economic Journal 2015