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Former Federal Reserve Chairman Ben Bernanke speaks during a news conference in Washington on October 10, 2022, after he was named a winner of the 2022 Nobel Prize in economics.
In awarding the Nobel Prize in economics, the Swedish committee wrote that Ben Bernanke’s 1983 paper, for which he was given the prize, showed that the Great Depression “became so deep and so protracted in large part because bank failures destroyed valuable banking relationships, and the resulting credit supply contraction left significant scars in the real economy. These were new insights …”
New insights? By 1983, this was standard economic history. So I went back and read the paper, “Non-Monetary Effects of the Financial Crisis in the Propagation of the Great Depression.”
What is striking about the paper is how conventional it is. Bernanke begins, “We argue that the financial disruptions of 1930-33 reduced the efficiency of the credit allocation process; and that the resulting higher cost and reduced availability of credit acted to depress aggregate demand.”
The paper then goes on to describe the various channels by which bank failures and credit contraction contributed to the downward spiral of the rest of the economy. The 38-page paper, narrative and almost journalistic, is familiar to anyone who has read economic history.
In 1983, Bernanke was a 29-year-old junior economist at the Stanford Business School and the conservative Hoover Institution. He did one brave thing in the paper. Sounding almost Keynesian in his discussion of aggregate demand, Bernanke politely demolished what was then the reigning theory in conservative circles, the argument of Milton Friedman and Anna Schwartz that the Great Depression was mainly the result of a contraction in the money supply.
Bernanke wrote, “There is much support for the monetary view. However, it is not a complete explanation of the link between the financial sector and aggregate output in the 1930s,” adding disingenuously that his paper “builds on the Friedman-Schwartz work …”
In a section acknowledging other work on banking and economic collapse, Bernanke wrote, “Minsky (1977) and Kindleberger (1978) have in several places argued for the inherent instability of the financial system, but in doing so have had to depart from the assumption of rational economic behavior” (emphasis added). Damn right they did! Anyone who thinks the system behaves “rationally” in a banking panic is a fool. It was Hyman Minsky who deserved the Nobel.
Bernanke went on to do more research on the financial system and the Great Depression. By the time he became Fed chair in February 2006, and the extreme deregulation of finance was incubating the 2008 financial collapse, Bernanke was worrying about the potential of a repeat of 1929. In a 2007 speech, he warned of the fragility of the shadow banking system. But he did nothing to restrict the general over-leveraging, though the Fed had plenty of power to crack down on the subprime scam.
When the crash did come, it was providential that the Fed chair was a close student of the 1930s. He used everything in the Fed’s arsenal, including some new inventions such as massive purchases of valueless securities, to keep bank insolvency from producing general collapse. For this, he does deserve some kind of prize.
But when it came to breaking up the giant banks, or using strong regulation to prevent further cycles of euphoria and crash, the conservative Bernanke flinched. For that, given all that he knew, Bernanke should be awarded the Ig-Nobel.
