Date posted: 04/06/2018 6 min read

Beyond the GFC: Where to next?

Will there ever be another GFC? Economic historian and Harvard professor Niall Ferguson, the influential thinker behind The Ascent of Money book and TV series will speak at WCOA about what we’ve learnt about banks collapses, finance innovation and asset bubbles.

In Brief

  • UK historian Niall Ferguson is keynote speaker at the World Congress of Accountants (WCOA) in Sydney in November.
  • He wrote The Ascent of Money, a landmark British book and TV series, which champions the idea that finance drives the course of history.
  • He believes global economic authorities have prevented a new global depression and will speak on financial upheavals that challenging the world economic order.

In 2008, economic historian Niall Ferguson wrote and presented a television show about how finance had evolved up to the global financial crisis –“an explanation of the crisis disguised as a financial history of the world”, as he calls it.

Back then, the Glasgow-born Ferguson was already a highly-credentialled young history professor with a talent for simplifying ideas and linking the past to the present. Indeed, he had three previous television documentaries on his résumé. But The Ascent of Money, as both series and subsequent book were titled, gained a special power by making finance the engine of history. “Banks financed the Renaissance,” he declared, “while the bond market decided wars.”  

And this came at a time when people were suddenly wanting to know why the system seemed to be failing. Combined with the charming and telegenic Ferguson’s on-screen presence, The Ascent of Money confirmed him as the great popular historian of finance and an expert on the crisis.

Now, 10 years later, Ferguson is again thinking about the global financial crisis. He’s about to update The Ascent of Money with what we have since learnt about asset price bubbles, bank collapses and financial innovation. And here’s the thing: most of our best insights are coming not from new financial theory, but from economic and financial history.

Hear Niall Ferguson at the World Congress of Accountants

Niall Ferguson will deliver the keynote speech at the World Congress of Accountants (WCOA) in Sydney this November.

The driver of history

Ferguson’s interest in economic history has many roots. He grew up in a household where analysis and creativity were both taken for granted. His mother was a physics teacher and his father a doctor. Neither, he says, was much interested in money, though his father did give him a copy of that foundational Scottish text, Adam Smith’s The Wealth of Nations

And his maternal grandfather, a journalist, fostered his love of writing. His paternal grandfather, however, ran an ironmonger’s shop in the famously poverty-stricken Shettleston area of Glasgow’s East End, teaching himself accounting out of a book. Ferguson still has the book. Ferguson might have written a chapter of The Ascent of Money on accounting if he thought his producers and publishers would accept it, and probably would have centred it on his grandfather. “He was a kind of exemplar of a small businessman. He was trying to impose order on that whole messy business of cash flow – and if there’s anything that’s absolutely foundational to the financial system, it’s that,” he says.

Ferguson’s upbringing, natural smarts and “an old-fashioned Scottish education” won him a scholarship to Oxford. There he became convinced that the financing of states underpinned history everywhere. “I was persuaded by my tutors in medieval history that you couldn’t really understand what was happening to medieval England if you didn’t understand the system of public finance,” he recalls. 

“Once I realised that that applied to everything from ancient Rome to modern-day Australia, I was intellectually converted to a way of looking at the world that is quite rigorous … I want to know, what’s the debt-to-GDP ratio, what is the tax structure, how does it work? If you don’t know that stuff, I think you’re kind of driving with a blindfold on as an historian.” He also studied in Germany. That led to his Oxford dissertation on business and politics in Hamburg during World War I and the disastrous post-war German hyperinflation – economic mismanagement that would give rise to Adolf Hitler and destroy or damage so many millions of lives. Also at Oxford, Ferguson wrote his first film script. The future economic historian and television documentary-maker was on his way.

Explaining the 2008 crisis

Ferguson has consistently argued that financial crises such as the 2008 collapse need to be better understood. The great study of financial disasters, economic historian Charles Kindleberger’s Manias, Panics and Crashes, had been published in 1978. Kindleberger built on the work of the then little-known economist Hyman Minsky, whose “financial instability hypothesis” described a world in which good ideas often led to over-enthusiasm, over-investment and collapse. This was the precise course that new mortgage financing techniques had taken in giving us the 2008 crisis. It was also how internet technologies had delivered the first dot-com boom that ended in 2000.

Nevertheless, in the years after Kindleberger’s work, the economics profession lost interest in financial crises. And while Kindleberger described crises and their genesis just the way a vulcanologist might describe the lead-up to volcano eruptions, economists could say no more than vulcanologists about how to fix their big problem.

So when the 2008 crisis came along, macroeconomics – the economics of large, nation-scale factors – had few tools it could apply to fix the problem. “The cupboard was intellectually very bare,” says Ferguson. He sees the GFC as “a crisis of economics, of macroeconomics as a discipline ... A very powerful academic profession with a vested interest in Econ 101-type courses didn’t want to admit how big the crisis in their discipline was.”

History catches on

Having failed to see the crisis coming, Ferguson notes, global economic authorities do seem to have been effective in staving off a new global depression. And their work drew less on complex economic models than on history lessons.

Government treasuries borrowed to keep economies moving, following the recession recipe recommended by John Maynard Keynes, the Depression-era British economist who Ferguson reckons may have been “the biggest intellectual winner” from the GFC. “Nobody added anything new to Keynes’ thinking,” he says. “They just dredged up the general theory and hit replay.”  

You really wouldn’t have had the upsurge of right-wing populism without the financial crisis
Niall Ferguson Harvard economist and historian

Meanwhile, central bankers followed another recipe, set out by Milton Friedman and Anna Schwartz, and pumped money into the global economy, inventing new tools such as quantitative easing to get the job done. “A lot of effort then went into trying to explain why the improvisation had worked,” Ferguson chuckles. He quotes former US Federal Reserve chairman Ben Bernanke’s wry remark that such solutions “work better in practice than in theory”.

Through all this, the underlying system has changed remarkably little. “The rating agencies, they still do what they do,” he notes. “The derivatives market wasn’t in any profound way changed. And indeed, it’s not clear that the mortgage market’s all that different. Above all, debt levels have not significantly diminished – despite a great deal of talk of deleveraging.” Indeed, among the enduring legacy of the crisis is yet more debt, “particularly public sector debt but also household debt”. That high public and private debt is among his current concerns.

The other intellectual winners from the crisis were a pair of economists, Carmen Reinhart and Kenneth Rogoff, who wrote an eight-century history of financial crises. From their work, they drew an important lesson: recessions initiated by financial crises tend to cut deeper and produce a long “hangover” period of slow growth. Ferguson and others argue that their predictions essentially predicted the shape of the slow post-crisis recovery.

It is economic history rather than mathematical economics, then, that has been the most fruitful guide to understanding the 2008 crisis – and Ferguson is clearly pleased. “Historical approaches have gained some traction,” he agrees, “which from my vantage point is good, because I prefer people to look at history rather than to build mathematical models.”

Time to rethink inflation?

In November 2010, Ferguson lent his signature to a letter by 23 prominent economists, fund managers, academics and journalists, most of them, like him, political conservatives. The letter said the US Federal Reserve’s practice of quantitative easing risked “currency debasement and inflation” and would distort financial markets without improving employment. Ferguson followed that up with a 2011 Newsweek article predicting “The Great Inflation of the 2010s”, which used questions about the calculation of the US consumer price index (CPI) to claim that “double-digit inflation is back”. 

As predictions go, it was a spectacular failure. In the period since, the US CPI has rarely exceeded 2.5%. Ferguson now admits that the letter’s predictions were wrong, and that quantitative easing did not cause runaway inflation. “It misunderstood the nature of what the Fed was doing,” he says now. “In the end, the Fed was buying mainly Treasuries with excess reserves – and that didn’t, in fact, have inflationary implications.”

Ferguson remains a political conservative; he advised McCain in the 2008 US election that brought Obama to power, and loudly opposed Obama’s 2012 re-election. He also remains a critic of the Fed. His current criticism, however, is that it is too focused on inflation data and too tied to the Phillips Curve, the idea of a direct trade-off between inflation and unemployment. This, he says, is “a quite myopic approach”. What might need to be added to the models? Ferguson suggests one factor: so many people now fear the automation of work. “In the end, inflation is not going to happen if people’s expectations aren’t inflationary,” says Ferguson. “I sense that even with a really tight labour market, people are looking at the future and thinking, ‘Well, how long before all the truck drivers are replaced by self-driving cars or self-driving trucks?’ And I’m not sure that we’re adequately allowing for people’s expectations of technological displacement.”

The speed of evolution

Indeed, Ferguson argues there’s a reason why mathematical models have made so little headway in describing the financial sector. It evolves too fast.

“The problem that most people have,” he says of economists, “is that they want the world to stand still so that they can model it – whereas the financial system is always evolving”. He points to the blockchain concept – its worth admittedly still uncertain – as an example of how finance continuously runs experiments, not all of them successful. This endless innovation means “the system is never static and so any model that may describe it at point T, by point T plus 5 is obsolete, because the thing has changed structurally”. Economists are trained to model, he notes – “and finance doesn’t stay still enough [for] long enough”.

When you look outside the finance and information technology sectors, he argues, innovation is much slower. “There’s a lot of the economy in the developed world that just doesn’t innovate that much and ekes out productivity gains from doing the same things just a little bit more efficiently. If you’re not in finance, if you’re not in technology, you’re in a much less rapidly changing world.”

Ferguson points to two sectors of finance where innovation is moving particularly fast. Mobile technology, especially in China, is improving the efficiency of the payments system, though he is surprised at the slow pace of change in the western world. And technology for algorithm-based trading will cement the dominance of passive investment, “render an awful lot of the human labour in investment and asset allocation obsolete”, and make the financial system more efficient again. 

Optimism on the modern world order

For all today’s uncertainty and upheaval, Ferguson remains an optimist about the modern financial order. He has no patience for those who claim we are revisiting the 1930s when there were shanty towns in New York’s Central Park and fascist governments in Europe were preparing for war. With a few exceptions (Greece among them), the global slowdown of the 2010s has been “a far less traumatic experience” than that of the 1930s. “People just need to stop drawing that analogy,” he declares.

Ferguson’s preferred historical analogy is the far less well-known period from the late 1870s to the early 1890s, when much of the world – including New Zealand but not Australia – was burdened with a post-crisis stagnation. “The global international order didn’t break down and indeed, growth in North America didn’t slow down that much,” he says. And like the 2010s, the 1870s and 1880s brought a wave of economic populism, with politicians around the world pressing for higher tariffs, lower immigration and tougher bank regulation. “The populists of the late 19th century sounded a lot like Trump,” he notes. “There’s some evidence to show that you really wouldn’t have had the [2010s] upsurge of right-wing populism without the financial crisis.”

After more than two decades as a public intellectual, Ferguson remains convinced of perhaps his central idea: that money drives the course of history. He’s proud of the work he did early in his career tying wars to bond markets and he’s baffled that so few others see the links. “I’m constantly amazed at people who can write books on modern historical subjects and just leave the finance out,” he says. “It’s one of the frustrations of my life.”

Photographs: Urban Zintel