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Cause and effect, Part II

Cause and effect, Part II

Nobel laureate Paul Krugman tells Ian Munroe about the origins of the financial crisis, and how its fallout will change the global economy. Part II.

August 31, 2009 2:20 by

How do you see the crisis changing the global economy?

I think we’re going to see substantially bigger financial regulations, and with that, substantially reduced financial globalization. A lot of the international penetration of markets was part and parcel of the growth of this unregulated banking sector, and I think that’s going to be reigned in. A lot of things we’re seeing countries do as part of their rescue are also pushing finance towards a home focus. So in a way, the world is going to get bigger again. International finance will be less of a factor than it was.

Will developed and developing countries be pushed further apart?

We may actually have some of the decoupling that people thought would happen in this crisis and didn’t. Now for what it’s worth, we had a perverse situation in these past 10 years where many of these developing countries were actually exporting to a lot of the advanced countries. I don’t think anyone foresees that coming to an end. I don’t think we’re going to have a lot of global protectionism or that trade is going to be cut back very much. There is obviously some pressure there, but I don’t think it’s going to be at the center of the story. It’s going to be a little hard to see how this plays out, but I think it’s probably just going to be a calmer sort of world – less wheeling and dealing, less adventurous finance.

How will people and companies behave differently?

Eventually we hope that there will be a revival in business investment. One of my big concerns is what it will take to get that going. But in the end I think it will happen. In terms of the debt position, non-financial corporations haven’t behaved in a particularly over-the-top way.

They’ve actually behaved relatively responsibly, so I don’t think there will be major changes there. Households in the United States, and to some extent in several European countries, are probably going to have much higher savings rates for a sustained period. They were leveraging themselves off, taking on a lot of debt, and relying on capital gains to provide for retirement. That’s not going to happen, so there’s going to be a serious change in consumer behavior.

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