Who predicted the financial crisis?

I'm currently writing a paper that asks (and possibly helps to answer) this question, and I am curious about something. We all know it's a myth that "no one saw it coming", but for me the key issue is the extent to which people linked a housing bubble (and possibly a subprime bubble) with an economy-wide recession.

I was looking at the evidence for the "Revere Award" and I was underwhelmed. Consider Nouriel Roubini, someone who it is pretty widely agreed to have made a better "prediction" than anyone. The evidence is this:

The recent increased financial problems of … sub-prime lending institutions may thus be the proverbial canary in the mine – or tip of the iceberg – and signal the more severe financial distress that many housing lenders will face when the current housing slump turns into a broader and uglier housing bust that will be associated with a broader economic recession. You can then have millions of households with falling wealth, reduced real incomes and lost jobs…

This was written in August 2006. Similarly, in November 2006 Dean Baker wrote:

The wealth effect created by the housing bubble fuelled an extraordinary surge in consumption over the last five years, as savings actually turned negative. …This home equity fuelled consumption will be sharply curtailed in the near future…. The result will be a downturn in consumption spending, which together with plunging housing investment, will likely push the economy into recession.

Consider my own comments about the housing boom (I've previously discussed this here and here). In March 2007 I wrote:

Paul Dales (a Capital Economics anlayst) says that 13% of subprime loans are now in arrears, and default rates have risen to4.5%

The second-largest subprime mortgage lender – New Century Financial – is on the brink of bankruptcy

This was before New Century Financial became bankrupt, thus starting the sub prime meltdown (which happend in the Summer of 2007). In April 2007 I wrote this:

M4 - the broadest measure of the money supply - is running at 12% and therefore there is too much liquidity about. Given that, it seems sensible to assume that the housing market is frothing (rather than it's operating beautifully and the excess credit is manifesting itself in a hitherto unspotted part of the economy). We can't know for sure, but it seems a sensible working hypothesis. When interest rates rise - as they surely must - house prices will cease surging, but it's up to the next Chancellor how this process is managed. The economy is an airbed: Brown merely squeezed on the Dot Com bubble to shift the air pocket to house prices. At some point the charade has to end and the valve released. We've been living beyond our means, and the crunch is coming

So here are my questions:

1. Are there better quotes from Roubini and Baker than the ones used by the Revere Award?
2. Regardless of when they were published, are their predictions any more detailed or accurate than mine?
3. Does the fact that mine were written in Spring 2007 rather than Fall 2006 make them any less prescient?
4. Does anyone have any evidence of anyone else actually calling a credit "crunch" any earlier than April 2007?

Because to be honest, I'm wondering whether I deserve an award as well...

Cross posted at The Cobden Centre blog

Comments

[Pietro M.]

There is a paper by Raghuram Rajan called "Has financial development made the word riskier?", which was a speech delivered in 2005, which - if my memory doesn't fail me - should be a good prediction (he predicted the subprime crisis and the interbank market freeze). Don't trust my memory, anyway. I read it one year ago.

In "This time is different" Reinhart and Rogoff say that every risk indicator was growing rapidly during the housing boom: in principle every sensible economist should have predicted a crisis to come. I'm not enough inside the heads of the economists to understand why it is not so.

I'm quite sure I wrote something, starting late 2005, more likely in 2006, regarding excess consumption, home prices and foreign debt in the US. Anyway, I was extremely ignorant in economics at that time, much more than today.

[Guillermo Barba]

Mark Thornton wrote some very prescient articles in 2004.

[Merijn Knibbe]

Well, it was no prediction. But it was a writing at the wall - but we just did not see it.

As early as 2003, 2004 and 2005, the Eurostat data on investements of households (mainly: in houses) for Spain and Ireland went wild. 'Normal' is about 6-9% of disposable income, Ireland went up to over 20%.

We did not see it, the data was available (for Europe). The Shiller house prices index should also have been a warning for tu U.S. (as far as I know, Shiller himself as well as en Baker did warn).

However -looking back to 2005, the amazing thing is the speed with wiich it al happened. I don't mean the downturn (avalanches tend to go fast) but also the upturn. Once the 'anything goes' rules were in place, it took a mere three years for the market to disrupt.

Also, some Georgists like Mason Gaffney and Fred Foldvary did a good job - not only by predicting bubbles but also by pointing out the mechanism. They are 'fringe economists' at this moment - but we should have listened to their arguments. By the way - somebody like Sicco Mansholt, maybe the main architect of the european agricultural policy (which despite all neo liberal criticism did lead to a fast and sustained increase of production as well as productivity and much lower prices of agricultural products) was influenced by Georgism.

[Pietro M.]

The agricultural policy of the EU lead to low prices? How come?

[Merijn Knibbe]

I'm not the first one to show this, but it is interesting to investigate the terms of trade of agriculture. I've done this for the period 1807 - 1997 (and have unpublished updates). After 1950, these terms of trade decreased about every year, i.e. compared with 'the rest' of the economy, milk, meat, tomatoes and the like became a lot cheaper. That's an undisputed fact (Samuelson by the way already showed this in his 'Economics' textbook, at least in the 11th edition). The part of our budget that we spend on food has decreased dramatically. And the part of that part that goes to farmers also decreased.

The question remains: did EU policies, in the long run, decrease agricultural prices? The idea behind this that increasing specialization, increases in scale and investments as wel as R@D enabled by EU policy and EU economic unity speeded up increases in production and therewith decreased prices. The amount of subsidies directly going to agriculture has, in real terms, been more or less stable for quite some time - and is now on the decrease for the simple reason that the number of farmers has dwindled. In my opinion, the stability and increase of the market provided by the EU enabled a faster increase of productivity and production and therewith a faster decrease of prices. Without the EU, prices would very probalby have been higher.

Don't understimate the decline of agricultural prices: terms of trade in about 2004 reached their lowest level since 1821 and 1933 and have decreased further since (despite a small spike in 2007/2008). Food has never been cheaper and saver than today.

The main reasons behind this: technological change and positive returns to scale. An activity like threshing has disappeared completely, mowing and haying or harvesting sugarbeets or potatoes is 60 to 100 times more efficient than around 1820.

[Marius]

1 word

P E T E R S C H I F F

He predicted it all.

[J Flexington Chokewell III]

In the summer of 2006, while having donner with at Nava in Atlanta, I explained to a friend who was a manager for a wholesale mortgage lender that he was smart to avoid subprime and that subprime would ultimately bring down the "fake economy."
Of course his business was ultimately affetced (like almost everyone else's) by the meltdown. I basically described how I had closed some subprime home loans (as attorney) and the problems I spotted with the loans: the relative unsophistication of the borrower compared to the the amount borrowed, general low income, borrower-unfriendly terms including fixed/variable "ticking time b0mbs," and overall volume of transactions.

[J Flexington Chokewell III]

I went on to explain that the entire housing boom was simply a paper boom with nothing to back it. The object was the paper itself: the closing costs, the title insurance, the origination fees, the yield spread, and then of course the dubious repackaging of the loans as securitized instruments. Of course the value of the process, of the paper, created fake demand for housing. The economy was stimultaed by relatively unspophisticated players, i.e., mortgage brokers and construction contractors (not to mention small time real estate investors a/k/a "professional mortgage fraudsters")having access to large amounts of capital, and of course doing what unsophisticated individuals inevitably do: spending money on consumer goods. So the demand for retail paper went through the roof: everyone leased an SUV and financed a boat. The main element of this indutry that made it like a Ponzi scheme was the artificial demand for housing and inaccurate loan applications for home loans.

[J Flexington Chokewell III]

On two separate occasions that same year, I made the same case. First I encouraged a friend to develop a default services aspect of his real estate law practice as I predicted home foreclosures would be astronomical as soon as all the goofy loans changed to higher interest rate loans and the credit markets actually froze so mortgagors could not refi out of the bad loans. This worked out well for him.
Also, I advised another friend who owns a disaster/cleanup service (similar to ServPro) to consider marketing foreclosure turnkey property repo services to institutional clients because the foreclosure wave was coming. I also advised him that the economy would tank as soon as this occured and he would be able to employ the same laborers he currently employed for about 20% less.

[fischbone]

None of these are predictions.

Saying "something might happen" is not a prediction; it's just hedging your bets if you're a policy wonk.

If you don't state who, what, when, where, why, how, then you're not making a prediction. You're just filling the air with words that you're not committing to in any way. Ex post, you can claim prescience; but, it's likely just confirmation bias.

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