January 9, 2009
Robert Mundell

Ipek Cem's guest is Robert Mundell, Nobel prize winning economist from Columbia University. They discuss the state of the world economy and possible solutions to the global economic crisis.

Ipek Cem: My guest today is Robert Mundell one of the leading economists in the world today. Welcome to "Global Leaders".


Robert Mundell: Thank you.


Ipek Cem: There's much talk about doomsday these days. About the world economy, the global economic crisis. There's talk of recession, but also some talk of long term depression. How do you read what's happening in the world today?


Robert Mundell: Well, I think that there are always some people who get everything to the far end and make a very pessimistic, doomsday forecast. Some of those people, who have been doing it, have been saying like, "Over and over that the Euro is going to collapse and all kinds of dramatic things for happening. And they normally don't happen. There is just some small possibility that it would happen. But there's no reason. A lot of people compare today with the depression period of 1930's, a few people. The comparison is not very adequate or appropriate. There is nothing in the economy, that's like that. In the depression period, the economy went into a depression with a big deflation because of the gold standard. All of Europe suddenly went back to the gold standard. The price levels were too high for the gold standard so it came down. And then, it was the policies that were taken after war as, such as increasing taxes. They just did all the wrong things and that kept the economy in recession for a long time.


Ipek Cem: Right now, there is a transition of power in the US. And it comes to a critical time in terms of the management of the economy, in terms of maybe taking critical decisions. Some people have argued that Barack Obama, while he has ran on a platform of change, has actually kept the same Clinton team together for the economy. And does not yet have a cohesive plan for resurrecting the economy. How do you view his announcements so far? His plans so far?


Robert Mundell: Well, his campaign rhetoric was for a change. And the fact is that the biggest change is that Obama will be there instead of George Bush. That's a big change in itself. And it's a change of course, it's the first time we have a black man as the President. That's overcoming barrier, that's something new. So that's a change. But I think that everything that he is doing, so far with his team, is going to be continuity. Continuity with the Clinton administration, and with the Bush administration. I think that the people who are on top, is not going to be any big fundamental change in policy. The biggest change that people thought was going to happen was resending the Bush tax cuts. And now he says he's not going to do that.


Ipek Cem: There is talk of a stimulus package in the US. We also know that the average US citizen is highly leveraged as a consumer. And when we talk about stimulus we are also talking about consumer pending. How to make the two of them, you know work hand in hand?


Robert Mundell: Well there's a lot of questions about "What a stimulus package really is?" And I don't think the major has been taken called a stimulus package are going to be much of a stimulus. To a certain extent, monetary policy, an easy monetary policy, is stimulating for us. But that's not the pack what we mean by a "stimulus package" because "Federal Reserve" can always do that. What they mean by that is government spending. But government spending doesn't have that bigger effect. If you have a big increasing government spending, without monetary expansion, they have to finance that deficit by bringing bonds. So while the spending adds to demand, the selling of the bonds, takes away the demand. So if there's a multiplier in one process, there is a negative multiplier with the other process. And the other fact is that the exchange rate is flexible. So if you sell more bonds with a stimulus pending interest rates rise a little bit. And the capital comes in, the current account deficit increases. The trade deficit increases. So a good part of that stimulus package goes to the rest of the world.


Ipek Cem: So what kind of policy measures would you be advocating at a time like this?


Robert Mundell: Well I think that the difficulty of all the banks, they need to recapitalize the bank, which everybody says it's necessary. And is also true with corporation you need to recapitalize the corporations like "General Motors", "Ford" and "Chrysler". The glories, what used to be glories of American capitalism in the 20th century. American manufacturing. They need to be recapitalized, too. And instead of the government taking its stimulus package, the bailout package, recapitalizing, buying stocking these banks, it is much more important to look at what's happenning right now, what the goverment is doing today to economy. What the government does to the corporation today is take thirty five percent of the profits of the corporation. And without putting anything in. So with the 35 percent of corporate tax, they take all that, draining the corporation from that, without putting anything in. And so what the best thing to do for stimulus is to reduce or eliminate the corporation tax. It is a double taxation anyway, because the capital pays the tax to the corporation and the profits are taxed at the corporate level after 35 % is taken out. And then there are also tax in the individual level. So eliminate it. By the way the revenue isn't going to be very much because the corporate tax used to earn 5 % of GDP in revenue. It's gone down about 1,5 % of GDP. So it doesn't add too much. And in a recession period there won't be any profits and tax, so the revenue will be very little. So you don't loose too much, but you would, if you stimulate economy all the other taxes will increase. And the revenue then from the tax cuts of corporations will increase the tax of every other corporation. Just recently, Germany has cut it it corporation tax from 25 % to 15 %. That's a very good move and that's what the United States should do. I think, I was going to say from 35 % to 20 %, but it would be even better if they do it to 15 %.


Ipek Cem: This is in fact contrary to what the Obama administration was thinking of doing. They were thinking of taxing some segments further.


Robert Mundell: Yes. But he has changed his position on that and he's not going to do so. I don't think that Paul Volcker or Larry Summers or the new secretary of the treasury are going to push for a tax increase. It would be very unpopular to have a tax increase during a recession. Because if you're going to maintain employement in this down period, and it's going to be difficult to do it. You have to do something to get the employers employ people. The way to get more employment is to make it profitable for employers to employ people. And that comes out of profits.


Ipek Cem: The global economy has been praise for open economy, opening up of trade barriers, more trade and more commerce between nations. And there was often the argument especially in the past couple of years and in 2008 when we saw the first signs of the crisis, there was always the argument, well, there's India, there's China, there's Brazil… So if something happens in the US, there is consumer demand and production to counter balance that. But we see for example labor unrest in China today. And we see negative signs in manufacturing in China today. How do you think it's going to work out with the BRICs, with those countries?


Robert Mundell: Well, yes it's a very interesting thing because in China, where I spend a lot of my time…


Ipek Cem: I know.


Robert Mundell: The problem is that the last two years they've raised taxes, taxes on foreign direct investment that's going to hurt China. And they applied labor law that is making the Chinese labor law very much like the European labor law which is not a good example to have. For example, Greece have labor laws making it very difficult to fire people. So this is going to increase definitely unemployment in China. And that will be sensitive and the Chinese won't have to cope with that. I think that they need to rethink their policy, their supply side policy.


Ipek Cem: Also you know we've covered part of the world, and today we're sitting in Istanbul in Turkey. I know you've been here before and you follow the Turkish economy closely and you are an expert also in transition economies. What do you think of the Turkish economy today?


Robert Mundell: Well I think it's been doing very well over the last few years. It's been a good period of Turkey. Very good. I think the fiscal balances got much closer to equilibrium. I think that's all good for Turkey. I think the problem right now is Turkey has suffered a lot from the slow down. I guess growth is not been hurt yet but I think it will be hurt because with Europe going in the direction of a big slow down, contraction. And you're going to have that at least the first half of 2009. So and the US is contracting the last two quarters, including the current quarter and the quarter before. And probably in the first quarter and the spring. Then I think the US economy will get back on track again. But there's no question that these contractions are going to fall on exports in Turkey. It's going to be bad year for exports in 2009.


Ipek Cem: We've had in the past weeks and months a lot of instability in our foreign Exchange rates and actually the stability of the Turkish Liras in the past several years has been an important factor it's argued in flow of capital in to the country, you know whether direct investment or portfolio investments. What's your view on that fluctuation?


Robert Mundell: Of the Exchange rate, well my view, I was here a year ago I thought that the Lira was going too high. It was in conjunction with the current account. Now that comes about I think it comes about for this reason. During inflation targeting, which Turkey I think has been doing, the problem is when you had the inflation meritted at the right level, the equilibrium level, it doesn't do too badly. But when you want to lower the inflation rate, it's too high, and you do it by having tighter monetary policy. And that over appreciates the Lira and the result is that that's mechanism by which the inflation rate comes down. Because the currency appreciates and then the inflation rate comes down. But when you get back the inflation rate down to equilibrium again, you end up with an over-valued currency. And so you have to have a sudden reduction in the Exchange rate. This was what I'm saying. Exactly this is my speech a year ago was that, I took a hold series of countries that followed the same thing they had do, have a tight Money policy to get the inflation rate down. And appreciate the currency, create capital inflow, a current account deficit and then they got the inflation rate down and they had a big collapse of the currency. At the end of the game, it's not equilibrium, you have to have that big drop in the Lira. So I think that that drop in the value of Lira is a good thing. Probably getting closer to equilibrium. And now I just hope they keep the inflation rate low and that it doesn't impact the budget deficit too much. The budget deficit very much improved in Turkey. Of course it's going to weaken, it's going to weaken if the economy slows, tax revenues would increase too much. They'll have to be careful about the increase in expending.


Ipek Cem: Current account deficit is high in Turkey. Basically how does this correlate with the fact that oil prices are falling in terms of the availibility of cash in some middle eastern countries or oil-rich countries and how this capital flow is now going to be restricted?


Robert Mundell: Yes. When the dollar price of oil has come down a lot, at the same time the dollar has been appreciating. So the dollar price of oil is not come down nearly so much as the Euro. Because the Euro went way down against the dollar. And to a certain extent that's true with Turkey too. But I think the OPEC members are going to cut production. But I don't think that they're going to cut the production by such a great amount. And probably they have to cut a little bit to keep up what the purpose is. But I look at the price of oil as with the as a big reduction in consumption in United States in the oil. Because of the slow down and contraction. And I think the price of oil is going to stay for the next several months anyway below 60 dollars, maybe below 50.


Ipek Cem: In the recent days we have also seen, for example, a pillar of the US economy such as the automative industry asking for a bailout plan from the government. What's your view on this selective sectoral bailout issues?


Robert Mundell: Well, the analogy I like to use is that the government has its foot on the face of the corporations. And then comes along and it says "We can help you. You know maybe light you a cigarette or something like that." That's not what is needed. They need to take their foot out of the face of the corporations. Get rid of the corporation tax, eliminate the double taxation or at least drastically lower it.


Ipek Cem: When we talk about the world today we have many currencies operating and no longer one reserve item such as gold or the pound or the dollar per se because we also have the "Eurozone". How does this complicate policy making in such an international environment?


Robert Mundell: I think it's a great defect that there isn't a single global, agreed upon, a global union of account. Before 1971, there was the gold dollar. Then the international monetary system broke down when the United States took the dollar off gold. And now there isn't, we ask let's make a payment of ten billion dollars or ten billion something what would you put. We now automatically say dollars because we are used to it. But it makes a difference of its dollars or euros and the dollar-euro exchange makes a difference, and they become very different things. So it would be very nice to have a global union of account. But it's hard to get an agreement on that.


Ipek Cem: You know all of these developments have also put into question capitalism in a way. Some people are arguing you know "What happens when we're now nationalizing banks?", for example in the UK, the Northern Rock, that was nationalized and the deposits started to pour in after the nationalization. Do you feel that capitalism needs to be modified in a certain way to counter balance this?


Robert Mundell: Well the high corporation tax is not capitalism. It's again the foot on the face of the corporation. And it's ridiculous to say that the problem is capitalism, the problem is the tax system. And this is an atrocious tax system because the tax and corporate income tax, it is a tax on a particular kind of corporate entity. In the United States, you have now different types of corporations. You have "C corporations" and you have "S corporations". And in the "S corporations" you don't have to pay corporate income tax. But they are limited to a hundred shareholders. So it means that, I mean the most important companies all have more than a hundred shareholders. It's so arbitrary and people have not thought through that and I think the problem is not the capitalism, it's the way which the governments are messing it up.


Ipek Cem: So, I'm seeing over and over again that you emphasize the tax issue.


Robert Mundell: The power of tax is the power to destroy. Just imagine what would happen do corporations if goverments around the world, but 100 % tax in corporate profits. They'd all go bankrupt and there'd be no production and no corporate production. They all move into something else. And it would be a devastating blow to the economy.


Ipek Cem: Is there a country or a trading block that you would say is using the tax system more efficiently than some of the examples we are giving?


Robert Mundell: For a long while I thought that China was, China put up a tax system that is really very similar to the European system. And I think it's charmful for China. Because China has a wonderful growth for 30 years. 10 % growth. No other country has ever done that. And that would be an example. But of course China is a controlled economy. It's government corporations and government guides the economy in a very big way and it subsidizes directly or indirectly all kinds of industries because they are government corporations. So it's a kind of very unfair competition. But if you look around the world, you see Japan is not doing well now. The countries that were doing very well in the 1980s were the East Asian countries including China that time. They were doing very well, but they've reached the kind of maturity now and not so well anymore. What typically happens is that countries they are poor, they are efficient, they have a good tax system and things go ahead. And then they grow up to a certain point, and then it's like the governments and the people start to open bottles of champagne and celebrate. They celebrate this by taking out of profits and shifting it and taxing it in order to register the income. That initially floored little while, that helps the people but eventually it doesn't always help the people because then the economy gets smaller, you get into the difficulties like this. You've got economies like a little bit like the goose that lays the golden egg. You treat it well a little comfort and do things. If you don't treat well, then it won't. When people are not afraid to make profits this is proved to be the foundation for the great growth periods of the European economies and of the US economy (Remember that long period when the United States from the 1930's to the 1980's, doing really very well, slow growth. It was all because they suddenly moved in the middle of depression to shoot up the top tax rate from 25 % in 1932.) They raised it to 63 %. And then they imposed the corporate income tax and that kept the economy in depression. And the U.S. economy all through that period was sub-par growth compared to Germany, Japan, Italy and most European countries. And then suddenly you had the "Regonomics" came in. Supply-side economics. I take half credit for that because it was really myself and Arthur Lifer and the credit supply-side economics. Regan took that idea of and had this big tax cuts and it was tax cuts. Look at the American economy since 1982, we had 2, now 3 recessions. One at the end of the 1980's, one at the end of the early 2001, and then one now. But only three recessions over that long period of time. And the average rate of growth has been phenomenal for the United States.


Ipek Cem: The fall of Lehman Brothers was the beginning of the tide. And then recently we see a kind of a bailout of Citigroup, Citibank. So how do you view this kind of saving, resurrecting major financial institutions?


Robert Mundell: Well first, one of the things that first shocked the system was the failure of the "Bear Stearns".


Ipek Cem: Yes, of course.


Robert Mundell: And this was in June of 2007. That shocked people. And that was the first wave of the crisis. And then the European Central Bank and Federal Reserve pushed in a couple of days around June 9th and 10th a huge amount of liquidity, around really about 250 billion dollars in those two days. And that got rid of, that solved the liquidity crisis. But still left the solvency crisis for each of the companies. And what that showed was tide up with all the other banks wasn't just the "Bear Stearns" but, the assets that "Bear Stearns" was they took big hedge funds. They tried to save them and they made big loans for it and they gave these assets, it turned out to be bad assets to people like "Lehman Brothers" and some of these and so it created a major problem.


Ipek Cem: A lot of blame is put on financial institutions as well in terms of being irresponsible in the way they allocated assets, being over leveraged. Maybe using too much financial engineering.


Robert Mundell: I've been told that there's a period in 2007 and in 2008, or even from 2002 to 2007, people started to make a lot of profits. And they tried to move up to about 10 % rate of profits and to get that they went into riskier assets. And they allowed those real estate assets, sub-prime assets. And then also the insurance companies like AIG went ahead and took risks by insuring those assets without locating them properly. And then when they did finally, these were built up in 2004 - 2005. Then they noticed them and they had them on their books but there was no way they could get rid of them. Maybe they could have thrown away their mortgage insurance finance and just got rid of them if they could but, they left it too late to do that. So that didn't work out.


Ipek Cem: The question in many people's minds is for how long are we going to be in this bleak situation. What's your outlook in terms of timing?


Robert Mundell: You know anyone who makes a prediction like I'm going to make may turn out to be all wrong because nobody knows this. But I think that the worse is by far over. I think they are on their way dealing with the two 700-800 billion and they've been done in the United States is not backed up with all the swap arrangements. I think it's shoring up the system. I think maybe by the time Obama comes into Office that the bulk of the crisis will be over.


Ipek Cem: You have one of the biggest honours, if not the biggest honour the Nobel Prize for your field, economics. What motivates you after such an honour and after, being rewarded for your life-long work in also other ways. What motivates you today to keep teaching, to keep learning, to keep providing opinion?


Robert Mundell: Well, the Nobel Prize was never a motivation for me. When I started economics there was no Nobel Prize. It's the fascination of learning something new in economics. In a way it's a painful lesson, but crisis are like a new kind of problem. You try to solve, you get the hard of them. I keep looking for a better model to explain the reason and to explain our world. And that fascination is always there for me.


Ipek Cem: On that note I'd like to thank you very much for your time.


Robert Mundell: Thank you.


This transcript was typed from a transcription unit recording and not copied from an original script. Because of the possibility of mis-hearing and the difficulty, in some cases, of identifying individual speakers, NTV networks and Ipek Cem cannot vouch for its accuracy.