Goodbye to the Bulls?

'A Meltdown'
Nouriel Roubini
We know booms and busts are aspects of capitalism, and have been so historically. Many of them have been driven by a technological innovation--whether it was the railroad or the Internet--and they may create bubbles, fraud and eventual losses. But they are also driven by real innovation. This latest crisis we see today differs from such historical examples in two important elements. First, with housing there was no technological revolution of any sort. We still build homes basically the same way we did 50 years ago. The innovation in this instance was financial. We went from a system where banks held mortgages on their books to one in which banks originate mortgages, and then securitize and distribute them. The idea was to reduce systemic risk by getting the risk of holding mortgages out of the banks and into the capital markets, and out of the United States and into the global economy. Of course, as we see now with subprime, that has brought a massive contagion in financial markets that is now affecting the real economy.

Comparing with some recent financial crises, I think it's worse than 1987, when we just had a stock-market crash. It's worse than the savings and loan crisis of the late 1980s, because the contagion then was generally limited to the savings and loan thrifts and commercial real-estate sectors. It is much worse than the Long Term Capital Management crisis of 1998. That was a liquidity problem. Today we have insolvency problems. It is much worse than the tech bust of 2000 and 2001, when most of the problems were confined to the tech sector and we had a mild recession. You have to go back to the Great Depression for something comparable. We are, of course, far short of a Great Depression now, but in terms of systemic risk and the risks of a financial meltdown, you almost have to go back that far to find a good analogy.

Roubini is a professor of economics and international business at New York University's Stern School of Business.

'Financial Folly'
Kenneth Rogoff
What's happening now is not at all special, but follows the well-trodden paths of past financial folly. As my work with Carmen Reinhart of the University of Maryland shows, the most important determinant for the depth of a financial crisis is the size of the initial hit to the system. Unfortunately, we don't know that yet. If it's just the money lost on subprime—losses of perhaps $300 billion to $400 billion—it will be a medium-size crisis, not an epic one. It would be comparable to the S&L crisis in the late 1980s. But if the slowdown deepens and losses spread to credit cards, high-yield corporates and other mortgages, it could be much worse.

It is early days still. The U.S. economy is probably experiencing mildly negative growth right now. If we have no bad news like a slowdown in China or geopolitical problems in the Middle East, we'll just have a mild recession in the United States and recovery setting in by the year-end. The rest of the world will feel some pain, but the global economy itself will not go into recession. Does that mean not to worry? I am afraid not. The problem is, the U.S. economy is very vulnerable—think of someone with a bad cold who has not slept much for a week. The resiliency of the U.S. economy is down, and a year is a long time for nothing else to happen. Unfortunately, given the underlying problems of a deflation in the housing bubble and an apparent slowdown in productivity growth, there is not a lot policymakers can do. The U.S. fiscal package, besides tying the hands of the next president by making the budget problem worse, is not likely to help.

Rogoff is a professor of economics at Harvard University.

'U.S. Recession'
Stephen Roach
It's pretty simple--you either believe in globalization through increased border-trade linkages, or you believe in decoupling. But it's intellectually dishonest to believe in both. There's no region of the world that is more externally driven than developing Asia, which is where I live now. Exports represent 42 to 43 percent of pan-regional GDP, a record high. Private consumption represents 48 percent, a record low. So how is this region going to decouple? Advocates of decoupling would point to all the young consumers in China and India. But consider that the U.S. consumer last year spent $9.5 trillion. Chinese consumers spent about $1 trillion, and Indians about $650 billion. The power of the American consumer is still six times that of this new "Chindian" consumer. It's mathematically impossible to see a major decrease in U.S. consumption being made up by the Chinese and Indians. And there will be a meaningful decrease in U.S. consumer spending.

I believe the United States is in recession. The consumption share of GDP in the U.S. is 72 percent (a record) versus 48 percent in developing Asia. The housing market has driven U.S. consumption, as well as the credit bubble. Both have now burst. Consumers will now have to save the old-fashioned way--out of income--and the consumption share of GDP will likely drop to the 25-year trend level of about 67 percent. That's a big shift, and we need it to correct our current account deficit. But it will mean a full-blown U.S. recession that will be longer and deeper than most think, and will have repercussions throughout the world. Japan could fall into recession. Europe will narrowly avoid it, and there will be meaningful shortfalls in growth in much of Asia.

Roach is chairman of Morgan Stanley Asia.