Professor Hubbard is a specialist in public finance, managerial information and incentive problems in corporate finance, and financial markets and institutions. He has written more than 90 articles and books on corporate finance, investment decisions, banking, energy economics and public policy, including two textbooks, and has co-authored Healthy, Wealthy, & Wise: Five Steps to a Better Health Care System. In a recent book, Tax Policy and Multinational Corporations, he argues that U.S. tax policy significantly affects financing and investment decisions of multinational corporations. Hubbard has applied his research interests in business (as a consultant on taxation and corporate finance to many corporations), in government (as deputy assistant of the U.S. Treasury Department and as a consultant to the Federal Reserve Board, Federal Reserve Bank of New York and many government agencies) and in academia (in faculty collaboration or visiting appointments at Columbia, University of Chicago and Harvard).
Question: What are the disparate arguments for how we should tackle the aid crisis?
Glenn Hubbard: The real issue is the dire poverty in much of the world and what we can do about it. And the current aid debate has two poles. One pole says, well the real answer in the last, is we need to spend some certain fraction of GEP. The current target is maybe .7% on aid. To me as an economist, that pole has always seemed odd. We typically measure success or failure, not how much you spend. On the other end, there are well-meaning people who say, “You know what? For the past 40 years of aid have been a failure,” and they’re largely correct insofar as they’re talking about economic aid, “So, let’s stop doing that.” I don’t think that’s the right moral answer and I certainly don’t think it’s the right economic answer. We can do this.
Question: What is your idea for how to fix it?
Glenn Hubbard: The idea is really in two steps. The first is to step back and say, well what works. And if you look economies that have become prosperous, whether it’s historically or in the modern period, it’s about invigorating the local business center. That’s how the United States got rich, that’s how the west got rich, that’s how modern growth miracles in Asia and even in parts of Africa have happened.
One of the things we could do there is to focus much more economic aid on local business. And there in the book, The Aid Trap, I argue that we should go to the software of the Marshall Plan. People think of the Marshall Plan for Europe in 1947 to 1952 has being a grand aid scheme; it wasn’t that at all. The Marshall Plan loaned money to local businesses. It was only when that money got paid back that it went to governments and the entire plan was run by business people. Now Europe then is not the same as Africa now, but that same software could work.
Question: What are the nuts and bolts of it working?
Glenn Hubbard: Well, I think we first start with the big picture of institutional reform. President Bush implemented what was called the Millennium Challenge Account, which was a very good idea. It tried to condition the U.S.A. on institutional reforms that are pro-business, we need to keep that. But then we need to get the money directed to local businesses. And the way they do that would be to establish regional offices throughout Sub-Saharan Africa so some country specific, some region specific. Offices would compete for allocations of money based on reforms. Money would be given directly to local businesses, through local business people, through private equity, through U.S. business aid. And when that money is repaid, it could either be given to governments, if that’s the goal, or given directly in some recycling to other businesses. The Marshall Plan offers us a way to do that.
There are countries in Sub-Saharan Africa that are already making good progress along these lines. Rwanda comes to mind as a great example. The World Bank actually tries to measure the ease of doing business in a country, the so-called Doing Business Indicators. Rwanda has actually done very well at this in the past couple of years moving up 60 notches. So, there are come countries already doing this.
Question: Does this new Marshall Plan protect from corruption inherent in the aid process?
Glenn Hubbard: I think so. A lot of the corruption that arises in the present aid system is because so much of aid flows go directly through government organizations highly concentrated payments that are prone to corruption, direct lending to individual businesses; yes, there will be some corruption, yes, there will be some linkages. Nothing is perfect. But I think it will be a lot less than we see in the current system. And you’re building a constituency of small and medium sized business people who then are powerful advocates against corruption.
Question: How does the new Marshall Plan that you’re proposing differ from the Millennium Challenge Account?
Glenn Hubbard: Well the Millennium Challenge Account started from a simple premise from economic research in the past 10 or 20 years that, there are some institutional changes that lead to growth. For example, having an independent judiciary enforcement of simple debt contracts and the rule of law institutional doesn’t make it easier for a business person to operate over somebody to lend you money and get paid back. So, the idea of the Millennium Challenge Account was, let’s take a pot of money and go to countries receiving aid and say, “If you’d like additional money, you need to make these institutional changes.” And that’s a very good idea. Except, I think, that too much of the money was going directly to governments so missing the point about how to directly get money in the hands of the small business, medium sized business sector. So, what I proposed in The Aid Trap is to take essentially the idea of the Millennium Challenge Account a step further, why don’t we go directly to the local businesses, having established the institutional reforms.
Question: What are your thoughts on China’s role in Africa right now when it comes to aid?
Glenn Hubbard: I’m fascinated by China’s goals in Africa. It’s essentially in our modern time a version of what was the Big Game a century or so ago of intrigue, of domination. And I think what China has done is made a bargain that is almost colonial. We will give you large amounts of aid, a $10 Billion promise from China, but in exchange, we are interested principally in locking up resources that help us, the Chinese, in our growth, very little effort to promote African business.
Now I think for the U.S., there’s a double win here possible. One is to say, “Look, in terms of the economics. If you want growth in Sub-Saharan Africa, it’s not going to be with special deals with China, it will be what invigorates local business.” And second, what better foil for the U.S. to be the aid giver that says, “No, we’re about local African business. We’re not about taking resources.” I think that’s a real win for us.
Question: Do you think this is something that could come to fruition under a Democratic Congress?
Glenn Hubbard: Obviously the Congress has many priorities at the moment and this probably isn’t the top one, two, or three, but I do think there is interest in both the Congress and the Administration for the simple reason that I think President Obama would like to take bold action here. I think he believes it is an imperative and I share that view, but he is shackled a bit by the fact that the U.S. really can’t spend the amount of money that many aid advocates are talking about. This is an alternative view for him. If he didn’t do this, I’m not sure what he would do.
Question: What’s an example of a country that grew because of small and medium-sized businesses?
Glenn Hubbard: Sure, well outside of Africa, the two growth miracles of the very recent couple of decades have been India and China. Both of those miracles have involved opening and the very significant growth of domestic business. Much like growth miracles we’ve seen for centuries. In Africa today, in Sub-Saharan Africa, two countries in recent years have done extraordinarily well in moving up in the Doing Business Indicators, one is Rwanda, and the other is Mauritius. In both cases, it’s been leaders that have been very focused on the business sector, both importing multi-national investment, but also importantly encouraging local business. So, this has been done. I think it would be a good idea, for example, for the World Bank to take small groups of African countries, maybe starting in Eastern and Southern Africa and bring together the best practices and try to encourage this pro-business attitude.
Question: A lot of people criticized business schools for contributing to the crisis. What do you think?
Glenn Hubbard: Well if I were to look at the problem of what went wrong in the financial crisis and link it to business schools, there are many causes for the financial crisis, but I think one of them was a set of business leaders who couldn’t connect, or wouldn’t connect the dots. By which I mean, a lot of what was going on in the world was plainly in front of people’s face, the mis-pricing of risk, the global factors that were involved. But many business leaders were so expertly focused on narrow areas, they didn’t see that that big picture. I’m not sure I would describe that as arrogance, I’m not sure I would describe it as a lack of integrity. I would describe it more as a lack of historical context and global context. And I think that’s something business schools could do a better job at. Something we’re trying to very much at Columbia.
Question: How are business schools changing their curriculum in light of the economic lessons of the financial crisis? (Dan Indiviglio, The Atlantic Business Channel)
Glenn Hubbard: Well even before the crisis, we had implemented a new curriculum that brought in a sense more of financial history and business history and of international trends, so we were doing that before. After the crisis, we really focused this a lot by giving students much more of a sense of perspectives across disciplines in their classes with an idea toward getting them to think in a bigger picture way. I think it’s too easy to go to business school and become an expert in something, finance, accounting, operations, whatever interests you without thinking about the very broad platform for leadership. But I do think that was part of the financial crisis. I don’t think it was most of it, but I think it was part of it.
Question: How does your research inform our understanding of the crisis?
Glenn Hubbard: Well in a perverse sense, for people like me, the crisis had a nice effect because, frankly, this is what I do research on, on models of so-called financial accelerators, what happens when you get into financial crises, what happens to investment, what happens to consumer spending. A lot of people like me have done work in this area have generally relied on historical episodes because that’s where we’ve seen crises, so now we have unfortunately an episode in the modern period. And what we know in those periods is that when you get into a financial crisis, the inside net worth of borrowers becomes very, very important. And this is what we saw in the collapse of consumer spending is consumer net worth decline and in the business sector, as the cost of external financing became very high as credit spreads became very high.
We also though have a sense of what to do in an environment like this. Very aggressive monetary policy is part of the answer, we did that with the Federal Reserve, tax cuts can be part of the answer. So, I think policy has been very aggressive today, much more aggressive than it was in Japan in the 1990’s or in the U.S. in the 1930’s, taking a crisis that was very bad, but making it not as bad as it could have been.
Question: How do you expect the crisis to impact long-term debt levels, and what does this imply for interest rates?
Glenn Hubbard: I’m very worried about this. What we have essentially is a set of deficit problems in the country. The very short run, I’m not sure that we should worry so much about the extra deficit that was used to help attack the financial crisis. I think it’s very important to be very aggressive, to give the Federal Reserve any administration credit there, I would have done perhaps a different set of things in the administration, but they’re basic thrust I’m okay with.
Going toward the medium term though, we’ve seen a built up both from the Bush Administration and now from the Obama Administration in significant levels of spending that will have to be paid for with future taxes and that deficit is a real problem and then the third deficit, the one that scares me the most, is the long-term entitlement deficit because of our promises for Social Security and Medicare. If you just let the clock run one generation, 25 years, we would be spending about 10 percentage points of U.S. GDP on just Social Security and Medicare than we do today and given that the whole federal tax share today is 19% of GDP, that would mean 60% tax increases for everybody, that’s obviously not going to happen, and so we’re going to have to come to grips with this. At some point, bond markets will worry about this and it will be a problem for interest rates because bond market participants will realize the U.S. is going to have a very difficult problem with these debt levels. If I were to say one thing to President Obama right now it would be focus, focus, focus, on getting that long-term deficit down.
Question: What level of taxation would be necessary to finance our current expenditures?
Glenn Hubbard: Well, we have to figure out what our expenditures are going to be. The first order of fiscal decision is how much you spend, then you have a decision of do you use taxes or borrowing, where borrowing is just future taxes. I think for the U.S., our levels of spending promises for the future, again, particularly the entitlement programs are so big; we really can’t raise taxes enough to pay for that. I don’t mean we can’t by arithmetic, but the amounts are so big. You know, 60%, 70%, that’s just not going to happen. Even economic growth. So, I think we really have to talk a lot about how to scale back some of these programs going forward and do so in a way that keeps the least well off among us fine, but ask for some sacrifices frankly from those of us who are better off.
Question: To what extent is this a liquidity crisis, and to what extent do you think it is a solvency crisis? (Arnold Kling, Econlog)
Glenn Hubbard: I think there were pockets of liquidity crises to be sure, but by and large, this was a solvency crisis. We got into trouble here; I think the crisis was about a four-letter word, R-I-S-K. It was a mispricing of risks and I think this led to very substantial capital losses in the financial system, and those were real losses. Liquidity wasn’t going to pay for all of those loses, and we had to come to grips with that. I think that public policy contributed to the problem going into the crisis unfortunately. But I think now we’re of the realization that we do have a solvency problem and we have to find an exit now.
Question: What accounting standards that should be in place when firms value assets on their balance sheets? (Mark Thoma, Economist’s View)
Glenn Hubbard: Well, I think this word, Sarbanes-Oxley did well was to focus managerial attention on accounting, yet frankly in the post-Sarbanes-Oxley period, we’ve seen spectacular failure. So, it’s not getting people to dot I’s, and cross T’s, isn’t enough. We really need to think about risk management. The area the I think was not treated well enough in Sarbanes-Oxley is the whole idea of enterprise risk management, whether you’re a financial institution or a non-financial institution, does the leadership of the firm, does the board of directors really understand where the risks are buried in the firm. I think in some of the recent failures, the answer to that question might well be, no.
Question: Did the efficient markets hypothesis encourage students to be blind to the risk of a major housing crash? (Scott Sumner, The Money Illusion)
Glenn Hubbard: I come from Columbia where we have a whole franchise teaching alternatives to the Efficient Market Hypothesis. Our students are a little bit different. They come up with behavioral approaches, value investing, efficient markets is just one thing. I think that there was a tendency by many policymakers and business people to think that market prices must be better than any available alternative. I think that there is clearly a need to look at bubbles. I don’t think you can just wait until just after the fact and say, oh my gosh, that was a bubble, let’s clean it up. The housing bubble was quite clearly a bubble. I think it was noticed by a lot of people, it was noticed in real time, and it does raise clear policy concerns.
Question: Will the Fed's efforts to negotiate for itself a central regulatory role may lead it to accept ill-advised oversight of its monetary policymaking operations? (Ryan Avent, The Economist’s Free Exchange)
Glenn Hubbard: I’m concerned about the politicization of the Fed. The Fed has been, and is, a great institution as a central bank, both in conducting monetary policy and also in being a great lender of last resort. I worry that drawing the Fed too much into financial regulatory battles puts it squarely in politics. That’s clearly an area where Congress should have and does have opinions. I think and the committee on capital markets regulation that I’m part of has issued an opinion that having an umbrella financial services agency much like the United Kingdom or Japan makes much more sense for overall financial regulation and let the Feds stick to monetary policy.
Question: Should governments encourage home ownership?
Glenn Hubbard: Well, I’ve always been sort of the odd-man-out in Washington on this. I don’t particularly think we should be encouraging home ownership. Neither do I think we should discourage home ownership. It seems to me that’s an economic decision for each individual to make. As a factual matter, if you look at the public policies that we’ve taken to encourage home ownership, mortgage interest deduction, direct credit interventions, and so on, there’s very little evidence that suggest that we actually have higher homeownership rates than some countries that don’t have a mortgage interest deduction. For example, our northern neighbor in Canada. So, I’m not sure that it’s worth the candle and we know that what we’ve put in through Fannie Mae and Freddie Mac has led to very large exposures to tax payers. So, I think this is a question we really have to come to grips with. I at least don’t think there’s a moral superiority to homeownership. I live that because I rent.
Question: Who is most culpable for the crisis: Washington or Wall Street?
Glenn Hubbard: Well, I think it’s multiple factors. I think there are three causes, but they do all relate to policy, just not all the policymaker. One is the global imbalances that I think came about because of decisions in many emerging Asian economies to accumulate massive dollar reserves for their own policy objectives. China clearly the lead example here. Second was U.S. monetary policy in the periods, say 2003 to 2005 was clearly way too easy, poured gasoline on a flames of the emerging bubble. And the third, is the fact that it was too easy to do regulatory arbitrage. The capital standards weren’t as good as we thought. Some regulators clearly weren’t up to the task. So, I think all three of those were very important factors. So, they are policy contributions, but they’re not all one person’s failure.
Question: Do you agree with Paul Volcker and Mervyn King’s suggestion that we reinstate the separation of investment and commercial banking (Glass-Steagall), or do you buy Larry Summers’ concerns about international competitiveness?
Glenn Hubbard: I don’t. I think there are some very tough questions the Fed and other regulators will have to look at. It don’t think that Glass-Steagall, the separation of commercial and investment banking would have been terribly helpful here, in fact, there was some pure banks the got into trouble, there was some pure trading houses that got into trouble and in fact, where we had rescues it was precisely bringing together banking and non-banking, so I’m not sure that helps. There are also concerns people have about maybe should we draw bright lines about the size of banks? I’m not particularly persuaded that that’s useful either. I think there isn’t going to be a simple answer. I do think it involves better risk management, I think it involves stronger attention to capital requirements, but, no, I don’t think Glass-Steagall is the answer.
Question: What do you think of recent efforts by Ron Paul and others to audit the Federal Reserve?
Glenn Hubbard: Well I sense the Congressional frustration with the Fed. I think the Fed’s wondering into politics is bound to get the Congress’ attention. Congressman Paul introduced this bill, I don’t know how many times, but did not have much success until now. And I think the reason this success has happened now is the Fed has become a bit more political, too political, in my view. Having said that, I don’t think the Paul Bill is the right answer. The Fed of course already is audited in their accounting sense of that term. My concern with the Congress attempting to conduct its own monetary policy by pushing the Fed around, that I think is a decidedly bad idea.
Question: How would you rate Ben Bernanke’s performance as Federal Reserve Chairman pre-, during, and post-crisis?
Glenn Hubbard: I do. I think that Chairman Bernanke’s response to the financial crisis has been both bold and experimenting while one doesn’t necessarily agree with every single thing the Fed has done, I like the fact that the Fed has been bold during the crisis. The mild criticism I might have is that going into the crisis the Fed didn’t particularly see a lot of the danger signs or how large it would be. But many economists shared that view at the time, so I don’t think one can blame the Fed per se for that.
Question: Do you think the government’s response to the crisis has decreased the probability of a future crisis?
Glenn Hubbard: Well, first there will be financial crises. I’d love to tell you the world is different. I don’t believe that. We’ve had a history of financial crises; in fact, I think not paying attention to that history is part of what made us vulnerable. I don’t think government actions to date make it less likely that we have a financial crisis. I think what could help would be some broader regulatory reforms, but I don’t really see the Congress really paying serious attention right now.
Question: Carmen Reinhart and Kenneth Rogoff's This Time is Different suggests financial crises are often followed by debt crises. When will ours come?
Glenn Hubbard: Well, what you know from the work that Carmen and Ken did is that typically in the aftermath of the bursting of a bubble or financial crisis, government debt rises because government is trying to clean up the pieces. In many countries that has led to a debt crisis. Whether there is a debt crisis is a story about both supply and demand. It’s clear that the supply debt has gone up. The question really is, is what about domestic debt holders and foreign holders willingness to hold that. And that seems to be the bigger question. I am very worried if we stay on the present fiscal path that we will have a day of reckoning and in that sense, I definitely agree with the Reinhart/ Rogoff thesis.
Recorded on December 17, 2009