Applying History in Real Time: A Tale of Two Crises - Niall Ferguson

well, I thank you Karina, it is a great pleasure to be here tonight and I am going to give a talk with the title

applying

history

in

real

time

a story of two

crises

almost half a century ago since James Joel gave his inaugural lecture at the Joel argued that the outbreak of the First World War could not be understood solely in terms of the stated calculations of the key actors as recorded in the diplomatic documents of the

time

equally, if not more so. Most important were the unspoken assumptions they made because it was these, according to Joel, that predisposed many of the decision makers to exaggerate the benefits and underestimate the costs of going to war since its incorporation as a haven for academics in 1930. , the Institute for Advanced Studies as I think it is fair to say that it devoted a minority of its resources to the study of

history

;

It is much better known for its mathematicians and physicists and even for the best-known of its history writers, George Kennan Wars, as John Gaddis has shown in Letís with colleagues as formidable as John de Lyman, mathematicians and historians sought their own tables in the café. Kenan remembered his time here. I wonder if that's still the case. I hope not, and yet, to borrow a phrase from the Institute's founding director, Adam Flexner, there is no more useful, useless knowledge than knowledge of the human past. It was not a natural disaster but a historical calamity, as the German Curtis called Friedrich Monica. which populated this Institute with refugees from Germany I am glad to see that today the Institute is listed among its academic current research projects that reconstruct history using novel sources such as ancient DNA and establish the origins of modern democracy and human rights in this talk I will not focus so much on tacit assumptions in Joel's sense as on semi-articulated explanatory frameworks, and I will do so not in the context of the First World War, but with respect to much more recent and somewhat smaller

crises

, which still have large consequences: a military, another financial, the first was the terrorist attacks on New York and Washington in September 2001, the second, the financial crisis that had its most dramatic expression in the bankruptcy of the investment bank Lehman Brothers almost exactly seven years later, so to speak Very simply, this lecture is about the different ways we think about values ​​in the singular and plural, having spent much of the last few years writing books on Financial History and Diplomatic History Tonight I have been struck by the fundamental differences in the conceptual frameworks in the two areas of finance and foreign policy.

I would like to suggest very tentatively that professionals in each field could learn something by studying the mindset in their respective countries. counterparts and vice versa, there is a danger of confining good minds in intellectual and institutional silos, in particular groupthink and what the Germans call subject idiocy, and I consider that one of the missions of the Institute is to avoid precisely those isolated vices So, generally speaking, risk management theories differ between the areas of national security and financial stability. Asset managers, as some of you are no doubt aware, have long been equipped with theories that make explicit that the central objective of risk management is the performance of a portfolio and that the possibility of higher returns must be weighed against the risks of any given strategy.

High returns with high volatility are not necessarily preferable to modest returns with low volatility. A portfolio is rebalanced daily, even hourly, in response to an incessant flow of relatively little news. Most people who work in national security think in those terms, rather they are trained to think about big decisions, often binary in nature, war, peace, and a decision-making hierarchy at the top of which sits a president, a prime minister or a prince with whom On the other hand, there is no doubt that systemic scenario planning is much rarer in the financial world than in the political world.

When Shell introduced the practice of scenario planning in the early 1970s, it was considered highly innovative; There are still many companies, including On the contrary, it was natural for any Cold War security specialist to think in terms of scenarios, in fact, that the practice of systemic and formalized war games goes back even further, to the Prussian army of the early 19th century and is still a large part of what military planners do. How are we going to explain these differences well? I think the best answer is historical. The history of financial risk management is fundamentally different from the history of national security strategy.

The evolution of modern portfolio theory. took one direction after Harry Markowitz introduced the term in 1952, around the same time period, the evolution of deterrence theory took another direction as thinkers such as Bernard Brody, Henry Kissinger, and Tom Schelling confronted the strategic dilemmas of the nuclear age, while portfolio theory postulated a multivariable universe in which downside risk could be reduced through diversification and various hedging devices. Deterrence theory was largely a branch of game theory. There were essentially two players in the cold war game that resembled an extreme version of the prisoner's dilemma. The worst outcome was the total destruction of the world, the intermediate outcome was cooperation, they said, as it became known, and the best outcome was submission of the other side without firing a single missile, the ultimate outcome for anyone involved in diplomacy. of the Cold War had to contemplate and associate a probability to these three scenarios at a given moment;

On the contrary, investors could not easily protect themselves against the worst-case scenario of the Cold War; There are no options that can be exercised in the event of the end of the world, so financial risk managers would be best advised to do their job as if the end of the world simply isn't going to happen either, even if there is some better explanation. of the divergence that cannot be denied the contrast between the conceptual framework taught to today's finance students and that taught to international relations students financial risk management tools include futures contracts: poot options as well as swaps interest rates, currency swaps and credit default swaps.

Wide use is made of Meza measures such as the Sharpe index. average return earned in excess of the risk-free rate per unit of volatility or total risk or, more controversially, value at risk, students are taught to understand that not all risk and normal distributions can be, and in fact they often are, thick tails, on the contrary. I know of no course in international relations that encourages students to think of national security as a portfolio of national assets and of foreign policy as a set of strategies designed to maximize risk-adjusted returns with hedges designed to minimize the risk of drop;

Furthermore, it is a distinctive feature of the way the United States educates its elites that relatively few people are well versed in both financial risk management and national security strategy at Harvard, despite my best efforts over 12 years , economics concentrators could graduate quite easily without having studied a single foreign policy crisis. I want to be clear that I am not suggesting that one risk management approach is necessarily superior to the other; On the contrary, recent experience casts serious doubt on both conceptual frameworks, as I hope to show you. Before 2008, highly formalized approaches to financial risk management led to an over-reliance on mathematical models that made contemporary approaches to national security disastrously fallible. strategy won in the opposite direction by lacking a formal framework for measuring risk created opportunities for reckless and ultimately very costly decisions based on gut instinct, which both approaches missed and I What I think follows Losing is any systematic attempt to learn from history and any

real

appreciation of the implications of uncertainty, as opposed to calculable risk, for decision making.

In two dramatic crises, within 10 years, the American public faced disasters for which the federal government seemed singularly ill-prepared—the terrorist attacks of September 11, 2001, and the financial crisis that erupted almost exactly seven years later with the bankruptcy of Lehman Brothers on September 15, 2008, now it is not my intention tonight to play the role of Monday morning quarterback and argue like others Having that the Central Intelligence Agency should have foreseen that Al Qaeda was planning a major operation before the September 11 and that the Fed should have understood that Dick Fuld was pushing Lehman Brothers off a cliff before September 15, 2008, the more interesting question in my opinion.

It is how well the relevant agencies dealt with these crises immediately after they occurred and, in particular, how well their own conceptual frameworks served decision-makers. Now let me immediately clarify that I appreciate how different these two crises were from each other. There was an immense difference between coordinated acts of violence intended to kill thousands of defenseless people and uncoordinated acts of financial incompetence intended simply to enrich a comparable number of people. The terrorist attacks of September 11 immediately caught the attention of the president and the administration. Most senior members of his administration, the National Security Council existed to coordinate the actions of the various departments and agencies involved.

The financial crisis, on the other hand, was not immediately seen as a problem for the White House; there was a conspicuous lack of any coordinating body, albeit in practice. the Federal Reserve's open markets committee, the FOMC played the lead role, the public response was different than, if you remember, the electorate rallied around President Bush after 9/11, giving him a mandate of more or less any measure that satisfied the popular appetite for retaliation in the fall of 2008, by contrast, Bush was an outgoing duck, his wars were deeply unpopular, and his approval ratings sank further in the face of financial panic and impending economic hardship, I think most commentators today would be inclined to argue that the subsequent crisis was handled better. than the first in the sense that, while the economic recovery was surprisingly slow (most economic forecasters) the international financial system appears to be in better shape today than the Islamic world and particularly those countries to which the United States sent troops after 9/11.

That said, the two crises nevertheless had certain common characteristics: first, both crises were not black swans in the sense of totally unforeseen shocks; The Bush administration had certainly been warned of the terrorist threat posed by Al Qaeda and, as is well known, 9/11. The attacks were not the first attempt to damage the World Trade Center in New York. The financial crisis was not a bolt from the blue, but rather an escalating process that dates back to the early 2000s, when the first financial ramifications of defaults and subprime mortgages occurred. He considered that Bear Stearns had already failed in March 2008;

In essence, both crises arose because the responsible agencies underestimated the magnitude of the threat posed by an Al Qaeda attack and by the bankruptcy of Lehman, the second common factor in each case after the disaster hit the administration without hesitation. We saw the importance of acting together with the allies of the United States in that sense, both crises were from the beginning the third international crisis and the most important for our purposes. This afternoon nine eleven and nine fifteen required government agencies to react quickly and creatively the strategic response had to be improvised because there was no plan to overthrow the Taliban regime in Afghanistan and there was no plan to counter the widespread run on financial institutions caused by the bankruptcy of Lehman, finally due to the enormous uncertainties they faced, decision makers had no choice but to rely on their own conceptual frameworks there.

There really wasn't enough data to make a decision in both cases, so historical precedents were cited to bolster the arguments, but never in a systematic way. This is a really important point that I will return to even on the same day of the 9/11 attacks on New York and Washington President George W. Bush andHis highest officials ruled out resorting to missile attacks to retaliate against the alleged perpetrators. That decision was made almost immediately, in that sense they defined the course of action planned in Contra distinction two measures taken by previous administrations, another early decision that Bush made. after consulting only his national security advisor and now my colleague at the Hoover Institution, Condoleezza Rice, was that the administration would not, and I quote, make a distinction between those who plan these events and those who harbor them. were the words of the president's address to the nation on the night of September 11, also the same day of the attacks, the first suggestion was made by Secretary of Defense Donald Rumsfeld that, and I quote, the United States' response You should consider a wide range of options. and possibilities The secretary said that his instinct was to attack Saddam Hussein at the same time and not just Bin Laden.

This was part of a tendency to view the crisis as, in the president's own words, a great opportunity for more than mere retaliation against Al Qaeda and its Taliban. protectors and I quote again Secretary Powell said the United States had to make it clear to Pakistan, Afghanistan and the Arab states that now was the time to act said we would need to build a coalition the president noted that the attacks provided a great opportunity to involve Russia and China, Secretary Rumsfeld, and urged the president and leaders to think broadly about who might have harbored the attackers, including Iraq, Afghanistan, Libya, Sudan and Iran, Director of Central Intelligence.George Tenet said the United States had a 60 country 6-0 problem now, on one level, this discussion was eminently justifiable.

Islamic terrorist networks have already spread far beyond Afghanistan. Any attempt to deal with Al Qaeda would require at least some assistance from neighboring countries in particular. Nor was it unreasonable for the President to ask Richard Clarke to subpoena whether Saddam did this at a time on September 12 when it was still unclear who was behind Al Qaeda; In any case, Bush's decision three days later was clearly to prioritize rapid action against Afghanistan, including on-the-ground appointments, no one who has studied the available documents can fail to be impressed by the president's good judgment in a series of decisions that were not at all obvious.

Bush understood even better than his own intelligence chiefs that an effective counterterrorism strategy would have to be probabilistic. "We're going to have to make some bets on what's likely," he said at the outset, meaning that all, not all, conceivable American targets could be protected if the administration limited itself to destroying al-Qaeda and its supporters. proven Bush's presidency today could be admired even in Princeton few contemporaries, including members of his own administration, foresaw that the Taliban regime would be overthrown so quickly the US-led operation began on September 24 by November 13 the Taliban had fled of Kabul and yet the enthusiasm of elements within the Department of Defense to instrumentalize the 9/11 crisis in order to justify an attack on Iraq was surely questionable, even if the idea was initially left on the back burner, it is not It's not clear where Paul Wolfowitz got his quote from.

More than 10 percent chance that Saddam was behind the 9/11 attack it is very clear that from an early stage the focus on weapons of mass destruction was aimed at finding legitimation for Saddam's overthrow. . Even more problematic was the way in which rival government agencies sought to exploit the crisis for bureaucratic purposes. Let me ask a question: did the decision makers in September 2001 seek to apply history? use historical analogies to think through the problem they faced? The answer is that some did, but only intermittently, the Pearl Harbor of the 21st century? took place today, the president relied on his diary late on the night of the attacks, inevitably perhaps Vietnam was mentioned at times, this explains Rumsfeld's early prohibition on pauses in military action, but that was generally to reinforce the assumption that relatively few troops would need to be committed in Afghanistan, and not for long were all concerned aware that others, the Soviets in the 1980s and the British Empire in the 1840s, had considered that Afghanistan was an exceptionally dangerous country for a foreign army, but again these precedents were cited to justify the small scale and short duration of the operations. planned intervention those who had been involved in the 1990 Gulf War also drew parallels in that they were more surprised by the differences than the similarities.

The same applied to the Clinton administration's interventions in the Balkans, let's wish this were the Balkans, Condi commented. The prescient Lee, during the weekend of talks at Camp David on September 14 and 15, leaned more toward emphasize the unprecedented nature of the challenge he faced. He told Karen Hughes that there is no type of enemy that we are used to. This is a new world. said on September 13 that we need new options Rumsfeld agreed that this is a new mission this is a completely different type of war Bush told Hughes on September 23 even the principles that the State Department was prone to Masonic rhetoric the world has changed it's time to Change the world was the last of Secretary Powell's talking points on September 13.

This kind of thinking soon encouraged the president and his speechwriters to a rhetorical overreach that was fraught with future dangers. Our war against terrorism begins with Al Qaeda, but no. It will not end there, the president declared before a joint session of both houses of Congress and on September 20; will not end until all terrorist groups with global reach have been stopped and defeated when this promise mutated into the explicit threat of preventive action against a supposed axis of evil Iraq Iran and North Korea the die was cast in April 2002 if not Before, the president had made the fateful decision to invade Iraq.

To read the documents produced by the 2008 financial crisis is to enter a parallel universe to find conversations so different in their language and conceptual framework that it is difficult to believe that the events belong to the history of the same administration that weathered the storm of 2001. A major difference between 2001 and 2008 was that the failure of Lehman Brothers was essentially willed by the United States. Only government nuts believe this to be true in the case of the 9/11 attacks; that the bank was in trouble was widely known before September; in fact, to have thought it wasn't after the events of that spring would have been strange since Lehman was in some ways fair. a large version of Bear Stearns about twice the size of the Federal Reserve Bank of New York and the Treasury were aware of Lehman's possible bankruptcy as early as September 8.

Well, there is certainly no need tonight to describe in detail the events of the following week. Suffice it to say that the reasons later offered for allowing Lehman to fail differed markedly from those offered at the time, with Federal Reserve Chairman Ben Bernanke arguing that there was a legal hurdle in section 33 of Reserve Act 2. Federal to lend to Lehman as much as it believed was necessary at the time, however, the argument was practical, a matter of judgment, not law, and I quote that investors and counterparties had had time to take precautionary measures. Tim Geithner of the New York Federal Reserve rejected a request by Lehman management to convert his company into a bank holding company so that it would be eligible to be fed by us, now it may be that Hank Paulson, the Treasury secretary, believed that he could trick the so-called heads of the household, the CEOs of the big commercial banks, into bailing out Lehman like the hedge fund's long-term capital management had been bailed out in 1998, ten years earlier.

If so, it was not successful. Most people, certainly most senior officials at Lehman, assumed that the fate of Bear Stearns set a precedent for government intervention. The opposite was true for political reasons and to appease the god of moral hazard, the fate of Bear Stearns necessitated a worse fate for Lehman, as Geithner and Paulson explained their wars. They cite that there is no political will in Washington for a Lehman bailout. I think it is beyond doubt that Treasury and Federal Reserve officials seriously underestimated the magnitude of the disaster, apart from anything else, there were inconsistent subsequent treatments of Morgan Stanley and Goldman Sachs, who were granted holding company status bank to give them access to Fed support, precisely what Lehman Brothers was denied. lie to the argument that legally the Federal Reserve had no choice but to let Lehman go bankrupt, it was not only that this was the case, and I quote the largest, most complex, multifaceted and far-reaching bankruptcy case ever brought in the United States, but important even because Lehman was a very central node in the international financial network its precipitous bankruptcy today cascade of financial panic not only in the United States but throughout the world now my concern here is the way one of the key government institutions involved reacted in the decision-making process, the FOMC to the unfolding disaster, unlike the National Security Council, all for the president's war cabinet in 2001, transcripts of FOMC meetings and conference calls have been made public So that we can follow with some precision the evolution of the reactions of the committee members, a number of similarities with the consequences of September 11 are immediately obvious.

International considerations were very near the top of the agenda in the days after Lehman's bankruptcy. Ben Bernanke, the chairman of the Federal Reserve, very quickly understood the external impact of the bank's collapse and rushed to obtain authorization for large swap lines to ensure that the major central banks of the rest of the world had all the dollar liquidity they needed. they needed; Second, the committee acted quickly when it saw that Lehman's bankruptcy posed a danger not only to its competitors but also to money market funds, hence the speed with which the primary dealer's credit line was expanded to allow types of guarantees that just days before had been rejected when Lehman offered them third, most members understood that open commitments would be more effective than those with arbitrary limits, as then-manager William Dudley said. of the open market account put it in quotes I think what is important here and what we are looking for is credibility in a crisis you need enough strength, more strength than the market believes is necessary to solve the problem in some way.

This was a financial version. of President Bush's reasoning immediately after 9/11, but the committee was hampered by the inertia of the Fed's own forecasting model. I don't think we've seen a significant change in the basic outlook, the Fed's chief economist reported , David J. Stockton, to the FOMC on September 16 and certainly the story behind our forecast is that we are still expecting a very, very gradual rebound in GDP growth over the next year. The facts would make a mockery of this and similar statements. Bernanke understood that the U.S. economy was already in recession, but Stockton's optimistic forecast helped persuade most committee members to oppose a rate cut as if there was still some reason to worry about short-term inflation; only a few people in that room appreciated at this early stage the true nature of the feds' position.

Bernanke candidly admitted that he felt, and I quote, decidedly confused and very confused about the ad hoc way in which decisions were being made. with the latest data from the feds lagging behind the rapidly deepening crisis that largely turned out to rely on historical knowledge. Of the committee members this was variable at 63 years old. Gary Stern, CEO of the Federal Reserve Bank of Minneapolis, was among the oldest people in the room on September 16, called it, quote, the biggest financial crisis. serious that I have seen in my career. Kevin Walsh, 38, later joked that it was the toughest economic period I can remember in his life.

A complete list of the historical analogies initially offered by FOMC members stretches back to March 2003, on the eve of theinvasion of Iraq, until the plague. of the 14th century because in the words of Richard Fisher of the Dallas Federal Reserve and I quote the monks of that period who dominated society returned to the ancient orthodoxy learned from the Greeks, they did not learn what the nuns learned is that you learn from the hanging practice humor I think surprisingly the first mention of the Great Depression didn't come until October 7th and came from Jeffrey Lacker of the Richmond Federal Reserve, who suggested that they quote reflect on whether what we're seeing is genuine fundamental uncertainty about counterparties and whether our loans are the equivalent of pushing on a rope to use another Great Depression metaphor quoting Keynes.

I see Jeff was Bernanke's only comment. It was not until October 29 that Bernanke himself, after suggesting that they were now facing the worst recession since the World War. two offered the following sober judgment that I will quote at length here from Bernanke. There has been some comparison of this with the Japanese situation, which means that in the post-1989 period I am beginning to wonder if that might not be a good outcome, the advantage. of the Japanese was, first of all, that they were isolated, that the rest of the world was doing well and they were able to draw strength from their exports and the rest of the global economy, although they had very slow growth, they never really had a recession deep or large increases in unemployment I think we are perhaps facing a much more acute episode and our challenge will be to ensure that it does not persist any longer.

I think a lesson from both Japan and the 1930s, as well as other experiences, is that passivity is not a good answer most of the time, yet the early post-Lehman discussions of the FOMC revolved around to economic models rather than historical precedents, but committee members slowly began to disdain this approach when Bernanke attempted to summarize the position on October 29. to history, not to a model that he appealed to and I quote again, history suggests that whenever a financial crisis becomes severe enough, ultimately the solution is a fiscal solution and we will have a fiscal solution, but I just look at that in all these fiscal dynamics there is In an overlay of political economy we have to get to the point that it is not only the correct policy to induce fiscal support but also that it is politically possible.

In mid-December Dudley even went so far as to suggest that, quote, we could have default rates higher than those of the Great Depression after 9/11. President Bush had a keen sense that he was taking the country into new territory; In fact, the Federal Reserve was doing the same thing after 9/11, when the international financial system and the U.S. economy were showing increasing signs of being in danger. In free fall, the policy innovations under discussion were so numerous that Richard Fisher of the Dallas Fed worried that they might risk being perceived as a migration from the patron saints of Milton Friedman and John Taylor to a new patron saint. , Rube Goldberg;

The argument that he persuaded even the most skeptical members of the FOMC to support these innovations was a landmark argument that the alternative could be a repeat of the Great Depression. Two points are very surprising here: the first is how little use President Bernanke made of his own experience on the subject. financial history of the 1930s, the second is the decisive role played by the only man at the table with a background that combined international politics and economics on October 29 in response to those opposed to a 50 basis point cut in the Federal Funds rate Geithner passionately defended the action quote I do not see good arguments for the gradualism of monetary policy in the current context the risks are too great if we are too hesitant the damage to the financial system and the real economy could be much greater and much harder to correct if we end up doing too much, we can always adjust it, it is an easy problem to solve, it just requires will, as global financial markets are putting progressively more weight on a very severe global recession.

The arguments for keeping our powder dry and reserving our remaining ammunition don't seem that compelling to me, we don't have much ammunition left at the Federal Funds rate anyway. I think this basic risk management choice really involves three dimensions of judgment about the relative probability of alternative outcomes the second deals with the relative consequences or harm caused by those alternative scenarios and more importantly it also involves a judgment about the ease of correcting, adjusting or mitigating the consequences of being wrong end of quote By the end of 2008 most committee members had been persuaded that any policy capable of avoiding a second Great Depression should be attempted even if the stimulus fiscal provided by Congress was insufficient and even if a massive expansion of the Federal Reserve's balance sheet could ultimately lead to higher than desirable inflation, let me draw my comments to a sigh of relief conclusion.

I won't be offended. Am I seriously arguing that security studies specialists should introduce concepts such as value at risk, option pricing theory, fat-tailed black swans, and the like into their conceptual framework? No, the other way around. I really want bankers and financial regulators to get familiar with deterrence. Not theory, probably not, rather the argument I want to make is that both schools of risk management, both institutionalized on campuses like Princeton, need to learn more systematically from the history of the Of course, academics do well to show humility when they criticize those who have to make decisions at the highest level of government.

If the most difficult decision they have ever made was in a ten-year-old case, then you can hardly imagine how difficult it was to decide on the overthrow. of the Taliban or Lehman Brothers, the objective of this conference is not to judge in retrospect the decisions that were made in September 2001 and September 2008, but to evaluate the discussions on decision-making as they occurred and on the basis for the knowledge that participants had at their disposal at the time, so my conclusions are modest. Those who determined American policy after the great disasters of 9/11 and 9/15 relied too much on conceptual frameworks that gave no formal role for history; in both cases the analogies were presented in a somewhat casual manner. 9/11 It was Pearl Harbor Al Queda where the Islamofascists Saddam Hussein were Hitler Baghdad in 2003 it would be Paris in 1944 when President Bush lost patience with the difficulties of establishing democracy in Iraq, his questions epitomized the problem: where is the leader? where is george washington?

Where is Thomas Jefferson? Where is John Adams? For crying out loud there was a similar quality to the historical analogies discussed by the FOMC in 2008 remind medieval monks a more systematic evaluation of the relevant analogies would surely have been beneficial, second, what Henry Kissinger long ago called time the problem of guesswork, the impossibility of being certain about the consequences of action and inaction, was not sufficiently appreciated in 2001, the argument for treating the 9/11 attacks as an opportunity for large-scale geopolitical reordering did not was subjected to enough scrutiny and too quickly became the basis of a policy that misunderstood the problem of guesswork prevention, as Kissinger understood, to be a dangerous thing, even if the Bush administration had been right and Saddam Hussein had materially helped. to Al Qaeda. and had possessed weapons of mass destruction, would voters today be grateful not to have to experience any scenario that was avoided by overthrowing him?

Invasions would always be more important than a hypothetical future in which Saddam acquired weapons of mass destruction. In contrast, decision makers at the Federal Reserve came to understand relatively quickly that not doing everything in their power to prevent a second depression would have been more dangerous than doing everything, and this was due part to which Geithner, not coincidentally, a protégé of Kissinger, so ably defended the action, whatever risks Bernanke and his colleagues took after the Lehman failure, whatever unforeseen costs their innovations have incurred Turner , most of us can agree. Now that they were probably worth it, but that's mainly because we can better imagine a hypothetical future in which the monetary policy mistakes of the 1930s were repeated, ladies and gentlemen, risk management is, in many ways, a misleading term for the most difficult challenge facing policymakers in both finance and foreign policy is not about dealing with risk but with uncertainty, with dangers to which no probabilities can be attributed, in the future It will not be enough to simply tear down the walls that currently separate people in the silo of security analysis from those In the silo of value analysis we need to introduce into both fields a more rigorous notion of applied history and a recognition that the value of History lies precisely in teaching risk managers of all types to explicitly question their tacit assumptions.

Thank you so much. These risk management studies have come a long way on the path of climate change and worst-case scenarios. In fact, yes, one of the surprising things that characterizes the climate change debate is how much effort has been invested in creating scenarios in which the planet warms to different degrees. and Nick Stern began the systematic study using fairly elaborate climate models a few years ago with the Stern report. The interesting thing about this as a political problem is that most voters struggle with dangers whose incidence is as distant as a hundred years, so it is very important that in the most recent debate the time horizon for the disaster has been brought forward.

I think one of the reasons it took a while for the right to accept climate change as a major issue was that it seemed like such a remote danger. Compared to, say, a nuclear war that could happen tomorrow, so I think it's a good question, the problem is, of course, can governments successfully deal with the trade-offs that are inherent in all mitigation strategies? And I'm inclined to be more optimistic than average here despite the Trump administration's decision to abandon the Paris climate agreement. In fact, I think the United States will continue to collectively reduce emissions because of its relatively decentralized structure, so what's happening at the state and municipal level is probably just as important as what was decided in Washington is that there's a gentleman there. with one hand in the air.

Yes, I'm Dr. Bruce Bowman I'm in the medical field and in my field we project that the next big financial crisis in this country will be due to the cost of health care and so how do you see that we could use our knowledge of the story to try to avoid that? situation is one facet my father was a doctor and so I grew up in a medical home I'm the black sheep of the family I think one of the surprising things about the health care reform debate in this country and I've lived and worked here since about 2002 and despite my strange accent I am an American citizen is the lack of reference to other systems and the general ignorance of the history of the very strange American system the employer-based health insurance system is a kind of whim of The history of the United States is an accidental byproduct of World War II politics, it is a very unusual system, it doesn't really have any counterparts in the rest of the world and what would be easy, and has in fact been done, would be to look at the different health systems in All over the world, since all populations face the same basic problem, it's just that some drink more soda than others, but generally speaking, the same problem exists in any state, we have several options to choose from, it is not difficult to see that the Swiss system is actually much better than the US system, it shouldn't be so common to choose between the US and Canada.

I mean, I hear debates on this topic that imply that we are in a two-country world, but in reality we are In this one hundred and ninety-five country world where you just have to look at where bad best practices exist, it's easy to see that the system of Single payer is not necessarily the only option where you can have insurance-based systems like the Swiss system that offer very high quality and very good results at a relatively low cost in terms of GDP share, that's the easy part, although again it is almostcompletely absent from public debate. I can't remember the last time I saw an article in a major newspaper or magazine that spelled out the relatively simple nature of the choice we face, the hard part is moving from our broken system to any other system in the face of incredible vested interests gaining enormous amount of money with it.

I had a phase, maybe it was the kind of phase that everyone goes through when they first moved to Stanford, OU Tech will fix this phase if you spend a period of time around Silicon Valley, you go through this phase and it seemed so obvious, so good, this is just a surprisingly inefficient system that can be solved with big data, all we have to do is get the data and that's it, but people who have tried to do this have run into the interest problem created; Ultimately, it is a problem of political economy rather than a problem of choosing the right system. so here I think the problem is different from climate change, just to tie your two questions together, there is considerable uncertainty about what exactly the consequences of climate change will be.

Anyone trying to model the Earth's climate is in an incredibly complex domain in the strictest sense. In terms this is where complexity rules, but when you try to figure out what's going to happen to the US healthcare system, it's pretty simple: there's a huge fiscal crisis built into Medicare and Medicaid and I think it's fair to say that, Whatever patch is put on, Barma's operating system was concerned that it not fundamentally alter trajectories, so we don't have the kind of uncertainties here that we have in the case of climate change. An irresponsible US government can bet that the effects of climate change will be much worse in Southeast Asia than in North America.

I think that probably turns out to be true, but there's no need to make assumptions about the health care problem: either you make some radical reform to the system or it becomes fiscally unsustainable. Larry Kotlikoff at Boston University did the math more than 10 years ago. If you continue on the current trajectory of the project, I will face a drastic cut in entitlements for the next generation or a massive increase in taxes. There is no other solution, I'm trying to make sure. I am unbiased in going around the room and also so I strive for gender balance ladies but you are not helping me here, yes sir my wife does not consider me a man, it could mean being a man.

So anyway, that joke you mention gets more laughs than those things, sorry, what's up with Trump and NAFTA and the terrorists with China? What do you see there? Well, it's a great question and future historians may have to write articles about the escalating consequences of the US-China trade war. I think I have a sort of ambivalent attitude toward much of what this administration does. and that sets me apart from most academics who are totally negative about it I am a free trader I was raised with Adam Smith I studied comparative advantage like most people in this room and therefore from an economic point of view limited, it makes no sense to impose tariffs on goods imported from China, but this is not a limited economic policy;

It is part of a broad attempt to contain the and if indeed that is still possible, and I think that if you ask the question in geopolitical terms, what do you, as a power in power, face the rise of a rival that is on the way to surpass yourself financially and potentially on the way to surpass yourself? On a longer time horizon from a military point of view, the answer is clearly no nothing, nothing was anything like what the last two administrations did despite talking about pivots to Asia, the Trump administration is at least doing something about the Chinese challenge, but what we cannot know and this is the The problem of guesswork is perfectly illustrative, we cannot know what the consequences will be, we can only guess, so in the Trump administration the idea is that if we do this Now by using not only tariffs but other political tools to curb China's rise, we have a chance to avoid a world in which China is the number one power and we are number two.

I think that's the core of what's being done here. What is the downside risk? Well, there is obviously a downside economic risk if there is a trade war between the world's two major economies. In the world it is likely to have some negative consequences, who knows, maybe today will be the first day of the Trump crisis and the end of the Trump rise. No one in this room has any certainty about the timing here that Trump's crowning moment might be last week. be cavanaugh's confirmation we can't be sure and the reason we can't be sure is that there are all kinds of variables here that are really very difficult to predict, for example, I was in Beijing just two weeks ago, the effect of La trade war against China's political stability is very surprising.

I have never seen people in Beijing so divided. I have never heard so much criticism of the leadership in private, much of the blame is actually placed on Xi Jinping by educated Chinese who see that his proclamations of China's great power status brought about this on China's head, so an unintended consequence or perhaps The goal of this policy could be to destabilize the Chinese regime. It is certainly administering a shock to China's economy. It makes it very difficult for the regime to continue with its deleveraging strategy. Now in parentheses one of the great unknowns in which China finds itself. level at which debt reaches before growth is negatively affected up to this point China's performance has increasingly depended on debt creation, especially in the last 10 years since the financial crisis, what is the upper limit ? about that, that's why they said they were going to take advantage of D leverage, the trade war has put all that on hold and now the orders to the local government are to once again issue bonds, make investments in infrastructure, so what Sun Nobel and it is a great illustration.

The problem with guesswork is what the impacts on China would be if China were destabilized as the Soviet Union was by Ronald Reagan's increased arms spending in the early 1980s. Future historians may have to give President Trump a much better report than anyone in Princeton, New Jersey, is willing to agree with him at this point, we simply can't know, but I think what is clear is that regime change in foreign policy has this to say for that the status quo continues with the doctrine of strategic patience of the The Obama administration virtually guaranteed that China would surpass the United States economically and, at some point, militarily as well.

This is not the strategy I would have recommended, but it is at least a strategy. Let me add one last point that my Harvard friend Graham Allison published a book intended for war that raises the so-called Thucydides Trap problem. This is a good work of applied history that forces policymakers to address the question of how they should a power in power to deal with the rising power and, to put it more precisely, how the United States avoids being Britain and China's Germany in the 21st century is a really important question for policymakers to confront and I am encouraged the fact that both in Washington and in Beijing there is a serious debate about that question because it is that kind of approach that I am advocating that we sit down and think about the analogies and try to see what we can learn from them.

You can find all sorts of flaws in Graham's book, and I have done so myself on occasion, but at least we are faced with asking a historical question. on the central strategic issue of our time thank you I would know I lost track of the microphones yes back please sorry I'm just an interested citizen based on your last comment about the facilities what the lessons might be applied history or lessons. of applied history, what that would look like for a course of study or how it would work well. I also try to be a concerned citizen if we were all concerned citizens, things would be very good in this great Republic if I did. teach you, of course, I'm not teaching at Stanford, so I don't have to deal with this; it would be somewhat similar in its approach to Graham's book;

In other words, I would like students to see a series of case studies. when a sitting power faced a rising power, you know, the ethnicities of Sparta are a case study, but you can go forward from there and look at a whole succession, the rise of England posed a huge threat to the Dutch Republic , the rise of France to England. and so on, the best analogy and the place I lead my students would be the rise of Germany and the challenge it posed to Britain because I think that's the best, the best fit here, why do I think that?

Because the United States today occupies a similar place in the world to the British Empire in the period before 1914, is unquestionably dominant and encompasses a wide range of different domains, from the economic to the military, but there is a rival that is growing more rapidly and that is acquiring technological superiority in some domains. Note that China now has a better electronic payments system than the United States, its AI capabilities are probably now as good as those of the United States and the two economies, and this was also true for Britain and Germany, they are quite interdependent, so the puzzle is what they do.

I call this problem the Chimerica problem in 2007, China and the United States had economically merged and become highly interdependent, but that was also true of Britain and Germany before 1914 and yet conflict arose. The correct inference, I think, is that in both 1900 to 1914 and in the 1930s, Britain failed to adequately deter Germany from taking a very risky gamble on military action and that failure to deter was mainly due to fiscal constraints. about the expense, if you follow the analysis in my books The Pity of War and War of. The world at that time, a better prepared Britain, a Britain that introduced conscription before 1914 or a Britain that really developed its defense capability in the 1930s, would have the student less likely to avoid war. because it would have made the bet too risky. for Germany, while of course Britain had almost no ground forces available in 1914 and therefore could not deter the Germans from launching their invasion of Belgium and France, so I think that is where a course would want eliminate students or at least eliminate them. give them a chance to think about these issues, of course the conclusion you come to is a slightly charming conclusion that the US needs Croesus defense capability and needs to be more assertive in the Asia-Pacific region to deterring China from developing its military capability at this time China does not appear deterred, it certainly is not in the South China Sea where it is rapidly building naval and military capability, it has not been deterred from developing its missile equipment which can represent a real threat to American aircraft carriers, has not been deterred from its quasi-Imperial Belt and Road initiative and that there are no real signs that anything we are doing is or at least Until recently there has been no real sign that Whatever we are doing is checking China's ambition.

Oddly enough, the trade war appears to be having at least some effect. It would be a fun course to teach. I think you'll have to go to Harvard Kennedy. School, if you will, I didn't quite understand what you said, sir, especially for the FOMC in the National Security Council, well, I think so, and this is an argument I made with Graham Allison. We made this an argument and article for the Atlantic a couple of years ago it would be good for policymakers at some point in their careers to study applied history because I am very surprised by the lack in the US government of a place for the study of historical precedents;

This tends not to happen and this is an institutional failure. In writing Kissinger's biography I realized that there is a kind of amnesia problem in the United States, in which each administration starts with a blank slate and forgets everything its predecessor did, and this was illustrated to me very vividly when One of the readers of the first volume of Kissinger's biography wrote to me and said, with reference to the 1965 66 67 chapters describing Kissinger's visits to Vietnam before he was in government and his criticism of American policy in Vietnam, my correspondent who had been in the Bush administration, I said that when I read those chapters I was surprised by how similar our experience in Iraq was and I was surprised thathe was amazed.

I think there is a question here and a question there, unless someone already has the microphone, what a gentleman and then there are a couple of gentlemen here and yet the lack of female questions is a concern. Hello, Jeff Laurenti, a friend from the Institute. If I can go back to the bottom of your lecture with a question about that perhaps another factor that you haven't had. What has been taken into account in tonight's debate has been the relative lack of ideological blinders in addressing the financial crisis and the very real ideological blinders that at the beginning of the Bush administration his national security personnel brought.

I mean, you quoted Dick Fisher on the gospel of St. Milton. Friedman and there were no Milton Friedman nights at the table at the time you were describing 2008, there were the Bernanke Paulson Geithner realists who were not blinded by kinds of ideological obsessions and discarded contradictory facts, while in 2001 there was Cheney Rumsfeld, who were very determined to assert American supremacy, American hegemony before the Chinese became a threat, and who were impatient for multilateral support, thought that the consultations that the Clinton people had to make about Kosovo simply hurt the effort military that the Americans could perform. do for themselves were not particularly eager with their NATO allies who imposed an Article 5 resolution on them at NATO, the French and the British who imposed Security Council resolutions on them at the UN you had an ideological dimension, the side of national security in the early years of the Bush administration that ruled out unwanted developments and took them in directions that would ultimately prove disastrous.

Do you think this question of realism versus ideologies can be something useful to complement or consider your argument? Thank you, that's a great question and I appreciate that you addressed the body of the talk. It's tempting to say that yes, neoconservatism played this fateful role in 2001, where it also anticipated something he was going to say, while pragmatism was the order of the day in 2008, but I think it's necessary. To qualify here because they were not just neoconservatives and you may have already guessed the point that in reality Cheney and Rumsfeld had a kind of load of baggage from previous times that dated back to the Nixon era and that was quite different in nature from that of the baggage that, they say, Paul Wolfowitz or Doug Feith carried, I mean that there were neoconservatives in the administration, but it strikes me that they were not decisive actors in 2001, when the crisis hit conditions that I do not think could really be characterized as a neoconservative and when I look at what Cheney and Rumsfeld were arguing, I am struck by the fact that, as often with them, the kind of administrative game within the Beltway loomed larger than the events in Iraq or Afghanistan, which seemed to be some sort of of shadows on the wall it was all about the battle of the Beltway the interagency rivalry could you stick it to the CIA above all? could you attach it to the state?

Could you make sure to stick it to the generals? I mean, that was Rumsfeld. I think that was their top priority and I think that's why the policy ended up being so unsuccessful because in the end what happened on the ground was not a concern - what happened inside the Beltway, inside the Beltway, the strategy was brilliantly designed. to increase the power of the Secretary of Defense at the expense of everyone else other than from the standpoint of defeating terrorist organizations or stabilizing the countries that the United States maintains. intervened in it was a quite disastrous policy.

I'm also struck by the fact that Bush himself quickly embraced a kind of liberal internationalism, partly under the influence of people like David, who in speeches beginning in 2002 quickly became imbued with a kind of messianic sentiment. Vision that you were going to achieve gender equality in Afghanistan, that you were going to create brilliant democracies in the countries that the US invaded so what strikes me most about the Bush administration in the critical moments between 2001 and 2003 is that there were actually a lot of ideological tensions at play and no one was clearly dominant, but the least that seems to me to be the least important.

What in practice was actually neoconservatism that provided a kind of intellectual facade, but what really drove this process was what my old friend Morris Cowling would have called high politics or low politics, to be more exact, these Beltway battles, whose accidental byproduct Meanwhile, the invasion of Iraq was in the FOMC, while it appears from the transcripts that a group of well-trained pragmatists were thinking about what to do about the biggest financial crisis since 1929. That may be a little misleading. After all, economists have their ideologies. Between fresh water and salt water, those differences became very visible in the period after 2008, but what strikes me is that in the panic that followed the Lehman bankruptcy, all the things that economists It teaches them to value, especially the models, they were simply left aside.

It was obvious to anyone even remotely involved with reality that the economists were smoking something as they rattled off their projections for the coming year, and in fact, throughout the entire period of the financial crisis, professional forecasters with their models were consistently wrong every time. moment. year about what was going to happen, I mean to the point that they were so predictably wrong that you could more or less accurately predict what would happen simply by believing the opposite, so I think what happened in the crisis was that in the face of futility of the model which after all was a kind of 1970s antique, the thinking people around the table, particularly Bernanke and Geithner, well, what history had to draw on was not that they had no ideology, it was just that the ideologies of Macroeconomics was totally useless at the time, but thanks for a great question, yes, I have forgotten who else was the gentleman in the blue shirt with his hand up and the gentleman in the black shirt is Nix.

I think Steven Brent wants to stipulate that. I agree with you that it would have been a great idea in the Iraq case to look at history and you, but, as far as I could hear, you only mentioned one type of historical case to analyze, which is what happened in the preference cases. and you mentioned Kissinger's warnings about that. I think policymakers—and, by the way, I don't agree entirely with the Iraq policy, but policymakers at the time might say there are too many new variables in this mix—the old analogies with historical events won out.

I don't maintain it, we have a situation where we have great resources, now we have had some success with nation-building interventions, we have this idea that was circulating at the time of the end of history, even when liberal democracies faded away. to take over the whole world. world and I think they could easily say (and you mentioned the word guesses) that we cannot take into account variables that are new and therefore the historical analogies that we analyze could be misleading. What do you think about that? There certainly were many Bush himself often talked about an unprecedented challenge, a new world, and I think there was a kind of current of thought that had been quite fashionable since the end of Frank Fukuyama's story to encourage a With a certain arrogance , you have to remember that at the time of Bush's election there was something of a cottage industry of academics writing articles about unipolar moments and the full-spectrum dominance that the United States had.

I enjoyed and in the military sphere and the concern I expressed at the time when I made comparisons with the British Empire was definitely the minority opinion, so an example of this point is that while the discussions about the invasion of Iraq took place in 2002 Almost there was no discussion of any previous invasion of Iraq, which was strange to me as a historian of the British Empire, as we had been there so often and got the medals. The British invasion of Iraq was like most British invasions. First disastrous and finally crowned with success, but one of the disasters was a huge insurgency that occurred in 1920.

This was completely unknown as an event in Washington in 2002. I know this because I periodically mentioned it. I remember having a conversation with a young man in the government and I asked her what her model was for post-Saddam Iraq and she answered well Poland after communism. I looked at her and said, have you ever been to the Middle East? She looked at me like it was a stupid question. and she said no, I mean I assumed she'd been to the Kennedy School or somewhere like that, but she seemed perfectly unaware that the analogy between post-communists in Poland and post-Saddam Iraq was worse than useless, it was positively dangerous. , so in my opinion longer.

In this version I look at why no one thought at all about the British experience in Iraq and no one considered the possibility that you could overthrow Sit Down but then you could face the kind of insurgency that Britain faced and in the context of 2003-2004, the odds would be overwhelmingly in favor of the insurgents because Iraq's population was much larger in 2003 than in 1920 and there were many more weapons and much more dangerous weapons, so this simply wasn't there. I first came into the discussion when junior officers in the field started trying to figure out what the hell was going on, they started reading about it, and I got emails from people you know outside of Fallujah saying, can you tell us more about the insurgency? with which you had to deal and at no time had you been told about the history of Iraq.

Now, this is not exactly low-hanging fruit, but I think it was symptomatic of the problem that there was no real serious consideration of the negative risks of sending a military force to Iraq and I think that's the critical issue here: if there had been a point in the decision-making process where they would simply sit down and read a little or someone read to them a little about what had happened in the British experience in Iraq, they could at least have reflected on the dangers of an insurgency instead which was a complete surprise. I hope that answers it.

I hope that answers your question. As people stand, there is a sense that we are nearing the end of our evening, but there is one last question: the gentleman and the blue shirt have been waiting patiently to ask, "Yes, sir." Well, if my old friend Harold James was here, he'd probably bill me. I give you a better answer than I do, since Harold has written extensively on these questions of monetary regimes. Let me, um, let me give you a quick answer and then, then we'll call it a night. First of all, I think we should ask what the unspoken ones are.

I think most people in academic towns like this momentarily have an extremely low opinion of the president's intellect, and in fact, Saturday Night Live's opinion generally prevails in academic circles. tendency to forget that the administration is more than just him and that in reality the policy that has evolved around China is the product of many hands, including some extremely experienced ones, says Jim Mattis at the Department of Defense. Matttis Hooba in a previous position had to draft the US war plan in case of conflict with China, so I think we should not underestimate this administration simply because we have a low opinion of the president's own intellect.

In any case, the president has some powerful intuitive gifts that should not be underestimated, e.g. He has this curious animal instinct to detect the weak point of the opposing party and he found it in Jeb Bush, he found it in Marco Rubio, he found it in Hillary Clinton. I think he may have found it in Xi Jinping, but politics itself might be us. I don't know, but it could simply be limited to using tariffs to achieve a fairer or preferable trade agreement from the American point of view. In that case, it would be a repeat of the 1970s playbook and we would simply say that this is unprecedented.

It's more or less what Nixon Ford did with respect to Japan, but there is a scenario in which this is just the overture to something more like Cold War 2.0 and if you listened, as I did, to Mike Pence's speech the other day on China, then the likelihood of this escalation is not trivial and I think it will increase and go beyond the realm of tariffs and into the realm of strategic issues. South China Sea and Taiwan. I have come to the conclusion that this is the last thing I will say. that the United States can win the trade war and could win a real war, although it would not be as easy as some people think even now, but the currency war is the most dangerous and the reason I say that is because it is true that sometimes we.is still completely American The dollar is still completely dominant in trade and in international reserves and when Europeans say oh, we wish we had another payment system so we don't have to endure American sanctions, it's a little pathetic, but what's happening What is extraordinary is the speed with which Chinese online payments platforms are spreading globally and, given that financial roles are found in a payments platform across emerging markets that is clearly superior to anything the United States United has to offer, we may see a significant shift towards the use of RMB backings backed by Chinese currency. payments that would be a profound change in the international financial order but it is not going to happen overnight, that is what must be observed.

History helps us think about these things and in the end I don't see any other way to understand them to understand how a monetary regime changes. how one sister currency stops being dominant, another takes precedence I don't think one model can offer an answer to that question, no matter how brilliant its mathematics, ultimately we have to understand why the pound sterling finally gave up first place to the dollar in that sense, I think. Applied history has a tremendously important role to play, especially here at an institute like this, because until we integrate history and give it, so to speak, the same status as the hard sciences and the social sciences, we will be losing a dimension really vital explanation.

I don't deny that the story is quite confusing because the particles we study have consciousness and that makes them very problematic compared to atoms, but please, if you are one of the predominant mathematicians or physicists at the Institute, take the story at face value. seriously and when I do it. Next in the cafeteria, sit next to Jonathan and talk to him. Thank you so much.