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Yale University economist and author Robert S -

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Yale University economist and author Robert Shiller joins The 7.30 Report

Broadcast: 02/03/2010

Reporter: Kerry O'Brien

While the US is climbing out of its worst slowdown since the great depression, some of the
country's most credible economists aren't ruling out the possibility of a slide back into
recession. Yale University economist and author Robert Shiller joins The 7.30 Report to discuss
where the US housing market, and the global economy, is heading.


KERRY O'BRIEN, PRESENTER: It was the bursting of the American subprime housing bubble that
triggered the Global Financial Crisis, and while the US is slowly climbing out of its worse
slowdown since the Great Depression, with house prices edging tentatively upwards with the
recovery, unemployment in America is still stuck at close to 10 per cent and some of the country's
most credible economists are still refusing to rule out a slide back into recession. But while
Australia these days is able to rely substantially on Asian markets, particularly China, to feed
our ongoing resources boom, the fragility of America - and Europe, for that matter - are still
capable of hurting the stronger economies.

Yale University economist Robert Shiller is a perhaps America's pre-eminent academic expert on
fluctuations in both the housing and stock markets. He was the first to warn explicitly of the
looming subprime disaster in 2005 and co-founded America's leading home price index. I spoke with
Professor Shiller earlier today. He was in his Yale office.

Robert Shiller, how do you read the American economy right now?

ROBERT SHILLER, ECONOMIST & AUTHOR, YALE UNI: Well, we had a serious recession, the most serious
since the Great Depression. Everything looks much better now, but there are still worries ahead and
I think we might have a double dip. That means another recession, possibly.

KERRY O'BRIEN: So what's the risk of that happening?

ROBERT SHILLER: Right now, 90 per cent of the housing market is supported by the Government. And
the Government is committed to withdrawing that support. Housing is an important component of our
GDP. Confidence has come back, but it still remains at low levels, so we don't know that consumer
confidence will support a lot of consumption and expenditure, and we don't know that investment
expenditure will go at a high rate as long as this kind of economic uncertainty continues. And I
also think that home prices, while they're rising, they may fall, because we have a huge overhang
of homes that are likely to be foreclosed and be dumped on the market.

KERRY O'BRIEN: How vulnerable do the banks remain?

ROBERT SHILLER: Well, the banks have been bailed out by the Government. Things are coming along
better. But if the mortgage crisis gets - if home prices decline, the banks will continue to see
losses. Because the foreclosures will get worse if home prices decline again. There's been some
resurgence of confidence. One thing that I've been saying in my recent book called 'Animal
Spirits', that there is a fundamentally unpredictable component of human nature and human
confidence, and right now it's coming back. So I don't know. I could see either scenario of a
recovery or of a turnaround and bad times ahead.

KERRY O'BRIEN: But what happens when the stimulus package runs out because so much of the climb
back has been based on that?

ROBERT SHILLER: Well that's one of the downers, one of the issues, because the stimulus package is
becoming more and more controversial. Same thing that happened in the Great Depression. (Inaudible)
about 1937-'38 when the economy fell into a recession again, Roosevelt was not able to get as big a
stimulus package as he did earlier. People were starting to think, well, this wasn't working, we're
still in the Depression, and they doubt that they want to see the national debt increased. Concerns
about the national debt start to become more prominent and it makes it harder to do a stimulus
package. And we might repeat that scenario.

KERRY O'BRIEN: Obama has obviously tried to restore confidence and a number of times now he's
invoked Roosevelt's line of, "Nothing to fear save fear itself," but the magic of Obama does seem
to have waned somewhat.

ROBERT SHILLER: Well, that's what happened to Presidents after they're elected: they turn out to be
real people, and it's declined a little bit more than with other Presidents. There's also - I am
troubled by the amount of anger in the United States, and the Tea Party movement has assumed
amazing proportions. That's something that I couldn't have predicted. There's hostility toward the
establishment in the United States right now. It's the kind of thing that goes along with massive
unemployment and feeling that somehow the Government has failed us. And this sense of
disappointment is part of my worry about the economy as well, because this kind of angry,
disappointed, worried mood is not good for business.

KERRY O'BRIEN: Well unemployment is still hovering around 10 per cent, much worse in some important
parts of the national economy like California. Can you see what's going to drive unemployment down
in the near future?

ROBERT SHILLER: I don't know that it is gonna go down in the near future. Even in the past
recessions, it's been slow to recover, and it seems that we are more damaged than usual. This was a
crisis that distributed all of our major financial institutions and it left people wondering
whether the too big to fail institutions, which are zombies in some cases, that are being kept
alive by the Government, whether they are the future of this country. So it's not a good situation
for long-term growth. And ultimately it's entrepreneurship, it's innovation that propels the normal
growth that we have. We can't be living in an economy where it's difficult to innovate and expect
to have even normal growth.

KERRY O'BRIEN: If America does fall back into recession and it happens relatively soon, one would
imagine that could be quite crushing on the nation's psyche, really, in terms of confidence.

ROBERT SHILLER: Well, I don't like to do this. You're making me do a double dip scenario, 'cause it
might not happen. We're kind of in a wishful thinking mode right now. I mean, because if I spell
out a scenario, that's exactly the kind of thing that diminishes confidence and we're hoping to
have confidence come back. On the other hand, I am a scholar and I don't shrink from telling what I
think is a truth or what is a possibility. I mean, the scenario for me would be one in which
financial markets decline and housing prices decline again. Home prices can decline again. It works
like a feedback mechanism. It's kind of a social academic. Some kind of minor bad news starts
prices down and then people see prices falling and there'll be (inaudible) talk and negative
stories start to assume prominence. There might be some financial failures that are naturally
caused by declining prices, and it just cycles downward. That's the thing: you know, you asked what
would be the trigger? There is no clear trigger for any of the major financial crises. You talk
about the Asian Financial Crisis, you talk about the Great Depression: there is no clear trigger
for any of these things. It ultimately comes from people watching the markets, seeing the prices
change and then changing their opinions, and then there's a contagion that drives the economy into
a difficult period for a while.

KERRY O'BRIEN: Australia's housing downturn was relatively short-lived and we're now heating up
again quite substantially in most cities. What's your instinctive reaction to that?

ROBERT SHILLER: I would imagine that it has bubble aspects to it. But, you know, maybe I shouldn't
say; I'm a foreigner, I'm not ... I was recently in China and I got to talk to a lot of people. And
I could smell and sniff a bubble there. What I mean by that is I could see that people's judgments
were influenced by rising prices, and the rising prices were amplifying for them optimistic
stories, and that's what happens in a bubble. We've seen this happen in the United States. I've
been doing questionnaire surveys, and during the - in 2003, when our boom was going gangbusters, we
were seeing 15 to 20 per cent expected returns for 10 years. People thought it's gonna go on
forever. I know because we've done questionnaires and asked them. And it was a wild expectation. It
was generated out of excitement from the real estate price increase. And we know that the cities
where prices were going up more, there were stronger long-term expectations. These expectations
were ultimately violated because the prices came down, but - so I don't think they were rational
expectations; they were bubble expectations. And there's an easy tendency for this to happen again.
So when I hear that in Australia prices are going out rapidly, I'm inclined to suspect that
something similar to what has happened in China is happening. And I think that the Australians may
well be deceived, just as we were in the United States, by the sense that prices never fall here.
That Australia hasn't seen any significant drop of prices, that seems to mean, in a very intuitive
way of thinking, that it can't happen here. But that's exactly what ultimately makes it happen.

KERRY O'BRIEN: Robert Shiller, thanks very much for talking with us.

ROBERT SHILLER: My pleasure.

KERRY O'BRIEN: Food for thought.