I would like to thank TPM Café for hosting this discussion.

Lords of Finance is intended to be a popular narrative history about the causes of the Great Depression. I chose to tell the story by looking over the shoulders as it were of the four major central bankers of the period, Montagu Norman of the Bank of England, Benjamin Strong of the New York Fed, Hjalmar Schacht of the Reichsbank and Emile Moreau of the Banque de France. It was a way of turning the spotlight on key economic decision makers of the era, thus highlighting that the Great Depression was caused by a series of policy mistakes, especially by central bankers. Moreover by telling the story through individual biographies, I thought it would make the book more accessible to more people.

The economic story that underlies Lords of Finance is an eclectic one. The book emphasizes three broad factors behind the Great Depression. First was the gigantic overhang of international debts after the First World War, the result of the failure of statesmanship at the Paris Peace Conference of 1919. German reparations and European war debts left massive fault-lines in the world financial system, which cracked at the first pressure.

The second was the malfunctioning international financial system and in particular the gold standard. Gold supplies had not kept up with prices during the First World War; and the distribution of gold bullion after the war was badly skewed, with much of it concentrated in the U.S. The problem of inadequate gold reserves was compounded when Europe went back to gold at exchange rates that were grossly misaligned, resulting in constant pressure, particularly on the Bank of England, the linchpin of the world's financial system.

Central bankers were only able to keep the world economy going by holding U.S. interest rates down and by keeping Germany afloat on borrowed money. It was a system that held the seeds of its own destruction. Eventually the policy of keeping U.S. interest rates low to shore up the international exchanges precipitated a bubble in the U.S. stock market. By 1927 the Fed was thus torn between two conflicting objectives--to keep propping up Europe or to control speculation on Wall Street. It tried to do both and achieved neither. Its attempts to curb stock speculation were too half-hearted to bring Wall Street back to earth but powerful enough to cause a collapse in lending to Germany, driving most of central Europe into depression and setting in train deflationary forces throughout the rest of the world. Eventually in the last week of October 1929, the bubble burst, plunging the U.S into its own recession.

The stresses and strains of trying to keep the limping gold standard going may have made some sort of financial crisis inevitable. It was not necessary for the crisis to metastasize into a worldwide catastrophe. What began as corrective recessions in the U.S. and Germany were transformed into a global depression by two policy blunders.

The Fed, led by a group of inexperienced and ill-informed time-servers, failed to act as lender of last resort and support the banking system when the U.S. bank panics hit in 1931. And because of the operation of the gold standard countries with inadequate gold reserves, especially Germany and Britain, were obliged to keep credit tight. This culminated in a European currency crisis in 1931following the failure of Credit Anstalt.

The most common question that I have been asked while promoting my book is: What then are the lessons of the Great Depression for the current situation? The essential thesis of Lords of Finance is that more than anything else the Great Depression was caused by a failure of intellectual will, a lack of understanding about how the economy operated. Central bankers in the 1920s were like 18th century doctors who thought that the cure for illness was to draw blood from the patient. Having been through the Great Depression however, we now know what not to do. We are not repeating the same mistakes. We are not letting the banking system collapse. Nor is there any attempt to curb budget deficits. Nor is any major economy planning to raise interest rates in defense of the currency.

Knowing what not to do is however different from knowing what to do. Until the current crisis I had always assumed that we understood the economy and knew what levers to pull to get it out of a slump. Though I still believe this, I have to admit to having had some doubts.

First question: are we sure that the current package of measures--a Fed that has trebled its balance sheet, a fiscal stimulus package of over 3% 0f GDP and various measures to recapitalize the banking system--will work? Or has the structure of the economy changed so much--e.g. a financial system that is several times larger in proportion to GDP than it used to be, households that are highly indebted--that the traditional instruments of policy we thought we could rely on to jumpstart the economy will no longer work?

My second question relates to the international environment. Charles Kindleberger in his book The World in Depression attributed the 1929 collapse to a failure of global economic leadership. In his view a well functioning world economy required some country to act as the leader, in effect to do more than its fair share of keeping global economy moving, to be the supplier of capital of last resort during crises and to act counter-cyclically as the economic locomotive for the world recognizing that smaller countries will freeload off its efforts

Before the First World War, Britain had assumed the role. But, almost bankrupted by the war, it was no longer able to fulfill that function. The mantle of leadership should have passed to the U.S. But the leaders of the U.S. were too parochial and insular to seize the opportunity. Thus during the 1930s the Britain was unable to lead and the U.S. was unwilling.

Are we at a similar transition point and are we going to suffer from a similar vacuum of world leadership. Has the US been so weakened by its accumulated current account deficits, its banking debacle and its foreign policy disasters that it is incapable of bearing more than its fair share of the burden?