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Why the Federal Reserve Failed to See the Financial Crisis of 2008: The Role of “Macroeconomics” as a Sense making and Cultural Frame

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  • Fligstein, Neil
  • Brundage, Jonah S
  • Schultz, Michael

Abstract

One of the puzzles about the financial crisis of 2008 is why the regulators were so slow to recognize the impending collapse of the financial system. In this paper, we propose a novel account of what happened. We analyze the meeting transcripts of the Federal Reserve’s main decision-making body, the Federal Open Market Committee (FOMC), to show that they had surprisingly little recognition that a serious economic meltdown was underway even after the collapse of Lehman Brothers on September 15, 2008. This lack of awareness was a function of the inability of the FOMC to connect the unfolding events into a narrative reflecting the links between the housing market, the subprime mortgage market, and the financial instruments being used to package the mortgages into securities. We use the idea of sense-making to explain how this happened. The Federal Reserve’s main analytic framework for making sense of the economy, macroeconomic theory, made it difficult for them to connect the disparate events that comprised the financial crisis into a coherent whole. We use topic modeling to analyze transcripts of FOMC meetings held between 2000 and 2008, demonstrating that the framework provided by macroeconomics dominated FOMC conversations throughout this period. The topic models also suggest that each of the issues involved in the crisis remained a separate discussion and were never connected together. A close reading of the texts supports this argument. We conclude with implications for future such crises and for thinking about sense-making and the role of economics in policymaking more generally.

Suggested Citation

  • Fligstein, Neil & Brundage, Jonah S & Schultz, Michael, 2014. "Why the Federal Reserve Failed to See the Financial Crisis of 2008: The Role of “Macroeconomics” as a Sense making and Cultural Frame," Institute for Research on Labor and Employment, Working Paper Series qt97k6t78z, Institute of Industrial Relations, UC Berkeley.
  • Handle: RePEc:cdl:indrel:qt97k6t78z
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    References listed on IDEAS

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    1. Grimmer, Justin, 2010. "A Bayesian Hierarchical Topic Model for Political Texts: Measuring Expressed Agendas in Senate Press Releases," Political Analysis, Cambridge University Press, vol. 18(01), pages 1-35, December.
    2. Jeffrey M. Chwieroth, 2010. "Capital Ideas: The IMF and the Rise of Financial Liberalization," Economics Books, Princeton University Press, edition 1, number 9087, December.
    3. Karl E. Weick & Kathleen M. Sutcliffe & David Obstfeld, 2005. "Organizing and the Process of Sensemaking," Organization Science, INFORMS, vol. 16(4), pages 409-421, August.
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    Cited by:

    1. Williams, John C., 2014. "Financial stability and monetary policy: happy marriage or untenable union?," FRBSF Economic Letter, Federal Reserve Bank of San Francisco.
    2. Paul Hubert & Fabien Labondance, 2016. "Central Bank Sentiment and Policy Expectations," Sciences Po publications 2016-29, Sciences Po.
    3. Bronk, Richard & Jacoby, Wade, 2016. "Uncertainty and the dangers of monocultures in regulation, analysis, and practice," MPIfG Discussion Paper 16/6, Max Planck Institute for the Study of Societies.
    4. Stephen Hansen & Michael McMahon, 2016. "Shocking Language: Understanding the Macroeconomic Effects of Central Bank Communication," NBER Chapters,in: NBER International Seminar on Macroeconomics 2015 National Bureau of Economic Research, Inc.
    5. T. Philipp Dybowski & Bernd Kempa, 2019. "The ECB’s monetary pillar after the financial crisis," CQE Working Papers 8519, Center for Quantitative Economics (CQE), University of Muenster.
    6. Stephen Hansen & Michael McMahon & Andrea Prat, 2018. "Transparency and Deliberation Within the FOMC: A Computational Linguistics Approach," The Quarterly Journal of Economics, Oxford University Press, vol. 133(2), pages 801-870.
    7. Yusuke Oshima & Yoichi Matsubayashi, 2018. "Monetary Policy Communication of the Bank of Japan: Computational Text Analysis," Discussion Papers 1816, Graduate School of Economics, Kobe University.
    8. Daoud, Adel & Kohl, Sebastian, 2016. "How much do sociologists write about economic topics? Using big data to test some conventional views in economic sociology, 1890 to 2014," MPIfG Discussion Paper 16/7, Max Planck Institute for the Study of Societies.
    9. Paul Hubert & Fabien Labondance, 2016. "Central Bank Sentiment and Policy Expectations," Sciences Po publications 2016-29, Sciences Po.

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    Social and Behavioral Sciences;

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