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Three Economists, Including Ex-Fed Chair Bernanke, Win Nobel for Work on Bank Crises

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The Nobel Memorial Prize in Economic Sciences was awarded on Monday to Ben S. Bernanke, the previous Federal Reserve chair, and two other academics who’ve helped to reshape how the world understands the connection between banks and financial crises.

Douglas W. Diamond, 68, of the University of Chicago, and Philip H. Dybvig, 67, of Washington University in St. Louis — two economists who created a seminal model that explained the dynamics of bank runs and financial meltdowns — won the prize alongside Mr. Bernanke, 68, who’s now on the Brookings Institution in Washington.

The three economists won for a body of labor that stretches back into the Nineteen Eighties. Their research has delved into different points of how banks turn into vulnerable to upheaval, how bank failures worsen and extend financial disasters, and the way the system could be made safer in light of those risks.

These findings have repeatedly proved relevant to real-world policy, with central bankers drawing on their lessons in 2008 throughout the financial meltdown and in 2020 when markets seized up initially of the pandemic. Those policymakers included Mr. Bernanke, who was the Fed chair from 2006 to 2014.

And the research could soon turn into pertinent again. Central banks around the globe are raising rates of interest at a rapid pace to combat a burst of inflation, which is causing markets to shudder and has already contributed to a meltdown in a single corner of the economic system in Britain that required emergency intervention.

The brand new laureates’ work proved “highly relevant within the Great Financial Crisis in 2008 and 2009,” said Mark Gertler, a Recent York University economist who has written articles with Mr. Bernanke. “It’s also relevant now, as rates of interest are going up, and we’re beginning to see stress in financial markets.”

The Nobel committee cited the economists’ early research, including Mr. Bernanke’s influential 1983 paper that explained how bank failures can propagate a financial crisis slightly than simply be a results of one. He drew on his work on financial crises while on the Fed, fighting the worst downturn america had faced because the Great Depression. It was a “practical application” of his research, he said at a news conference on Monday hosted by the Brookings Institution after the awards were announced.

Mr. Bernanke said he and his colleagues on the Fed had worked hard to stop a broader financial meltdown. “I strongly believed that if that happened, that may bring down the remainder of the economy,” he said, adding of his research, “It did help me to take into consideration these issues in 2008.”

When the housing market began tumbling around that point, overextended borrowers fell behind on mortgages and a pile of dangerous loans parceled out across big banks and other institutions began to pull down the economic system. Mr. Bernanke helped arrange emergency programs to stop markets from collapsing and, alongside the Treasury Department, used the Fed’s powers to enable bailouts of bank and insurance company portfolios.

What to Know Concerning the Nobel Prizes

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What are the prizes? Six Nobel Prizes are awarded every yr, each recognizing a person’s or organization’s groundbreaking contribution to a particular field. Prizes are given for physiology or medicine, physics, chemistry, economic science, literature and peace work.

When were the awards established? The Nobel Prizes were established after the death of Alfred Nobel, the Swedish inventor of dynamite and other explosives, in 1896. In his will, Nobel bequeathed the majority of his fortune to create five annual prizes honoring ingenuity.

What do the winners receive? Nobel Prize laureates receive a Nobel Prize diploma, a Nobel Prize medal and a monetary award, which for 2022 is 10 million Swedish krona, or about $900,000 in keeping with current exchange rates, for a full prize.

How do the nominations work? Eligible nominators,  which include university professors, scientists, members of national governments and former Nobel Prize laureates, submit the names of potential candidates every year. Nominations for 2022 needed to be submitted by Jan. 31.

Who selects the winners? 4 separate institutions are accountable for picking the winners: the Royal Swedish Academy of Sciences for the Nobel Prizes in Physics and Chemistry, the Karolinska Institute for the Nobel Prize in Medicine, the Swedish Academy for the Nobel Prize in Literature, and a committee of 5 people elected by the Norwegian Parliament for the Nobel Peace Prize.

Isn’t there a prize for economics? Yes, nevertheless it is technically not a Nobel Prize. The Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel was not among the many awards originally stipulated in Nobel’s will. The economics prize was established by the Bank of Sweden in 1968; the Royal Swedish Academy of Sciences has been choosing the winners since 1969.

That downturn provided an example of just how damaging bank failures may very well be to the true economy. The Fed and Treasury allowed Lehman Brothers to collapse, which Mr. Bernanke has said he and his colleagues believed was their only option. Some critics have since argued that the investment bank could and will have been saved, and it’s widely accepted that the ripple effects of that failure worsened the downturn, which reverberated around the globe.

Louise Sheiner, the policy director for the Hutchins Center on Fiscal and Monetary Policy on the Brookings Institution, wrote in an email that she was “absolutely thrilled” at Mr. Bernanke’s award. “He represents the perfect combination of somebody who cares greatly concerning the real world, has a deep understanding of how it really works, using each real experiences and the insights that he gets from his and others’ research, and the boldness and courage to take actions that transcend the frontier of educational research when it seems essential.”

Mr. Diamond and Mr. Dybvig wrote in 1983 concerning the risks inherent in maturity transformation, or the method through which banks turn short-term borrowing into long-term lending. They showed how that setup subjects banks to sudden, panicked withdrawals by customers if there is no such thing as a deposit insurance or other protection.

The research stays “one of the crucial clear and exquisite papers in modern economics,” said Kenneth Rogoff, an economist at Harvard University.

Mr. Diamond also wrote about how banks monitor their borrowers, noting that knowledge about borrowers disappears when banks fail, making the upheaval worse.

“The laureates have provided a foundation for our modern understanding of why banks are needed, why they’re vulnerable and what to do about it,” John Hassler, an economist on the Institute for International Economic Studies at Stockholm University and a member of the prize committee, said throughout the news conference announcing the prize.

Mr. Diamond spoke by phone on the conference. Asked whether he had any warnings for banks and governments today, given recent market turmoil, Mr. Diamond said that financial crises turn into worse when people begin to lose faith in the steadiness of the system.

“In periods when things occur unexpectedly — like, I believe many individuals are surprised how rapidly nominal rates of interest have gone up around the globe — that may be something that sets off fears within the system,” he said. “The perfect advice is to be prepared, for ensuring that your a part of the banking sector is each perceived to be healthy, and to remain healthy, and respond in a measured and transparent approach to changes in monetary policy.”

Mr. Dybvig didn’t reply to an emailed request for comment on his prize.

The three economists’ research findings “reinforce one another,” the Nobel committee said in its background documents on the prize. “Together they provide necessary insights into the helpful role that banks play within the economy, but in addition into how their vulnerabilities can result in devastating financial crises.”

Mr. Diamond said on the news conference that the world is best poised for any financial upheaval now than it was throughout the financial crisis in 2008, because “recent memories of that crisis” and regulatory improvements have made the banking system less vulnerable.

Still, the weaknesses that he and Mr. Dybvig have identified extend beyond banks and may bubble up in other parts of the economic system, like insurance firms or mutual funds, he noted.

Mr. Bernanke was also asked about how the three men’s research applies to the present moment.

“We’re actually not in anything just like the dire straits we were in 14 years ago,” Mr. Bernanke said of the state of the U.S. economic system. Still, he noted that “it’s true that even when financial problems don’t begin an episode, over time” they “can add to the issue, and intensify it — in order that’s something, I believe, that we actually need to pay close attention to.”

And asked for advice to younger economists, Mr. Bernanke looked as if it would allude to the twists his profession took, from researching financial crises to steering the world’s largest economy through one.

“Considered one of the teachings of my life is, you never know what will occur,” he said.

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