So what is the message of This Time Is Different? In a nutshell, it is that too much debt is always dangerous. It’s dangerous when a government borrows heavily from foreigners—but it’s equally dangerous when a government borrows heavily from its own citizens. It’s dangerous, too, when the private sector borrows heavily, whether from foreigners or from itself—for banks are basically institutions that borrow from their depositors, then make loans to others, and banking crises are among the most devastating shocks an economy can face.

Yet people—both investors and policymakers—tend to rationalize away these dangers. After any prolonged period of financial calm, they either forget history or invent reasons to believe that historical experience is irrelevant. Encouraged by these rationalizations, people run up ever more debt—and in so doing set the stage for eventual crisis...

What we’re in the middle of right now is what Reinhart and Rogoff call the “second great contraction”—a giant banking crisis afflicting both sides of the Atlantic, with effects that have spilled over to the entire world. The first great contraction was, of course, the Great Depression. In the past, banking crises have often led to sovereign debt crises as well, since banking collapses depress the economy, reducing government revenue, at the same time that they often require large outlays to rescue the financial system...

So now we’ve experienced a severe financial crisis, fundamentally similar to those of the past. What does history tell us to expect next? That’s the subject of Reinhart and Rogoff’s Chapter 14, “The Aftermath of Financial Crises.” This chapter can usefully be read in tandem with two studies by the International Monetary Fund that take a similar approach, published as chapters in the April 2009 and October 2009 editions of the semiannual World Economic Outlook. All three studies offer a grim prognosis: the aftermath of financial crises tends to be nasty, brutish, and long. That is, financial crises are typically followed by deep recessions, and these recessions are followed by slow, disappointing recoveries.

Consider, for example, the case of Sweden, which experienced a severe banking crisis in 1991, following a major housing bubble. Sweden’s government has been widely praised for its response to the crisis: it stabilized markets by guaranteeing bank debt, and restored faith in the system by temporarily nationalizing and then recapitalizing the weakest banks. Despite these measures, however, Swedish unemployment soared from 3 percent to almost 10 percent; it didn’t start coming down until 1995, and progress was slow and fitful for several more years...

How long does the pain last? According to the second of those IMF studies, the answer, to a first approximation, is “forever”: financial crises appear to depress not just short-term performance but also long-term growth, so that even a decade after the crisis real GDP is substantially lower than it would otherwise have been...

History says that the next few years will be difficult. But can anything be done to improve the situation? Unfortunately, This Time Is Different says little on this score...

...but others have. Thus the IMF, squinting hard at a relatively limited run of experience (it looks only at advanced countries since 1960), finds evidence that boosting government spending in the face of a financial crisis shortens the slump that follows—but also finds (weak) evidence that such policies might backfire when governments already have a high level of debt, a point we’ll come back to. Interestingly, the IMF also finds that monetary policies, usually the recession-fighting tool of choice, don’t appear effective in the wake of financial crises, perhaps because funds don’t flow easily through a stricken banking system...

[During the 1930's], nobody was following Keynesian policies in any deliberate way—contrary to legend, the New Deal was deeply cautious about deficit spending until the coming of World War II. There were, however, a number of countries that sharply increased military spending well in advance of the war, in effect delivering Keynesian stimulus as an accidental byproduct. Did these countries exit the Depression sooner than their less aggressive counterparts? Yes, they did. For example, the surge in military spending associated with Italy’s invasion of Abyssinia was followed by rapid growth in the Italian economy and a return to full employment.

Since conditions in the 1930s resembled those now in important ways—as Eichengreen and his coauthors put it, now as then we live “in an environment of near-zero interest rates, dysfunctional banking systems and heightened risk aversion”—this seems to suggest that the right course of action now is to spend freely on stimulus and pay for it later.1 But doing so would mean running large budget deficits and adding to debt levels that are already historically high in many countries. How dangerous is doing that?

Much of This Time Is Different is devoted to sovereign debt crises, in which governments lose the confidence of lenders, are unable to service their debt, and respond by defaulting, engaging in inflation, or both. Implicitly, then, the book warns against taking it for granted that nations can get away with deficit spending. On the other hand, advanced nations have historically been able to go remarkably deeply into debt without creating a crisis...

The truth is that the historical record on the consequences of government debt is sufficiently ambiguous to admit of different interpretations. We read the evidence as supporting a policy of stimulate now, pay later: spend strongly to promote employment in the crisis, but take measures to curb spending and raise revenue once the crisis has passed. Others will see it differently. The main thing to notice, perhaps, is that there is no safe path: debt has long-term risks, but so does failing to engineer a solid recovery. The IMF’s research suggests that the long-term cost of financial crises is less when countries respond with strong stimulus policies, which means that failing to do so risks damage not just this year but for years to come...

Clearly, the best way to deal with debt crises is not to have them. Is there anything in the historical record indicating how we can do that?...

What the data show is a dramatic drop in the frequency of crises of all kinds after World War II, then an irregularly rising trend after about 1980, with a series of regional crises in Latin America, Europe, and Asia, finally culminating in the global crisis of 2008–2009.

What changed after World War II, and what changed it back? The obvious answer is regulation...

The world’s two great financial centers, in New York and London, wielded vast influence over their respective governments, regardless of party. The Clinton administration in the US and the Labour government in Britain succumbed alike to the siren song of financial innovation—and were spurred in part by the competition between the two great centers, because politicians were all too easily convinced that having a large financial industry was a wonderful thing. Only when the crisis struck did it become clear that the growth of Wall Street and the City actually exposed their home nations to special risks, and that nations that missed out on the glamour of high finance, like Canada, also missed out on the worst of the crisis.

Now that the multiple bubbles have burst, there’s obviously a strong case for a return to much stricter regulation. It’s by no means clear, however, whether this will actually happen. For one thing, the ideology used to justify the dismantling of regulation has proved remarkably resilient. It’s now an article of faith on the right, impervious to contrary evidence, that the crisis was caused not by private-sector excesses but by liberal politicians who forced banks to make loans to the undeserving poor. Less partisan leaders nonetheless fret over the possibility that regulation might crimp financial innovation, even though it’s very hard to find examples of such innovation that were clearly beneficial (ATMs don’t count)...

...as many have noted, President Obama’s chief economic and financial officials are men closely associated with Clinton-era deregulation and financial triumphalism; they may have revised their views but the continuity remains striking.

In that sense, this time really is different: while the first great global financial crisis was followed by major reforms, it’s not clear that anything comparable will happen after the second. And history tells us what will happen if those reforms don’t take place. There will be a resurgence of financial folly, which always flourishes given a chance. And the consequence of that folly will be more and quite possibly worse crises in the years to come.

I've read the entire piece which will give you some sense for the situation. Since I've been closely following this for some time now, I can't say there was anything new in here for me... but again, I know you've not been as closely tracking things and so this will be useful for you. Again, it's well written. But since I do have a bit more rounded understanding, let me point out some things that the article glosses over (perhaps because of word limits and/or the authors' sense of not going too deep for their audience).

First, Krugman and Wells imply that the Swedish example was 'nasty, brutish and long'. By the standards of responses to these sorts of crises, that is not correct. Look to the bottom of the article where Krugman point out how truly long the Japan experience has been... that is nasty, brutish and long. Sweden's experience was quite short. [In further correspondence, my friend clarified this as essentially a semantic distinction, ie, relative to the extended problems in Japan, Sweden's experience was short.] Moreover, Sweden's policy focused on the 'real economy', not the asset based, financialized economy... of which, more below.

Second, Krugman and Wells provide only one explanation for continued strength of the dollar: flight to safety/safe haven. This is simplistic -- in ways the two of them fully understand. Again, perhaps the tyranny of word limits. But, while some investors are seeking safe haven (I know I am), there are many other major players who are flying to dollars in order to keep up value of dollar in turn so that asset values don't deflate/drop.... much of the entire approach to this crisis can be summarized as 'extend and pretend'... extend the unrealistic values of assets while pretending that the whole thing was just an unfortunate problem of illiquidity and that there can, in fact, be a return to 'normal'.... remember, last year, congress enacted a law that allowed 'mark to make believe' accounting -- the whole game here is to allow financial institutions --and now the Fed!! -- to carry these assets on their balance sheets at values that have no relation whatsoever to 'fair market value'. If these assets -- including those on Fed's books -- were marked at what the market would actually pay for them, we'd have a complete collapse of the financial sector. It's make believe.

Third, this implication that dollar value remains high solely because of flight to safety when, in fact, it's mostly about extend and pretend also relates to perhaps the most glaring omission of the krugman/wells article: they fail to mention that the crisis derives in major part because we have shifted to an asset based economy grounded in fictitious paper based debt instead of a jobs based economy grounded on sustainable incomes derived from an economy that's real. As just mentioned, the policy approach now in play is about preserving and extending the asset based economy; it is not about returning to a jobs based economy. I'm a bit surprised krugman/wells failed to note this -- especially since they so rightly described how the deregulation regime is so much a part of our current difficulties; and also since they make a key point about the need for stimulus to create jobs notwithstanding the deficit implications.

Indeed, they also bypass the more insightful points about government deficit/debt. They make an important point -- as just stated -- that its key to get jobs back and that deficits don't matter if they are producing jobs. But, Krugman/Wells simply gloss over this in their larger commentary about govt deficits.... they fail to note that 80 to 90% or more of govt commitments in this crisis have been to prop up assets, not produce jobs. The Fed has basically engaged in the same high leverage act as the financial sector --- and the price tag for that is that we're a hair trigger away from collapse while simultaneously have so over committed the govt -- all to prop up asset prices because we said "no" to the Swedish model (which was short, not long) -- that, in effect, we've shot our wad at asset prices and when folks say, jobs, jobs, jobs, the oligarchs cry: too much govt debt.

Krugman/Wells simply do not explain this -- and the article would have been far superior if they had.

Last; in the concluding paragraph, they correctly lament that what may well make this crisis different is that we will not have any financial sector reform. I agree with them. I just wish they'd taken an additional 3 to 7 paragraphs to let us know if they believe the Dodd bill is serious reform. It is not. It is merely band aids and fig leaves. And, unfortunately, a replay of so called 'health care reform'.

The one thing that may be different -- and could lead to real financial reform -- is that folks like Sherrod Brown and others may have the power this time around to convert the Republican party of no plus huge public unrest into amendments to the Dodd bill that actually might be real reform. I'm reasonably certain that Obama will sign any bill -- so if Brown et al can get a good bill, Obama wouldn't stand in the way. On the other hand, if we get health care redux, Obama will sign that too -- and the media will then continue their horse race, 'reality tv' act and obama's stature will go up, up, and up while the economy remains in peril, peril, peril.

Let them eat assets!!