The 2022 Economics Nobel Should Come with a Warning

The Nobel Prize committee has rightly recognized three economists — Ben Bernanke, Douglas Diamond and Philip Dybvig — for their research on a topic crucial to human prosperity. If only regulators would do a better job of putting their insights into practice.

The research that the prize cites highlighted an important flaw in the prevailing academic orthodoxy. At the time, the dominant models — used by policymakers to understand and manage the economy — assumed that the financial sector played little role in booms and busts, simply operating in the background to turn savings into investment. But Diamond and Dybvig pointed out that borrowing short-term to make long-term investments (that is, leverage combined with maturity transformation) made banks uniquely susceptible to debilitating panics. And Bernanke showed how this dynamic played a central role in making the Great Depression of the 1930s as bad as it was.