Causes of the fiancial crisis - economists' betrayal of the public?

[innonimatu]

That's what I'll name it: a betrayal of the trust that the public, the common people who trust governments and academics to manage the affairs of government, placed on them. Not by all economists, certainly, but by what has been variously know as neoclassical economics, neoliberal economics, mainstream economics, etc.

A lot of simplistic descriptions of the crisis have already been put forward, and its architects are now busy hiding their own responsibility. Even a cursory overview of the problems with global finance is too lengthy for a post here, so I'll just link to two papers on the issue:


Structural Causes of the Global Financial Crisis: A Critical Assessment of the ‘New Financial Architecture’

Financialization - What It Is and Why It Matters

Both papers, and their notes, show very well that the move towards a deregulated and inherently unstable financial system started as far back as the 1960s, and that the case of the greedy bastards running after profit regardless of the damage caused was always championed by academic economists, from Arrow and Debreu (with their infamous attempt at salvaging the classical models of economics, but I've discussed that one on other threads) to Friedman and to the "randite" Greenspan. By the 1980s the alliance between these academics and some financial groups finally managed to set the agenda for politics, and they've controlled it since. Starting in the USA and the UK, they eventually imposed their methods on most of the world.

I do not believe that the academics who pushed these economic ideas did it out of misguided ignorance. They knew the devastating effect they'd have. They knew they were increasing inequalities and concentrating wealth. It has been undeniable, for years now, that the neoliberal models prevalent for the past two decades produced much less economic growth (if any, we shall see when the dust settle on this crisis) that the state-regulated models of the 1950s and 1960s. Even the existing statistics do not hide this. Yet economic problems are always attributed to "too much regulation" always used as an excuse to sink further into the neoliberal dystopia. Where will public credulity run out?

And it it takes muck longer, will it be too late? People's instinctive reaction has been to support the bailout packages put forward by government, but these governments remain committed to the same economic ideas and policies that created the crisis. Instead of full nationalizations they seek to "save" the system, much as some countries have already done. Sweden is presented as example, yet Swedish banks were swiftly reprivatized and have been busy financing speculative bubbles in the baltic countries... the end result has that public money was used to keep the Ponzi scheme running. We are also seeing "solutions" suck as bank mergers. But the papers above basically make the case that the whole financial system, with its supra-national financial institution, and its theoretical underpinning cannot be saved, and that it is indeed contrary to public interest to keep it. Measures as simple as reducing the scale of financial institutions (tested and tried) and closing down the too-big-to-fail private-profit-socialized-losses giants are entirely absent from public discussion.

We have a few economists around, I'm curious about what they think of this. They've been unusually curt on the causes of these problems, and entirely silent on prediction, of late.

 

[luiz]

Causes:

-Flawed housing policy in the US, going back decades. The idea that everyone should own a house, and the state actively pursuing this goal, was doomed to fail in the way it was implemented. Freddie Mae and Fannie Mac had directors appointed by the government, they were accountable to Congress, and by definition, they were government sponsored enterprises.

-Artificially low interest rates kept for too long. It distorted the market and lead to irresponsible behaviour. Normally it would have been impossible to keep the rate as low and for so long as the Fed did, because inflation would surge, but in the 90's and 00's there was a new factor: China in particular and East Asia in general. They were providing cheap exports to the US and buying US gvt. bonds. Part of the cause for this crisis was the great prosperity of the last decades, which the OP doesn't seem to acknowledge.

-Bad reaction by the Fed. Of course there was a housing bubble, the Fed knew it, mainstream economists knew it. However, the Fed chose the approach of letting it bust and acting afterwards, instead of trying to "deflate" it slowly with contractionist policies, what would have decreased growth years ago but ultimately prevented a crisis of this extent. So why did the Fed chose the approach it did? Because it worked well with the dot.com bubble. It failed spectacularly this time.

-Bad decisions, both by bankers and indivduals. Of course, both those groups were influenced by bad policies by the govt. and the Fed, but you can't take their responsability. The bankers were all too happy to join the irresponsible subprime bandwagon, and uncritically believed in a risk-rating system that proved to be largely BS. The borrowers took way more than they could afford, believing in the obviously false idea that their home prices would rise ad infinitum and cover whatever debt. Both those groups commited mistakes and should be responsibilized.

-Many other causes.

Predictions
I am no futurologist, and don't believe much in predictive models. However, if I had to bet or die, I'd bet that the financial crisis per se will last from two weeks to two months, and will be followed by a period of 2-3 years of near zero growth for the developed economies. China will probably slow down to some 6% or 7% per year growth in the same period, which is a very considerable slow down, but also a very considerable growth. After that, normality (and who knows what that is?).

Happy?

 

[Bigfoot3814]

I really believe that the pagans, and the abortionists, and the feminists, and the gays and the lesbians who are actively trying to make that an alternative lifestyle, the ACLU, People For the American Way, all of them who have tried to secularize America. I point the finger in their face and say 'you helped this happen.'

 

[mrt144]

Yes, Economists are malevolent betrayers of the public, since day one...because you have an axe to grind against them having too much "influence". God forbid anyone question the superiority of government, like those evil economists did back in the 50s.

 

[innonimatu]

Yes, Economists are malevolent betrayers of the public, since day one...because you have an axe to grind against them having too much "influence". God forbid anyone question the superiority of government, like those evil economists did back in the 50s.

I do have an axe to grind with the prevailing economic ideas of our time. As to the influence of economists, no one described it better than Keynes in his famous quote about academic scribblers.
Speaking of those, who do you think advised governments before the 1950s? But at least their prevailing ideas were saner then. The current crop of economists is a different story.
Anyway, it seems to me that you are still in denial about the problems with the economic orthodoxy - you and most of the world! I mentioned some, but I can't hope to have any decent in-depth discussion about those here. I guess they'll be popular topics in about a year or so.


luiz, you are an economist? I should have guessed!

 

[mrt144]

I do have an axe to grind with the prevailing economic ideas of our time. As to the influence of economists, no one described it better than Keynes in his famous quote about academic scribblers.
Speaking of those, who do you think advised governments before the 1950s? But at least their prevailing ideas were saner then. The current crop of economists is a different story.
Anyway, it seems to me that you are still in denial about the problems with the economic orthodoxy - you and most of the world! I mentioned some, but I can't hope to have any decent in-depth discussion about those here. I guess they'll be popular topics in about a year or so.


luiz, you are an economist? I should have guessed!

Seriously, you're going to claim I'm in denial about structural flaws and incentives within financial institutions? Well then you're simply wrong. Our current economic systems can always be improved upon when we gain experience (like 1929, like 1979, like now), but the idea that there is a concerted effort by some cabal of government economic advisers to sabotage improvement of those systems is needlessly complex and without basis.

I find it a bit hilarious that you feel you've reached this epiphany that people with money and thusly power try and shape government policy to benefit themselves. This has been true in every form of government. But it isn't economists that have the money or the power, they only the theory and the analysis of the past to work with. Your gripe should be placed on the government for being corruptible and for making appeals to authority to carry out policy directive. "But Hayek said..." doesn't warrant a condemnation of economists, it warrants a condemnation of the one invoke an economist as the final authority when they choose from a set of economists who they happen to agree with.

Finally I question whether you see any practical application of economics in our lives taken down to the micro level. Do you? or have you written off all of economics at every level because you're mad about the state of affairs in the world today?

 

[innonimatu]

I find it a bit hilarious that you feel you've reached this epiphany that people with money and thusly power try and shape government policy to benefit themselves. This has been true in every form of government. But it isn't economists that have the money or the power, they only the theory and the analysis of the past to work with. Your gripe should be placed on the government for being corruptible and for making appeals to authority to carry out policy directive. "But Hayek said..." doesn't warrant a condemnation of economists, it warrants a condemnation of the one invoke an economist as the final authority when they choose from a set of economists who they happen to agree with.

I understand you position, but not blaming economists for the role they played is a serious mistake. People with money cannot readily convert that money into political power, openly bribing politicians fell out of fashion a long time ago. They must always present some excuse to justify those policies which transfer wealth to them, and economists have been very willing to create those justifications.

Even now the talk about the need to tighten regulations absolutely fails to touch the economic principles used to justify the original deregulation. If no one goes after those wrong economic models they'll soon be creating another boom-and-bust cycle. Economists have not been wrong just about risk, or about rational expectations, or about efficient markets. They've been wrong about the nature of the firm, the obligations of management, the reality of property and control, unemployment, international trade, and so many things... they know they're teaching and preaching wrong theories, and they're willing to continue to do so, with the excuse that they really do know the truth but it's to complex to explain...

In the meanwhile they've set the political agenda and they intend to continue to do so with the same wrong models. The Bank of Sweden recently sought to cover their ass by handing over the "Nobel" prize to Krugman, an economist who despite his complaints about the neoliberal "excesses" seeks to preserve the neoliberal economic model and its theoretical foundations.

Finally I question whether you see any practical application of economics in our lives taken down to the micro level. Do you? or have you written off all of economics at every level because you're mad about the state of affairs in the world today?

I do see that application. But economists must first accept that there are no such things as economic laws, and that the economy cannot be isolated from the society it develops with. They are still trying to hammer society into fitting their models.
Institutionalists were the only major "school" of economics to get things right in the past century.

 

[Princeps]

-Flawed housing policy in the US, going back decades. The idea that everyone should own a house, and the state actively pursuing this goal, was doomed to fail in the way it was implemented. Freddie Mae and Fannie Mac had directors appointed by the government, they were accountable to Congress, and by definition, they were government sponsored enterprises.

Freddie and Fannie did not cause the housing bubble nor did they have any significant effect in creating it.

"Nobel" prize to Krugman, an economist who despite his complaints about the neoliberal "excesses" seeks to preserve the neoliberal economic model and its theoretical foundations.

Krugman is more like a neokeynesian than neoliberal.

 

[BreakItDown]

Deregulation

 

[luiz]

luiz, you are an economist? I should have guessed!

Nope, I am an engineer, and thus not part of the evil global neoliberal economists' conspiracy

However I am interested in Economics, and my field of Engineering deals with finances all the time, so in college I took Micro I and II, Macro I and II, Econometrics, and countless financial courses. Before you ask, my economics professors were all, without exception, very orthodox keynesians. I had epic discussions with them, good old days.

 

[BasketCase]

Short and simple: if those Evil Capitalists had actually known they were investing badly, they would have gotten out in order to avoid losing money.

They didn't know their policies were bad (they actually weren't), they didn't know the bubble was going to burst. In fact, quite the opposite: the subprime lending market had had a solid history of profitability, and that's the same way I judge a mutual fund when I invest: I examine its history.

Thumbs down to the borderline conspiracy theory that is the OP.

 

[mrt144]

Short and simple: if those Evil Capitalists had actually known they were investing badly, they would have gotten out in order to avoid losing money.

They didn't know their policies were bad (they actually weren't), they didn't know the bubble was going to burst. In fact, quite the opposite: the subprime lending market had had a solid history of profitability, and that's the same way I judge a mutual fund when I invest: I examine its history.

Thumbs down to the borderline conspiracy theory that is the OP.

Will you stop with mutual funds already.

 

[BasketCase]

But they rock!

 

[mrt144]

But they rock!

I smell band name: "The Mutual Funds"

 

[Cutlass]

Not all economists are "Chicago". Many are responsible.

 

[innonimatu]

Not all economists are "Chicago". Many are responsible.

But almost all economists today support the notion of the "homo economicus", and that goes back to Say, Jevons, Marshall and the marginal revolution of the late 19th century. The whole of "economic science" as we understand it is based on separating economic relations from everything else in society, but that cannot be done.

Economics as it exists is not meant to seek a better society, but to find some "natural rules" which society supposedly cannot escape, and set both public policies and private behaviors according to those rules (Keynes at least was honest about that). No social science should ever seriously defend that - society is what we make it be, and claims to the existence of natural rules are excuses to fence away areas some people do not want questioned.

What are "laws of economics"? "Theorems of welfare"? Lies hiding behind claims to authority. Self-serving lies, or at least that is the case with many who promote them. Others are simply fooled (educated) into parroting them. How many managers take basic courses on economics, and how many go for doctoral programs? Yet those basic courses teach us known wrong models as if they were true, and the academic economists' excuse, when this is pointed out and the contradictions are brought to light (which is very rare) is to say that they have more sophisticated models and do discuss the flaws of those "simple models" in doctoral programs... The vast majority of people is educated with known lies. Hidden behind those lies is the fact that there are no rules set in stone as far as "economics" is concerned (also no magic bullet for its crisis). Economics should not exist! Its all politics, and everyone has a stake (and both the responsibility and the ability to have a say) in it.
Else we might as well leave the whole of politics to the "experts", the politicians, and abolish pointless democracy, for can it not too be "scientific"? Everything can be presented as statistics and management, after all!

At least far back when economics started it was properly named political economics, and its most celebrated author had no trouble with writing both about economic relations and about morals.

 

[JerichoHill]

Economists are of many persuasions

None run the commercial banks.

Blaming economists is a strawman

 

[Ecofarm]

Found the cause:

Allah

Iranian leaders say the world financial crisis indicates the end of capitalism, the failure of liberal democracy and divine punishment -- marking the superiority of the Islamic republic's political model.

"The school of Marxism has collapsed and the sound of the West's cracking liberal democracy is now being heard," supreme leader Ayatollah Ali Khamenei said on Monday, recalling the fate of the Soviet Union.

Hardline President Mahmoud Ahmadinejad, who is backed by Khamenei, said on Tuesday that "it is the end of capitalism."

Such convictions can be traced back to the ideals of the 1979 Islamic revolution, which Ahmadinejad has sought to revive since he rose to power in 2005.

The firebrand president, who has not missed a chance to denounce Western "decadence" since his election, has exploited the scale of the global crisis to play up his argument.

He benefits from the luxury that the Tehran stock market has been unaffected by the losses that bourses in neighbouring Gulf states have suffered. That stability is attributable to the absence of foreign investors and to the government's firm grip on economic activity.

Several Iranian newspapers, regardless of their reformist or conservative leanings, have also blamed the global economic crisis on excessive liberalism.

And some officials, such as the head of Iran's electoral watchdog body, have come up with less conventional theories and branded the turmoil as "divine punishment."

"These people see the outcome of their bad deeds. This problem has spread to Europe now which makes us happy. The unhappier they are the happier we become," Ayatollah Ali Janati, who heads the Guardians Council, said in last Friday's prayer sermon.

Ahmadinejad has recently echoed that, saying "the reason of their defeat is that they have forgotten God and piety."

The financial crisis should be a divine sign that "the oppressors and the corrupt will be replaced by the pious and believers," he said, adding that "an Islamic banking system will help us survive the current economic crisis."

Ahmadinejad's administration favours such a system, based on interest-free lending, but the system has not been widely implemented and faces criticism by economists.

Elected on a justice campaign, the president has gone on a spending spree to "bring the oil money to the tables" of Iranian people.

But the cash injection to the economy has fuelled inflation, which has risen from around 10 percent at the time of his election to nearly 30 percent.

For Iran's supreme leader, the crisis particularly signifies the superiority of the Islamic republic's political structure, which combines elements of democracy with those of a theocracy.

Khamenei hailed the "victory of the Islamic revolution" in the face of Marxist and liberal ideologies. "Now there is no sign of Marxism in the world and even liberalism is declining," the all powerful leader said.

The Iranian regime deems the concepts of democracy and human rights as "imperialist" tools to dominate other nations.

The Islamic republic thus defends its electoral practice of vetting candidates running for public office according to their religious adherence and its judicial system, which resorts to the death penalty for serious crimes more than any country in the world except for China.

http://www.breitbart.com/article.php?id=081015152055.72llwkbo&show_article=1

That's their top mullah, their president, and the head of their "guardian council". Cute.

 

[innonimatu]

Found the cause:

Allah


http://www.breitbart.com/article.php?id=081015152055.72llwkbo&show_article=1

That's their top mullah, their president, and the head of their "guardian council". Cute.

If you want talk about those imbeciles and their "divine retribution" start a new thread, don't spam this one.

I have decided that I really must start a thread on the history of economic thought. European governments are floating news about convening a new international conference to replace the little that remains of Bretton Woods (interestingly, what does remain is the dollar's top position as a world currency...).They wouldn't do this is they could maintain the current system.

Bretton Woods (and keynesianism) was an attempt to make the economics of the maginalists work, and it inevitably failed. Why that "economic science" failed is now a very important topic, there will soon be an opportunity to move away from it before it does further harm. Lots of resources on the history of economic thought are available online already, now if only people read up on that...

Here and now I'll only say that at the heart of the question is the issue of value. Classical economics led to unexpected results with its theories about value, the "marginal revolution" was an attempt to bury those results. Keynesianism was a series of tweaks to marginal economics attempting to make it work. It came close, but the foundation has hopelessly unsound.

 

[Brighteye]

I would be very interested in learning about the history of economic thought. I don't know enough about economics at the moment, so perhaps you could recommend a (text)book that defines the basic terms and ideas?
I have access to a number of good libraries here, so I shouldn't have a problem finding it, but if you could think of a second option that would be good too.