How did we get in this mess?

[catsittingstill]

Okay, I've been thinking about this for a couple of days, mostly while listening to the news, for obvious reasons.  I'm obviously not an expert, but here's what it looks like to me.

This economic mess (aside from the recession--I mean the more immediate and corrosive mess) seems to result from several factors:

1) Predatory lending practices.  This is widespread, from credit card companies that claim they still own your ass after you've paid back what you borrowed 2 and a half times over, on down to payday loans and refund loans with interest rates in the hundreds of percent per year.  The edge of predatory lending that I'm thinking of, though is the part where lenders gave out loans/suckered victims into signing loans they didn't understand/ that started with payments the borrower could make and "reset" in three years to payments they couldn't possibly make.  And "interest-only" loans--what the hell was up with that?  You would think that any human being with a scrap of honesty would balk at offering such a cheat.  Both loans use one of the "sways"--in this case the tendency to weigh current conditions much more heavily than future conditions when making a decision--for evil.

Okay, so predatory lending practices, in addition to all the other harm they do to the poorest and most vulnerable parts of the population, also set up a bunch of mortgages that were certain to default.

2) Complex collateralized debt obligations that even the cream of Wall Street didn't understand.  I think it's pretty clear that a lot of companies ended up buying things whose risks they couldn't accurately gauge, and couldn't even evaluate to the point where they realized they couldn't accurately gauge them.

3) Companies that were so big that their failure would drag down the entire system.  Deregulation has allowed merging of companies to the point where one company owns so much of a market that the failure of that company destroys the market.

A modest proposal----

1) Outlaw predatory lending. 
2) Require that financial instruments be simple enough to understand.
3) Break big companies down into companies small enough to fail without hurting anything.

And I still think something is wrong when the CEO of a failing, bailed-out company is making 19 times as much in a year as the rest of us make in our lifetimes.  Obviously I believe that people who make big contributions to the good of society should be rewarded commensurately, but I don't understand how he contributes more in a year, even a good year, let alone *this* year, than 19 average people contribute in their lifetimes.  I just don't get it.

Just some thoughts.

Comments

[mdlbear]

Well said.

But isn't it Talk Like a Pirate Day? You're just talking about them. ;-)

[chatworthy.livejournal.com]

I agree 100%. And disallow the selling of mortgages, although that may be part of #2.

[egoldberg.livejournal.com]

Bingo. I'd really love to see the whole American relationship to debt be reformulated on a national policy level: why do we allow people to take on debt they can't afford?

[smallship1.livejournal.com]

I would like to see corporations subject to more stringent laws than people, not less. The entire mess has come about because corporate demons (or the people who hide behind them, if you prefer) can do what they like and we still treat them as if they were human beings with a conscience and moral values. Their behaviour should be regulated seven ways to a Sunday to make it basically ethical, and if they can't function economically on that basis they should be wound up and their business should go to someone who can work within the restrictions and maybe bank a little less profit every year.

If you take your hands away from the wheel the clay will go into a schloggy mess, and the faster the wheel is spinning the faster it will happen. The words "laissez faire" and "economics" do not go together, any more than the words "laissez faire" go with pottery or any other important human activity. If we haven't learned that from this past decade or two, then we deserve everything we get.

And yes, corporations should be small. Fewer people get hurt, more people get work, management wages become realistic, company policy becomes flexible and responsive, and boy are they grateful for business.

[tigertoy.livejournal.com]

Predatory lending in general (the payday loans and absurd credit card practices) are social ills, but I don't think they have much to do with the economy as a whole. A lot of the mess we have now is specifically because of the mortgage market. Mortgages need to be sold to consumers by the entity whose money is being lent. Mortgage brokers who get paid for originating loans and lose nothing if the loan goes bad are really the reason we have the mess we have. It's threatening to take down the whole global economy because paper-pushers came up with mortgage backed securities that spread any bad loans all across the world, instead of leaving them in the hands of local bankers who not only would avoid making loans that probably wouldn't fly, they would actually rather work out terms with a borrower having trouble than forclose. Credit default swaps are a scam where the entity collecting the interest doesn't actually bear the risk of not being paid back, and further remove the incentive to make sure the loan works.

There's an underlying problem with our whole system: if you're a smart person with money, and you want to have more money, the best way to go about it is to come up with some complicated financial scam that's all about shuffling virtual money from one virtual pile to another. As an example of what I mean, consider corn. Real people right where I live work really hard growing corn, but far more money is made or lost by traders who don't even know how much a bushel actually is, and the price of corn itself is determined by the games they play more than how the crop does. Farmers are forced to play the commodity markets themselves, not only making careful choices about when to lock in their prices, but even playing with options, in order to get paid enough to stay in business.

[tradarcher.livejournal.com]

What wonderful ideas. I like them.

[admnaismith.livejournal.com]

http://news.yahoo.com/s/ap/20080919/ap_on_bi_ge/financial_meltdown

Private winnings. socialized losses.

[randwolf.livejournal.com]

Yeah! Bring back the laws and rules that the radical right repealed! It used to be that the various regulations forbade predatory lending. The pre-Reagan SEC didn't allow all those complex financial instruments; the later SEC allowed them, apparently so that wealth could be concentrated in far fewer hands. Enforcement of the law that partitioned the various investment corporations into different kinds of businesses--banks, insurance corporations, and so on, the Glass-Steagall act of 1933, was abandoned; the law was finally repealed in 1999. That repeal was the final step that allowed the current disaster to develop. The economic rationale for this was provided by the (University of) Chicago School, and especially Milton Friedman. One of the political leaders of the movement to this sort of deregulation was Alan Greenspan.

I think it's clear, on pragmatic historical evidence, that highly inequitable societies are unhappy societies, and also that industrial economies do poorly with large disparities between rich and poor. The most successful industrial economies moderate those disparities by law and custom. So there's a case to be made there. It is hard, however, to distinguish in law between wealth being put to some positive purpose and wealth simply for the sake of wealth. The USA used to be much more egalitarian, but that was a result of custom; when custom changed--as Krugman describes in the link on wealth concentration--there was nothing to constrain it. For historical reasons, it's going to be very, very, very hard to get support for laws to restrict management compensation in the USA.

[added on edit] One of the problems here is that most the people who remembered the Great Depression had left public life by 1980, so all the people who remembered how much the arguments in favor of the radical right sounded like things heard in 1925 were out of the picture. This coincided with the collapse of the US left. There were not enough people to stand up for egalitarianism--there still aren't. Obama was an instructor at the University of Chicago and his economic advisors come from the school's "moderate" wing, so unless his administration radicalizes--it may, conservative policies have failed--reformers are going to have a tough row to hoe.

[orawnzva.livejournal.com]

Well, we may be about to get us a fresh batch of people who remember the Great Depression...

[randwolf.livejournal.com]

It's Bernanke's field, did you know? Though Bernanke seems to be getting caught up in the administrations Corruptor Field™.

[judifilksign.livejournal.com]

I'm not really up on my Bible studies, but wasn't usary (predatory lending) considered, like, a sin? And Christians weren't supposed to do it? And now the religious right is going down in flames...?

(Said with tongue in cheek, and not nearly as seriously as it looks as I type it...)

[ndrosen.livejournal.com]

I could point to possible problems with your proposals -- just because people are upset with Wall Street, and even have reason to be, doesn't mean that regulations can't have unintended consequences -- but to understand what's going wrong in the 21st century, read a 19th century political economist named Henry George. His ideas have been disputed and largely ignored, but never, in most respects, shown to be in error.

One of the big problems -- not to deny that there are other factors -- is land speculation, as I explained briefly here (http://ndrosen.livejournal.com/171200.html). Georgists like Dr. Fred Foldvary (http://www.progress.org/2006/fold484.htm) and Fred Harrison have predicted the current trouble years in advance (http://www.progress.org/2008/predict.htm).

The solution -- not the complete solution to all problems, but the essential step -- is to raise taxes on land, while cutting other taxes, e.g., on buildings, incomes, sales, profits, imports, etc. Then we wouldn't have speculative bubbles in land prices, so we wouldn't have derivative bubbles in mortgages based on real estate, collateralized debt obligations based on mortgages, etc. Among other benefits, land value taxation would remove much of the fuel for the boom and bust cycle. Also, most valuable land is owned by the rich, so taxing land instead of wages would make the tax system much more progressive.

I've argued that Georgist theory makes falsifiable predictions (http://ndrosen.livejournal.com/106985.html), and that these predictions have not been falsified. (http://ndrosen.livejournal.com/107478.html)

If this is such a great idea, why is it little known today? Part of teh answer is that the robber barons who endowed colleges, and who possessed vast tracts of land, didn't want Georgism to succeed, so their tame economists tried to suppress it, partly by redefining economic terminology away from teh classical political-economic terms George used, as well as by other propaganda techniques. You can read about this in Professor Mason Gaffney's book, The Corruption of Economics; for a paranoid conspiracy theory, it has an astounding amount of evidence.

Clawback

[randwolf.livejournal.com]

"Under a so-called claw-back provision, the secretary would have the power to force companies to recoup previous payments to executives of companies involved in the program. And Mr. Frank’s plan would give broad authority for the Government Accountability Office, an investigative arm of Congress, to audit and oversee the program."--NYT article on Democratic response to Administration non-plan. So you're not the only one thinking those thoughts. Frank, however, is one of the few (two? three?) leftist Senators and, though powerful, may have trouble getting his proposal implemented.

[randwolf.livejournal.com]

"I've been an advocate of bankruptcy cram-downs for ages, so no argument there. What I really really like is the idea of subjecting CEOs to the same petty humiliation everyone else gets treated to. I suggest that for every separate asset these CEOs sell to the government, they be required to write a Hardship Letter over a 1010 warning (that's a reference to the statute forbidding lying in order to get a loan) explaining why they acquired or originated this asset to begin with, what's really wrong with it in detail, what they have learned from this experience, and what steps they are taking to make sure it never happens again. Furthermore, the Treasury Department will empanel a committee of the oldest, most traditional, and bitterest mortgage loan underwriters--preferably those downsized to make way for automated underwriting systems--to review these letters and opine on their acceptability." --Tanta, over at Calculated Risk.