There's an interesting effort to paint those of us who believe in market-based economics who aren't of the laissez-faire, Chicago, Randian, Friedmanite school of thought as claiming there's a new paradigm in economics. Bonddad, for example, begins and concludes his diary this morning thusly
The most common argument made against people who see a recovery emerging is that we are in the middle of uncharted waters where the traditional rules of economic analysis don't apply.
snip
To boil this down, there is no black swan. The black swan will sell a lot of books. The black swan will get you personal TV appearances. The black swan is not backed up by the facts.
What I find interesting about this approach to framing the issues before us is that that's not what we believe; it's a strawman position. What we actually believe is not that the economics is different, but, rather, that the political response to the economics is different.
After all, that's why we talk about economics at Daily Kos, for its political implications. That's why those of us who aren't economists or investment bankers or real estate agents or prosecutors care about what's going on in these areas; they affect our government, and our government affects them.
So to offer a different perspective, here's how I'd tell the story.
This chapter of the adventure of our country starts with the end of the Clinton Administration. This helpfully avoids the crutch of simply blaming everything on Bush, spreading out the story over bipartisan occupants of the White House. At the end of the Clinton presidency, American stock markets finished up a massive bull run. Technology company stocks in particular peaked and then headed downhill. The policy response to this, across two different Administrations from two different political parties, was relatively similar.
We let markets determine which companies should fail. Losses were allocated among shareholders, management, employees, creditors, consumers, and other private stakeholders. There was some economic pain. Those of us who believe in a larger safety net and more comprehensive regulation advocated for such, those who believe in less advocated for such. Nothing substantially new occurred, policy wise.
Then, the mass of accounting and securities fraud broke so widely that even the most well-connected firms, like Enron, couldn't hide it anymore. Even with a long-time personal friend in the White House, Enron, a massive company, ultimately wound up in bankruptcy court. That's how things work in a capitalist country. Government sets up mechanisms for determining what happens to companies that become insolvent. We call those mechanisms bankruptcy proceedings. Even long-time personal friends at the highest levels of power can't keep a company out of bankruptcy. For special industries that are super-duper important, we set up even more processes, like FDIC receivership.
Moving along in our story, we come to more recent times. Housing prices stop rising, then start falling. Financial companies that grew large in the deregulatory environment started having liquidity problems; they couldn't raise enough cash to pay off past debts they had assumed. All along the way, of course, smart, evidence-based commentators had been warning about problems in the system. Few in the political world listened. Some claimed the fundamentals were sound.
Then one day, Bear Stearns, a massively leveraged financial conglomerate, did an Enron. Except, it didn't. The Federal Reserve instituted a new policy of bailing it out, via loans and guarantees to have it merge with another large financial conglomerate. Except, it wasn't a policy per se, because then, Lehman Brothers, another massive financial conglomerate, did an Enron. And it actually did an Enron, declaring bankruptcy, a bankruptcy that was not handled well. Meanwhile, even more confusingly, the Fed was busy meeting with another massive financial conglomerate, Goldman Sachs, to decide whether to bail out AIG, another massive financial conglomerate. All of this happened as those who previously said everything was fine now declared a State of Emergency, that the World Was Ending.
This, in short, is the new paradigm. Not an economic one, but a political one. Its newness has two distinct qualities.
- Rather than being a policy, it's ad hoc, case-by-case analysis, rendering it difficult for people to predict what the rules are. Market-based economics hates uncertainty and lack of information.
- Rather than trusting private participants to decide what companies should survive and what companies should go through bankruptcy, it uses a handful of powerful people to make back-room deals largely in secret. This is the opposite of market-based economics.
What's the alternative, you might ask? Well, A New Way Forward has one set of suggestions. They're not too shabby. They started from three simple requests of a functioning capitalist system.
- Nationalization
- Reorganization
- Decentralization
That sounds a little too frou frou for you? Too simplistic? Too naive?
Well, then we can always flesh it out with 'experts'. Let's assemble a panel of, say, Dean Baker, Robert Kuttner, Paul Krugman, Joseph Stiglitz, Yves Smith, William Black, Elizabeth Warren, and Neil Barofksy. They combine a variety of different perspectives and talents (economics, investing, regulation, academia, consulting, prosecution, etc), with one key thing in common. None of them caused the financial crisis, exacerbated the financial crisis, or were asleep at the wheel during the financial crisis.
What we believe, in other words, is that there has been a fundamentally bad movement in our political economy from effective laws that apply universally to weak laws that apply haphazardly. Fortunately, policy is much easier to fix than the economy.
Let's simply take the trillions upon trillions of dollars that has been handed out via the Treasury, Fed, FDIC, HUD, and others, and allocate it differently. More social safety net programs, more government regulators, more direct investment in the real economy, more trustbusting, less corporate bailouts, less corporate welfare, and less 'too big to fail' building up incredible tail risk until it all blows up in taxpayers' faces.
Now, are people talking about black swans trying to sell books? Probably. That, after all, is a paradigm as old as books themselves.
Update: Thanks for the rescue. I thought I'd add a few links to book reviews about 'black swans'. Just some light reading for a summer evening.
The Misbehavior of Markets (Mandelbrot & Hudson), posted at Bear Cave.
Lecturing Birds on Flying (Triana), posted at Naked Capitalism.
The Black Swan (Taleb), posted at BusinessWeek.
Fooled By Randomness (Taleb), posted at The Simple Dollar.
The last review is a less favorable one to give a slightly different perspective from the first three. I think the start of the Naked Capitalism review sets the scene beautifully.
This is the Black Swan gospel according to Triana. Taleb endorses it in a characteristically incendiary and intemperate foreword. He does come out all guns blazing, and you just have to go with that. Or chuck a glass of water over him, if he’s in range, I suppose.
A quick recap for anyone who has spent the last two years in a coma: Taleb put together the beginnings of a rap sheet for modern mathematical finance theory in his book “The Black Swan”, and rapidly attained worldwide celebrity when his criticisms appeared to be borne out by the recent financial crisis. The main tenet of Black Swan theory, rather dry sounding, but with dramatic consequences, is that price changes are not normally distributed (in the way that, say, human weight or height are), but follow a power law (‘fat tails’). This implies much greater extremes of price movement than those predicted under the assumption of a normal distribution. The events that cause such price moves may be perfectly intelligible in hindsight, but are not necessarily predictable: like the existence of black swans.