Cross-posted from the Huffington Post.
Last week columnist David Brooks of the New York Times published an op-ed setting out two explanatory narratives of our current economic crisis, which he dubbed the “greed narrative” and the “stupidity narrative.” Brooks describes the greed narrative (as detailed in Simon Johnson’s Atlantic piece “The Quiet Coup”) as an explanation of how the growing political power of Wall Street enabled it to write its own rules with minimal governmental oversight or regulation. Brooks then describes the stupidity narrative as the story of the intellectual hubris of bankers who thought that statistical modeling and complex financial instruments allowed them to disregard systemic risk. After describing these two narratives, however, Brooks makes an inexplicable and bizarre move—insisting that we must choose either one narrative or the other, rather than benefitting from the insights of both. “[O]ne has to choose a guiding theory,” he asserts without explanation, before stating that he finds the stupidity narrative “more persuasive.” However, discarding the greed narrative in favor of the stupidity narrative is the old tale of the blind men and the elephant—a refusal to recognize that both trunk and tail are parts of the same animal.
Both greed and stupidity contributed to the crisis in which we find ourselves, and only a solution that addresses both aspects of the problem has any chance of fixing it. The greed narrative could also be called the political side of the story, while the stupidity narrative could be described as the economic side. The dichotomy between the two is false—it is precisely the political success of Wall Street in enacting its deregulatory agenda that enabled the financial stupidity of a relative few to have such disproportionate consequences—consequences that now threaten the global economy. Indeed, Johnson lists the accumulating political successes won by Wall Street in recent decades that, in hindsight, allowed relatively minor errors in financial judgment to wreak such catastrophic harm: the insistence on free movement of capital across borders; the repeal of Depression-era regulations separating commercial and investment banking; a congressional ban on the regulation of credit-default swaps; major increases in the amount of leverage allowed to investment banks; a minimal SEC role in regulatory enforcement; an international agreement to allow banks to measure their own degree of risk; and an intentional failure to update regulations so as to keep up with the tremendous pace of financial innovation.
A crucial function of government is to protect us from the consequences of the stupid decisions of other people—we should not have to worry that a nuclear power plant operator will decide that certain safety precautions simply aren’t profitable or necessary. In the nuclear example, were the government to succumb to industry pressure and repeal certain safety regulations on nuclear plants, any resulting accident would be the result of policy as well as stupidity. In other economic sectors, regulations exist to prevent the profit-maximizing incentives of various industries from creating unacceptable levels of public risk. That such safeguards were systematically dismantled across the financial services industry demonstrates the power of crony capitalism to create a regulation-free zone in which stupidity could flourish.
The reasons for Brooks’ unexplained dismissal of the political causes of the current economic crisis become clearer as we come to the policy conclusions of his piece. As a free-market conservative, he wants to argue that only minimal regulation is necessary to fix the current situation, and he seems to fear that recognizing the systemic, political causes of the crisis will justify more aggressive intrusion into the financial sector than he is willing to support. However, although Brooks advocates making banks “more transparent, straightforward and comprehensible” in the short term, in a longer view, the profit-maximizing incentives of banks and bankers will always lead them into complexity and opacity. Banks and bankers have every reason to continue with their practices of brinksmanship—to create the new financial instrument, to make the new market that will give them an edge over their competitors. There is nothing wrong with such behavior, so long as sufficiently robust oversight prevents financiers from imposing unacceptable risks on other people’s pensions and 401(k) plans. Only a political system that is not captive to the financial services industry can guarantee such safeguards.
In a democracy, we have put our faith in the prediction that the free market of ideas—in which policy proposals are assessed on their own merits, rather than according to the financial influence of their proponents—will prevent stupid policies from gaining ascendance in the political sphere, just as a free-market economy should prevent stupid economic decisions from surviving in the economic sphere. Crony capitalism creates distortions in both the market of ideas and—as influence is enacted into policy—in the market economy. In both politics and finance, such an oligarchical distortion will prevent the best ideas from being disseminated and properly valued, and will allow bad ideas to prevail irrespective of their policy or economic merit. Short-term fixes will do nothing to prevent this year’s crisis from recurring unless we also address the systematic influences that make governmental officials beholden to monied interests rather than to their own constituents. If government officials are in the pocket of Wall Street, how can we expect them to identify and defuse problems before they turn into catastrophes?