Whoa; capitalism is like The Matrix, dude

Paul Raven @ 30-08-2010

The latest book in the wave of economics-for-the-layman texts, piggybacking on the global sense of “WTF just happened?” in the wake of the subprime collapse and its ripples, is 23 Things They Don’t Tell You About Capitalism from Cambridge economist Doctor Ha-Joon Chang, who apparently manages to play a currently popular theme (“free markets are bad”) with a less-popular counterpoint (“the welfare state should be expanded”) [via TheBigThink].

“It is like The Matrix. There is a reality where things could and should be better,” he said. “In order to wake people up to that alternative reality, you need to show them that it isn’t impossible. I’m not necessarily saying that I have a solution, but we have to recognise that some of the things we accept as inevitable aren’t.”

But while Dr Chang may not have the answer, he is sure of the problem – arguing that free-market capitalism has left the global economy more unstable, and people with less job security and greater feelings of insecurity, than ever before. His conviction that, post-recession, we should be rebuilding our country in a “moral” way – by acknowledging the social consequences of economic choices such as benefit cuts and job losses – will strike a chord with many.

“Another myth that needs to be busted is the idea that we can discuss economics without any moral implications,” he said. “What kind of economy we build changes us, so what we do in terms of monetary policy determines who we are.”

Kudos to any pundit honest enough to admit that they don’t have a silver bullet in the breech. I’m in close agreement with Chang’s thoughts about the morality of economic processes, though I take some issue with his rejection of free markets (which is, to be fair, hardly new to Chang). I’d agree that what are usually described as “free markets” are indeed broken (there’s too much evidence to ignore), but I remain to be convinced that those markets are truly “free” in any way that Adam Smith himself would have recognised. I’m no economics boffin, of course, and as such I’m not going to state with certainty that truly free markets would be the solution to all our economic woes… but I think it’s fair to say that regulation is never going to prevent disasters and abuses in a system wherein certain groups and individuals are given (or simply invent for themselves) ways of avoiding or circumventing such.

Like Chang, I don’t have a solution, but I suspect our best route forward is through the territory of transparency. Another thing that would help would be encouraging economic actors to be less trusting, but how that could be achieved is quite beyond me; the duplicitous and deceitful tactics of lending institutions prey on what appears to be a hardwired psychological blindspot whereby we privilege short-term advantage over long-term consequences. For example, would the global collapse still have happened if all the people who simply couldn’t afford the mortgages they were signed up to had looked rationally at their situation and never taken them on? Which is easier: to prevent institutions flogging dodgy deals, or to prevent people from signing a contract they don’t fully understand?

Easier said than done, of course: the rational actor is possibly the greatest myth of economic theory. But could the rational actor be nurtured? I think that perhaps you wouldn’t need to educate everyone in the intricacies of economic theory to achieve this; simply encouraging a pathological cynicism toward the deal that looks too good to be true might be enough (which recent events seem to have gone some small way toward accomplishing), and in a networked peer-to-peer society, more knowledgeable and trustworthy individuals would develop a reputation for reliable advice on complex financial issues. I’d certainly place more trust in a succession of recommendations and reviews from ordinary people more than in a diploma certificate and an expensive office…

… and it looks like my anarcho-utopianism is showing again*. I have no idea whether it would be possible to rationalise the economic thinking of everyday people (though I suspect that, if it were to occur, it would most likely occur as an emergent phenomenon in small local groups at first, possibly piggybacking on local currency movements and/or cooperative communities)… but I doubt it’s any more impossible than building a system of laws that’s big enough to encapsulate the world economy, yet devoid of the regulatory loopholes and protectionism that tend to push us into these periodic catastrophes.

Shorter version: the grass is so much greener on that side of the fence, but I have no idea how we should climb it.

[ * It’s awkward and frustrating, sometimes, being cynical enough to poke holes in one’s own underlying optimism about people. People call me a pessimist, but that’s not the case: if anything, I’m a pragmatic optimist. And so much for nomenclature. ]

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5 Responses to “Whoa; capitalism is like The Matrix, dude”

  1. tobias s buckell says:

    A recent data analysis showed that more rich and upper class people have defaulted on their mortgage loans than the supposed poor rabble who defaulted and are being blamed for the mess. They’ve actually done really well at trying to hold up their end of the bargain. I rather doubt transparency would have solved the mess. So far the only banking system that dodged the mess, Canada’s, did so by regulating the amount of leverage that a bank could use in its portfolio. That did the trick. I think, rational acting requires one to look at which banking ethos made for a sounder system, and requiring a bank to have a larger amount of its own assets backing a loan creates more rational actor on the part of the bank.

    I mean, if someone let me plunk down $10 and then gave me $130 to play with, it’d be pretty damn hard, rational or otherwise, to restrain myself from running off to play with the $130. Simple human nature.

  2. Apesofmath says:

    small point:
    Mortgages were just the capital market the financial industry in America decided to inject the next speculative bubble. The entire market of subprime mortgages in the US amounted to little over 1.4 trillion $US. Financial products were leveraged against those nearly 100 fold.

    There’s also an important psychological aspect to the subprime mortgage disaster. People with poor credit are used to lending institutions giving them the cold shoulder, and then all of a sudden banks are banging down their door begging them to buy that house. They claimed houses would never lose value, that this is an opportunity to make a load of cash for little or no work, and so on. There was pressure to buy on TV, in newspapers, from friends and family. I remember my parents begging me to buy a $200,000 home on a $35,000 salary (thankfully I passed up that “opportunity”). Everyone was whipped into a frenzy over the real estate boom. There have always been people who will take out loans they can’t pay back. That is not some new cultural phenomenon. It remains for the the bank to decide if their applicants are credit worthy. Banks didn’t do this. Wall Street supported this practice and made a short term killing. 100% of the blame rests with these parties. It’s no surprise that the blame is shifted to poor blacks. They’re outside the capitalist system, and if they caused this mess we’ve done nothing wrong. If financiers were to blame, the problem would be internal and we’d have to ask some hard questions about our economic system and culture at large.

  3. Your Obedient Serpent says:

    If you don’t understand something, you should get advice from experts.

    In the mortgage crisis, most of the alleged experts were saying that taking these convoluted mortgages was the smart, responsible thing to do. The ones who cautioned prudence were dismissed as alarmists.

    It’s like the medical community advising everyone to eat lots of red meat and hearty breakfasts with eggs and bacon, and then, twenty years down the road, blaming all their patients’ problems on their poor eating habits.

    “Hey, the human body is complicated; if you can’t understand how it works, you have no business having one.”

  4. Wintermute says:

    “in a networked peer-to-peer society, more knowledgeable and trustworthy individuals would develop a reputation for reliable advice on complex financial issues”

    Do you see the catch 22 here? A central ingredient in the global financial shitstorm was people relying on experts who had precisely developed a reputation for reliable advice, using such mathematical Wonders of the World as the gaussian copula and mean variants. In the short or even medium term, these experts appeared to know what they’re doing, even get on the front cover of the WSJ. But the reality is, a fraction of a percent of events, these high-sigma “Black Swan” events accounts for 80% of all gains and losses, and the expert’s “formulas” do not account for these. Daniel Kahneman, a pre-eminent Einstein of the psychology field who blew the lid off the Homo Economicus fallacy and introduced behavioral psychology has shown that people are almost terminally incapable of de-overvaluing recent data over past (timescale differentials), and resisting clinging to a map of the territory, even if it is the wrong one.

    So in short, education is necessary, but not sufficient. You should NOT be allowed to graduate high school unless you can tell whether a Wal Mart assistant manager making $30,000 can afford a $250,000 loan, and how to tell if a trend is a vicious bubble by looking at the increases in price vs wages, and percent of the bubble fueled by debt. But the financial instruments developed by the numerati were insanely complex derivative monstrosities to make Cthulu blush*. We’ve been collectively wealth-stripped and destabilized by these groundless, ephemeral finance-wraiths, and the need to be ghost-busted by regulation with teeth. Governments (or Batman or SOMEBODY) needs to put the smack down on the robber barrons who are paragliding off to the Caymans with their golden parachutes full of money stolen from us old-fashioned, goods-n-services providing productive members of society.

    (*Which our shiny new collective tendency to rely on computers to do our thinking for us had no small part in enabling.)

  5. Chad says:

    One major change that would solve the majority of the loan issues would be to only allow investment banks to be partnerships. This would mean the partners would be playing with their own money, not someone elses. They would be much more careful, which means it is unlikely they would have created the very very risky packaged loans.

    Concerning “free markets,” the one side needs to stop treating them like a religion and the other side needs to stop blaming them for everything.