… this post has the potential to dramatically change my mind about a number of things. Its long but worth it.
In any case, I’ve never seen a better example of moving the conversation forward:
[T]here is now no time for tolerance of the three objections to this analysis [Feds are in effect controlling the risky rate of interest as they do the risk-free rate] and this plan of action [the “bailout”], roughly: (1) it’s immoral, (2) it’s unfair, and (3) it can’t work in the long run. To expand a bit:
1. It’s immoral because people have a right to be treated like adults–which means that they have a right not to be rescued by the government from the consequences of their bad judgment, and we are violating that right.
2. It’s unfair because feckless greedy financiers who caused the problem ought to lose money and aren’t–or aren’t losing enough money–and because feckless greedy imprudent thriftless borrowers who caused the problem ought to lose money and aren’t–or aren’t losing enough money.
3. It won’t work–at least not in the long run.
I dismiss objection (1). It is made, mostly, by those who speak for the Princes of Wall Street. Note that the Princes of Wall Street themselves are not opposed to what the Federal Reserve and the Treasury and the congress doing–anything, anything at all that promises to raise asset prices is something that each of the Princes of Wall Street would trade at least one of their organs of generation for. But those who speak for the Princes of Wall Street–well, they really believed that the Princes earned their fortunes by virtue of their virtue–their intelligence, their nerve, their skill, and their willingness to run great risks for great rewards. The idea that there is a public safety net to catch the Princes when they all fall off the tightrope at once–that they are not actually rugged Randite individualists running great risks–that they are people in the right place at the right time with enough low animal cunning to cover themselves with glue and then step outside at 57th and Park or on Canary Wharf as the money blows by so that a bunch of the money sticks to them–well, this strikes those who speak for the Princes of Wall Street on the editorial page of the Wall Street Journal or in Investors’ Business Daily as a betrayal of the moral order.
The response to objection (1) is that the people who make it need to grow up. There is no more a John Galt or a Jane Galt than there is a Santa Clause. There are no Randites in a financial crisis–or no even quarter-sane Randites. The fact that there is a safety net in a financial crisis is something that has been obvious to everything with a spinal column for at least a century and a half–that’s what central banks are for, for Jeebus’s sake! The Princes of Wall Street did not earn their fortunes by virtue of their virtue, their intelligence, their nerve, their skill, and their willingness to run great risks, et cetera, et cetera, low animal cunning, glue, money sticks as it blows by.
The response to objection (2) is “tough.” Yes, it is important to design the elements of the rescue package in such a way as to give as few windfalls as possible to the undeserving feckless, greedy, imprudent, thriftless, et cetera. We will do what we can within the law to make sure as few gains ill-gotten survive going forward. But as Federal Reserve vice chair Don Kohn says, it is bad public policy to hold the jobs of tens of millions hostage in an attempt to teach a few feckless financiers (or even somewhat more thriftless borrowers) even a much-deserved lesson.
The response to objection (3) is that it was first made by Karl Marx at the end of the 1840s: that the problem is not overspeculation but rather overproduction, and cannot for long be solved by paliatives that address overspeculation only:
Karl Marx and Friedrich Engels: Neue Rheinische Zeitung Revue (1850): Speculation regularly occurs in periods when overproduction is already in full swing. It provides overproduction with temporary market outlets… but then precipitating the outbreak of the crisis and increasing its force…. What appears to the superficial observer to be the cause of the crisis is not overproduction but excess speculation, but this is itself only a symptom of overproduction. The subsequent disruption of production does not appear as a consequence of its own previous exuberance but merely as a setback caused by the collapse of speculation…
Marx was wrong then–the business cycles of the 1850s were not the harbingers of a world-wide communist revolution and not the expression of the dialectical contradictions of capitalism. “Overproduction” does not necessitate a crash. “Overproduction” simply means that the economy has built a lot of capital, and that a bunch of that capital is not going to be worth what the rich people who invested in it had hoped, and in the aftermath the economy’s real interest rate will be low. Big whoop–a low long-term real interest rate. All historical evidence suggests that stage III policies can work. And that avoiding them definitely for reasons of ideological purity does not work.
Wow. Arguing to abolish the Fed is crazy talk, no? If it is and so we admit the world is not first-best and a central planner must control a price (the risk-free interest rate), what theorem or moral principle tells us they shouldn’t control two? In my dazed thinking sitting in my brothers apartment 10 blocks north of Wall Street six hours before the market opens, all I can fall back on are slippery slope arguments… if two prices, why not three? ten? hundreds? all prices?
We know central control of all or most prices is bad, bad, bad, but does it follow that control of two (but, of course, not the one) is bad too? Notsneaky wants to know what the most important unsolved problems in economics are. The proper size of government gets my vote.
There needs to be a well-considered response to Prof. Delong’s post (or at least this section of the post). I’m just simply not up to the task. Let this just serve notice of excess demand for such a response.