The Economy in Freefall: Joseph Stiglitz Takes on the Perils of the Free Market

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Economics is the intercessor between math and behavior, the harmonics of movement through formula. It is the proprietary domain of markets and complex sociological phenomenon compacted into equations. Economics are also predictive, but when models cannot predict an economic freefall, then it necessitates their change.

It is a lucrative time, ironically, for economists, both for their books and their ideas. Venerated economic saints like John Keynes, Milton Friedman, and Paul Samuelson made sense of the world’s experiences, but economic models must also undergo drift and change. When the world searches for a new voice in the wilderness, there are inevitably the bad voices, the ignoble dalliances that can only speak of an uncertain future, and the ones that that have something to offer. Joseph Stiglitz is one of the good ones, and the strength of his latest book, Freefall, lies in the capacious and comprehensive view of the past and future manifestations of the world economy.

Markets are often referred to as an abstract force, or like the orderly balance of a natural system; everything is palliative in the long term. The natural order is eventually restored. But Stiglitz reminds us of their careful and delicate composition. Markets are, of course, constructed. The difference is not prosaic. One argument contends that the market, left to its own devices, is self-correcting. But Stiglitz advocates for the market’s necessary regulation where there exists flawed incentives and externalities which obscure the basic functionality of the system. These factors stifle competition and create a lack of information due to the opaqueness of transparency.

Proponents of regulation insist that it is necessary for the proper functionality of market forces (Stiglitz characterizes John Keynes as a man who wanted to save capitalism, rather than one who wanted to control it). Critics insist that regulation quells innovation and undermines the free market.

Yet deregulation, as Stiglitz argues, did not contribute to any beneficial innovations. The occlusion of outside forces helped Wall Street to perpetuate a growing bubble that placed the vices of short term gains before the prudent health of long term thinking, which was galvanized by unwarranted assumptions about real estate pricing, excessive risk and gambles against that risk, and the knowledge that any shock to the system would be so great that the government would bail the offenders out.

The 2-D, cartoon vilification of banks that some find so pernicious nevertheless persists throughout time and culture. John Steinbeck once called the banks “machines and masters all at the same time.” The Apartment made a subtle dig at those who willingly sacrifice their humanity on the altar of corporate structure. Faceless organizations, whether private or public, conform to the image of devils in our minds, but it’s important to remember that these institutions are in place because of the ultimate good that they bestow.

But institutions also tend to grow over time and assert themselves where they do not belong. The good that they do when they expand is frequently matched by the damage that they sow (I don’t know whether it’s to Matt Taibbi’s credit that he was only referring to Goldman Sachs when he called them the vampire squid on the face of humanity), which is the argument for necessity of regulations. The countervailing view that markets are self-regulating all on their own is dismantled by Stiglitz.

Of course, it is impossible to check his work unless one thoroughly understands economics, and perhaps some of his conclusions can be argued, but his power lies in the ability to make sense of the crisis and distill it into understandable terms. Books represent a one-man forum, an echo chamber of a single voice. However, it never feels like Stiglitz is being unfair or unaccommodating.

Stiglitz also makes frequent use of the term “corporate welfare”. Those at the top of the economy are buffeted by generous advantages that do not apply to those further on down, and when they eventually fall, there is a safety net to catch them. Like trapeze artists, they take enormous risks but reap all of the glory. Imagine betting billions of dollars that Philippe Petit would walk successfully between the Twin Towers, only if he falls there’s a rocket pack to prevent his demise, while you suffer the undignified losses. It is this double standard, Stiglitz argues, that has permeated all layers of unfettered American capitalism.

The words of so many politicians and bankers, many of whom have taken the economy hostage (“Do what we want, because what’s good for us is good for the economy”), sound so perverse to the common ear, and it is to Stiglitz’s credit that he illuminates these fallacies and explains why it is not necessary for the banks to hold so much power. In fact, the five largest banks that controlled 8 percent of the market share in 1995 now control 30 percent.

Bank bailouts offered clemency from their speculative actions and inevitably saved us from a depression. It’s the reason why this book is called Freefall and not Downfall. But it is the taxpayers who are burdened with the risk that comes with clemency. Stiglitz advocates restructuring the mortgages that are on their books, which would hurt the banks but absolve the public from having to bail them out. Of course, historically banks have had to undergo shakedowns, which are known as conservatorships, while the bank bailouts are a recent phenomenon born out of the “too big to fail” mantra.

It is that flawed response, from the Chairman of the Federal Reserve to the desk of the White House, that has contributed to policies that simply meant muddling through and playing it safe, which ironically created more risk for the future. Stiglitz even takes to task Obama, who seems to have a concise vision for everything except the economic downturn.

However, Stiglitz talks about what was necessary, not what was feasible. It is unfortunate that he does not spend more time discussing the political reality of the situation, in particular what could have been done with an atrophied Congress. The solutions that have been proposed, such as regulations on derivatives (whoever controls the derivatives controls the universe) and a tax on banks, have also been fought vigorously until they are watered down into irrelevance. The next time that someone writes a book called Freefall, it is my sincere hope that it is not about the US political system.