Well, three weeks into the Obama administration and we are getting a real lesson in the two major alternative approaches to macroeconomic analysis that exist within the profession of economics today. The first approach, generally favored by those supporting President Obama, is Keynesian in nature. The second approach, generally favored by those not supporting President Obama, but not necessarily Conservative in their leanings, nor do these people necessarily believe that they are of the Republican Party, tend to work with a different model of the macroeconomy.
The Keynesian approach, developed in the post-World War I era, contends there is a problem in how the macroeconomy works itself out if there is insufficient demand coming from the private sector. This initiating factor in this model is that business expectations about the future drop off considerably…there is a decline in “animal spirits”…and as a consequence investment expenditures collapse. The normal response to this when the economy has not fallen apart is to have the monetary authorities lower interest rates and this action will stimulate investment demand and re-charge the economy.
The problem with this is that when “animal spirits” really collapse and there seems to be a cumulative downward movement in the economy, the monetary authorities cannot stimulate business investment expenditures so that the central bank cannot stop and reverse the downward spiral. Keynes suggested that in such situations the only possible vehicle to stop the cumulative collapse is for the government to come into the picture and substitute government expenditures for the business expenditures that have gone away.
The government can either finance these expenditures by printing money or issuing debt. The idea here is that this spending, even if financed by printing money, will not have an impact on prices (inflation) because of the un-used resources in the economy. That is, the government expenditures will just pick up the slack in demand and then through the multiplier effect created by increasing incomes and consumption expenditures, aggregate economic activity will pick up.
The major question here is about the size of the multiplier. There is much speculation on this, but the figure most people feel that people in the Obama administration are using is 1.5. That is, if the stimulus bill totals about $850 billion, then the total impact on the economy of this program will be $1.275 trillion…a hefty boost to aggregate economic activity.
There are several attacks on this way of thinking that lead us into the conclusions presented by the second approach under review. The first one is that the Keynesian approach, as described above, does not take into account that Keynes constructed his model in a period in which international capital flows were severely limit. Thus, what was done in a sovereign country generally stayed in that country.
The international financial system broke down during World War I…this was the old gold standard system. Keynes fought hard at the Paris Peace Conference which followed the war for fixed currency exchange rates between countries and limited international flows of capital. One of the things that Keynes was most worried about was the Russian Revolution and the spread of the ideas connected with the uprising of the workers and the leadership of the Proletariat. This seemed to be a worldwide concern that lasted in the mid-thirties. The worst fears of many, many people were that economic collapse or depression would result in a movement in which the workers took over.
Economic nationalism was designed to prevent such an occurrence. Fixed exchange rates, restricted international capital flows, and protective tariffs were designed to achieve this result. This was why Keynes wanted countries to be independent of one another so that those that wanted to could follow they own stimulus program without having to worry about currency depreciation or an international loss of capital. His stimulus programs were designed to work in such a country.
This is not the world that we find ourselves…we have floating exchange rates…we have relatively open world capital markets and a free flow of capital to almost anywhere…and in recent years there has been great efforts to promote and expand free trade. The government expenditures promoted by those that support the Keynesian approach have not accounted for the difference between the construction of the world in the 1930s and the construction of the world in the 2000s. The modern argument is that the spending of the government will just be dissipated through open world markets and capital flows and will not be able to achieve the level of stimulus they hope for.
Furthermore, the Keynesian effort will just increase…by substantial amounts…the amount of debt that exists within the world. As I have reported in recent posts, Niall Ferguson has claimed that the proposals of these “born-again” Keynesians are treating a situation where too much debt exists by adding on major amounts of new debt. Or, in other words these proposals are attempting to solve the problem of too much leverage in the system by adding on more leverage. Ferguson, as reported, does not believe that this will work.
In terms of the alternative economic model we find two major editorials published in recent days that lay out some of the concerns of this other school of thought. These are the articles by Robert Barro, “Government Spending is No Free Lunch,” WSJ on January 22, 2009, (http://online.wsj.com/article/SB123258618204604599.html), and Gary Becker and Kevin Murphy, “There’s No Stimulus Free Lunch,” WSJ on February 10, 2009, (http://online.wsj.com/article/SB123423402552366409.html?mod=todays_us_opinion). They are not too optimistic that the Obama stimulus plan will be very effective.
This school of thought emphasizes more the supply side of the economy and is concerned that the appropriate incentives are set up. For one, both articles contend that the multiplier is substantially below 1.0…I have used 0.4 in my writing. If the multiplier is 0.4 then the $850 billion in government spending will only produce approximately $340 billion in additional output…not much bang for the buck. The reason why is that the spending part of the program will draw resources away from other, private spending so there will not be the add-on effect, but a substitution effect in which resources that would have been used in other areas of the economy are now drawn to these areas. In terms of tax cuts, they argue that the way the tax cuts are structured the additional funds available to consumers will go into savings or a “rainy day” fund to protect against future economic difficulties. Thus, in neither effort is the government getting much for its spending.
In terms of the “right” incentives, Barro would like to see a reduction or elimination of the corporate income tax. In this way Barro believes that the incentives would be right for businesses to spend and put resources to work for they would be getting that extra boost from the lower or non-existent tax rates. In this way the supply side of the economy is stimulated…which Barro contends will be much more effective than the spending and tax-reduction programs that have been proposed.
The differences are great and they are now starting to get full exposure. We will talk more about these in the future.
Tuesday, February 10, 2009
Saturday, February 7, 2009
Government and "Economic Shocks"
Elected officials, in general, have two fundamental incentives; the first is to get elected or re-elected; and the second is to do some good. The first is very straightforward and easily understandable. The second…well, the second creates a question…do some good…for whom? Generally, this question can be answered by saying that “for whom?” refers to people that will elect the officials…or will re-elect them.
Elected officials are often asked to behave in ways that reflect the common good…that ignore total self-interest. But, the very cynical argue that you can count on one hand the number of times that an elected official acted in ways that were solely for the good of all and did not reflect just self-interest. Others would argue that the number is larger than that…but to understand the elected official you must not ignore the fact that his or her position depends upon them acting in their own self-interest.
If a subset of the electorate elects an official, they do so on the expectation that the official will represent them and support their interests. If the official does not represent the subset’s interest to the degree that they expect the official to…then they have incentive to support another candidate. So, elected officials really only have one incentive in running for office…to get elected or to get re-elected.
The point here is that elected officials may have incentives that are different from the incentives that exist within the economic system. For example, if economic growth is slowing down…elected officials or those appointed by elected officials may have an incentive to stimulate the economy and increase employment if an election is near at hand. If elected officials or those appointed by elected officials express concern that the stock market may collapse, they may try and keep interest rates extremely low in order to avoid a stock market correction or a readjustment to a more realistic level. If elected officials or those appointed by elected officials believe that every American…or almost every American…should own a home, they will create and support programs that encourage such a result.
Every one of these efforts…and many more like them…can be traced back to efforts to get elected officials re-elected…and they are all aimed at a “good” thing…or a “good” cause. No one can disagree with the basic attempt by the elected officials or those appointed people.
Each of these efforts, however, is what the economist would call a “shock” to the economic system. Each of these efforts represents a response to a different set of incentives than those that exist within the functioning of markets and relationships in the economic system, itself. Economic models attempt to separate out the different factors that are at work within an economic system. Factors that do not respond to the regular incentives that exist within the economic system are called “exogenous” variables and changes in these variables are introduced independently of the system. Other variables that respond to the incentives that exist within the system, both those created by other non-exogenous variables as well as to the incentives created by the exogenous variables are called “endogenous” variables.
The importance of this distinction is that many of the “shocks” that an economic system receives is of the “exogenous” variety and are introduced into the economy for reasons other than allowing the economic system to work out all the incentives and dis-incentives that currently exist. In effect, these “exogenous” shocks are often aimed at preventing the economic system to work itself out in the direction it is going. And, as stated above, many of these interventions are for the “good” of the economy or for the “good” of, at least, some of the people in the economy.
The fact of the matter is that we don’t really have good theory to examine how these “exogenous” shocks come about. If we did, obviously, then they could be incorporated into the economic model and would become “endogenous” variables. Therefore, these “exogenous” shocks…government decisions…must stay exogenous and be introduced as they happen or are expected to happen.
Economics is a study of human behavior. Therefore, the predictions that come from economic models are going to be highly imprecise. Economic models are all incomplete and fallible. We just can’t do better than that when dealing with human behavior. Some situations lend themselves to more consistent behavior that allow for the making of better predictions…but other situations…like government decision making…are not systematic and so are almost impossible to model. And, we are finding out through the research in areas such as behavioral economics and behavioral finance that some situations that were, in the past, assumed to be fairly regular, are not that regular and need to be modeled with much less confidence about the accuracy of their predictions.
The name of John Maynard Keynes has surfaced a lot these days…and I am going to refer back to something that he wrote that, I believe, pertains to this very issue. In his commentary of the great economist Alfred Marshall after the great man died, Keynes discusses what makes an exceptional economist. In terms of Marshall, Keynes remarked that he was very learned in history. And then Keynes followed up on this by saying that anyone that wanted to be a top level economist needed to incorporate history into his or her explanation of how things worked. And, Keynes did not mean by history, incorporating a huge amount of statistical data into the model building process. Keynes was referring to the need to understand specific individuals and how those individuals made decision…how they were affected by their time…and how they were affected by their own experience and upbringing. He concluded that good economics required a good knowledge of history and biography…not something that is often taught in Ph. D. programs in economics or finance.
The point of this post is that in the policy making issues that government has to deal with we cannot just rely on assumptions of completely self-correcting free market economic systems where the incentives generated within the system are sufficient to work themselves out in a deterministic fashion. These systems will be continuously impacted by “exogenous” shocks that will bump the system one way or another, preventing the system from working itself out into a “new equilibrium” where everything is OK. These systems…for better or for worse…will be buffeted by these “exogenous” shocks and this will mean that we, in order to understand what is happening or what has happened, will need to introduce history and biography into the analysis we are going through. That is…economics cannot stand alone and provide all the answers.
This leads us into the position that we can…and must…look for bumps and shifts in the economy that are caused by governmental interference…usually with good intentions…and see how the government changes incentives…and how these changed incentives can divert the economy from one path onto another.
A good example of this comes in situations that create what economists call “moral hazard”…actions that lead people to do perverse things that they would not do under other circumstances. For example, people have to take risks in what they do…starting a business, buying a home, investing in securities, and so on. If a situation arises in which the people that have done one or more of these things get into dire straights…that is, they may face foreclosure or bankruptcy…elected officials can decide…for good reason…to protect them in some way. This presents a situation of “moral hazard” because those people that get protected may, in the future, decide to take on even higher levels of risk and make the economic or financial system more fragile. One can applaud of condemn actions that create “moral hazard” but it is a judgment decision. The elected officials must make a decision relating to the trade off between avoiding a bad situation now…protecting the people who have gotten in trouble…versus not protecting the people now and facing a economic or financial catastrophe. Where you set the tradeoff is a personal decision.
Elected officials are often asked to behave in ways that reflect the common good…that ignore total self-interest. But, the very cynical argue that you can count on one hand the number of times that an elected official acted in ways that were solely for the good of all and did not reflect just self-interest. Others would argue that the number is larger than that…but to understand the elected official you must not ignore the fact that his or her position depends upon them acting in their own self-interest.
If a subset of the electorate elects an official, they do so on the expectation that the official will represent them and support their interests. If the official does not represent the subset’s interest to the degree that they expect the official to…then they have incentive to support another candidate. So, elected officials really only have one incentive in running for office…to get elected or to get re-elected.
The point here is that elected officials may have incentives that are different from the incentives that exist within the economic system. For example, if economic growth is slowing down…elected officials or those appointed by elected officials may have an incentive to stimulate the economy and increase employment if an election is near at hand. If elected officials or those appointed by elected officials express concern that the stock market may collapse, they may try and keep interest rates extremely low in order to avoid a stock market correction or a readjustment to a more realistic level. If elected officials or those appointed by elected officials believe that every American…or almost every American…should own a home, they will create and support programs that encourage such a result.
Every one of these efforts…and many more like them…can be traced back to efforts to get elected officials re-elected…and they are all aimed at a “good” thing…or a “good” cause. No one can disagree with the basic attempt by the elected officials or those appointed people.
Each of these efforts, however, is what the economist would call a “shock” to the economic system. Each of these efforts represents a response to a different set of incentives than those that exist within the functioning of markets and relationships in the economic system, itself. Economic models attempt to separate out the different factors that are at work within an economic system. Factors that do not respond to the regular incentives that exist within the economic system are called “exogenous” variables and changes in these variables are introduced independently of the system. Other variables that respond to the incentives that exist within the system, both those created by other non-exogenous variables as well as to the incentives created by the exogenous variables are called “endogenous” variables.
The importance of this distinction is that many of the “shocks” that an economic system receives is of the “exogenous” variety and are introduced into the economy for reasons other than allowing the economic system to work out all the incentives and dis-incentives that currently exist. In effect, these “exogenous” shocks are often aimed at preventing the economic system to work itself out in the direction it is going. And, as stated above, many of these interventions are for the “good” of the economy or for the “good” of, at least, some of the people in the economy.
The fact of the matter is that we don’t really have good theory to examine how these “exogenous” shocks come about. If we did, obviously, then they could be incorporated into the economic model and would become “endogenous” variables. Therefore, these “exogenous” shocks…government decisions…must stay exogenous and be introduced as they happen or are expected to happen.
Economics is a study of human behavior. Therefore, the predictions that come from economic models are going to be highly imprecise. Economic models are all incomplete and fallible. We just can’t do better than that when dealing with human behavior. Some situations lend themselves to more consistent behavior that allow for the making of better predictions…but other situations…like government decision making…are not systematic and so are almost impossible to model. And, we are finding out through the research in areas such as behavioral economics and behavioral finance that some situations that were, in the past, assumed to be fairly regular, are not that regular and need to be modeled with much less confidence about the accuracy of their predictions.
The name of John Maynard Keynes has surfaced a lot these days…and I am going to refer back to something that he wrote that, I believe, pertains to this very issue. In his commentary of the great economist Alfred Marshall after the great man died, Keynes discusses what makes an exceptional economist. In terms of Marshall, Keynes remarked that he was very learned in history. And then Keynes followed up on this by saying that anyone that wanted to be a top level economist needed to incorporate history into his or her explanation of how things worked. And, Keynes did not mean by history, incorporating a huge amount of statistical data into the model building process. Keynes was referring to the need to understand specific individuals and how those individuals made decision…how they were affected by their time…and how they were affected by their own experience and upbringing. He concluded that good economics required a good knowledge of history and biography…not something that is often taught in Ph. D. programs in economics or finance.
The point of this post is that in the policy making issues that government has to deal with we cannot just rely on assumptions of completely self-correcting free market economic systems where the incentives generated within the system are sufficient to work themselves out in a deterministic fashion. These systems will be continuously impacted by “exogenous” shocks that will bump the system one way or another, preventing the system from working itself out into a “new equilibrium” where everything is OK. These systems…for better or for worse…will be buffeted by these “exogenous” shocks and this will mean that we, in order to understand what is happening or what has happened, will need to introduce history and biography into the analysis we are going through. That is…economics cannot stand alone and provide all the answers.
This leads us into the position that we can…and must…look for bumps and shifts in the economy that are caused by governmental interference…usually with good intentions…and see how the government changes incentives…and how these changed incentives can divert the economy from one path onto another.
A good example of this comes in situations that create what economists call “moral hazard”…actions that lead people to do perverse things that they would not do under other circumstances. For example, people have to take risks in what they do…starting a business, buying a home, investing in securities, and so on. If a situation arises in which the people that have done one or more of these things get into dire straights…that is, they may face foreclosure or bankruptcy…elected officials can decide…for good reason…to protect them in some way. This presents a situation of “moral hazard” because those people that get protected may, in the future, decide to take on even higher levels of risk and make the economic or financial system more fragile. One can applaud of condemn actions that create “moral hazard” but it is a judgment decision. The elected officials must make a decision relating to the trade off between avoiding a bad situation now…protecting the people who have gotten in trouble…versus not protecting the people now and facing a economic or financial catastrophe. Where you set the tradeoff is a personal decision.
Tuesday, February 3, 2009
Liberal Democracy
Liberal democracy has its benefits and it has its problems. One of the things the founders of the United States seemed to want to avoid was the creation of a democracy…instead they wanted to produce a republic. Why would this be the case?
A democracy, Webster’s tells us, is “rule of the majority.” A republic, Webster’s states, is “a government in which supreme power resides in a body of citizens entitled to vote and is exercised by elected officers and representatives responsible to the citizens and governing according to law.” In addition, a republic is “a government having a chief of state who is not a monarch.”
The difference in emphasis is dramatic…a democracy…the majority rules. In a republic…people govern who are representatives of the people…and are elected to use their own judgment. A democracy can also have an elected body, but the people serving in that government are expected to be conduits of the will of the people.
The founders and many other individuals of a “liberal” persuasion tended to shy away from the idea of a democracy because they equated democracy with a rule by the crowd or the mob. The thing that these people were concerned about is the tendency for the crowd to be moved by emotion and to swing first one way and then another. Representatives in a republic are responsible to bring with them their intelligence and experience and judgment…they are not expected to be swayed by the emotion of the moment or by this trend or that trend.
The problem that occurs when a republic becomes dominated by “public opinion” they begin to act more like a democracy. That is, they pay less attention to their own judgment and abdicate their responsibility to the “will of the moment.”
History has shown that incentives exist for politicians to extend the voting franchise whenever it is in their best interest to enlarge the number of people that are allowed to vote. We see this to be the case in England…Disraeli and Gladstone both increased the franchise to get them elected and serve their own purposes. We see that happening over-and-over again in the United States. The effort of the politicians is to play to the preferences of different “interest” groups and ride them into office and into power.
To discuss this in very modern terms, I refer once again to the recent work of Niall Ferguson, especially his latest book titled “The Ascent of Money.” There are two specific areas that I would like to focus on specifically in this post. The first area concerns how capitalism and, more specifically, the financial aspects of capitalism can create opportunities for politicians to build large constituencies that can help them attain office perhaps to the potential detriment of the health of the country. The second has to do with “housing” democracy, the idea that all…or at least the vast majority…of Americans should own their own home.
The first of these areas relates to the “bad press” that finance and financiers have gotten over time. Historically, finance and financiers have been depicted as parasites that prey on the “real” economic activities that are carried on by the rest of the society. Somehow these people attach themselves to what is really going on in an economy and “suck” the system for what it is worth. Essentially, what is being said about finance and financiers is that they are peripheral to the real work of the economy contributing little or nothing to the output produced real workers.
One of the things that Ferguson presents and stresses is that economic development requires that finance exist within an economy and without a financial system (private property and the rule of law) little enterprise, innovation, or expansion takes place. Finance brings resources, particularly financial resources, to where they can be the most productive in a society. Without this allocation function, societies tend to remain dormant…listless…poor.
With this said, Ferguson goes on to write that debtors have seldom felt well disposed toward creditors and the former has tended to outnumber the latter by a large amount. Because of this debtors have tended to get better coverage in the press and a wider audience for their complaints among intellectuals and people with particular political leanings. Politicians can count and are very aware that debtors outnumber creditors.
Furthermore, financial crises and scandals occur frequently enough to make finance appear to be a cause of poverty rather than prosperity, volatility rather than stability. That is, finance disrupts people’s lives…it seems to make things more difficult…it is identified with “cheats” and “frauds”. Again, the thing that seems to “stick” in people’s minds is the “bad stuff” and not the “good stuff” that comes from a well-functioning financial system.
There are two other factors that seem to permeate the image of the financier to “common” citizens. First, there are wide disparities in income and wealth distribution separating “financiers” from the rest of society. This doesn’t seem very democratic and fair…especially if these people are parasites. Second, for centuries, financial services have been disproportionately provided by members of ethnic or religious minorities who have been excluded from other important positions in the society.
The point of this is that people that have or can have negative feelings about finance and those people that work in financial institutions. These negative feelings can be played upon by those that can gain from obtaining support from these large numbers of people. That is, politicians and others can play on the emotions of the discontented, the dislocated, and the disenfranchised. In this way they can play down or tarnish the image of the good that comes from the financial system.
The other topic I wanted to emphasize is what has been titled “housing” democracy…the concept that all…or, at least, most…Americans should own their own home. This move started in the 1930s as laws and institutions were created to make it easier for people to own their own home. This effort increased after the close of World War II and gathered speed in the 1960s with the “Great Society” and did not slow down into the Nixon years.
I remember working on something called a mortgage backed security during the time I was in the Washington, D. C. in the 1971-72 period. The rationale, as least the one I heard, for this effort was to help get Republicans re-elected to Congress as well as to bring more Republicans into government. How could this happen? Well, if we could get thrift institutions, the primary organizations that originated mortgages, to package their mortgages and sell them to other financial institutions, like insurance companies and pension funds that purchased long term assets, then the thrift institutions could go out and originate more mortgages. More people could own their own homes…and since the Republicans created this process…the voters would reward them by electing or re-electing them to public office.
During the rest of the century this idea was not lost on either Republicans or Democrats. Basically, this effort became a part of the American dream…the creation of everyone owning their own home. So, financial innovation built on financial innovation…and these innovations were constantly celebrated. As a consequence, mortgage-related securities are the most prominent financial asset in the world in terms of outstanding amounts. And, this promotion of “housing” democracy has brought us to the brink of financial collapse…or worse. But, it reportedly got a lot of happy homeowners to vote.
If these politicians have pushed America…and other countries…into more and more of a democratic mode…the question is…has this been helpful? Has this made things better off or worse off? Another question follows…if this process of “democratization” has actually taken place and has not been the most beneficial approach to the health and welfare of the country…what can be done to counteract it? This last point will be discussed in my next post.
A democracy, Webster’s tells us, is “rule of the majority.” A republic, Webster’s states, is “a government in which supreme power resides in a body of citizens entitled to vote and is exercised by elected officers and representatives responsible to the citizens and governing according to law.” In addition, a republic is “a government having a chief of state who is not a monarch.”
The difference in emphasis is dramatic…a democracy…the majority rules. In a republic…people govern who are representatives of the people…and are elected to use their own judgment. A democracy can also have an elected body, but the people serving in that government are expected to be conduits of the will of the people.
The founders and many other individuals of a “liberal” persuasion tended to shy away from the idea of a democracy because they equated democracy with a rule by the crowd or the mob. The thing that these people were concerned about is the tendency for the crowd to be moved by emotion and to swing first one way and then another. Representatives in a republic are responsible to bring with them their intelligence and experience and judgment…they are not expected to be swayed by the emotion of the moment or by this trend or that trend.
The problem that occurs when a republic becomes dominated by “public opinion” they begin to act more like a democracy. That is, they pay less attention to their own judgment and abdicate their responsibility to the “will of the moment.”
History has shown that incentives exist for politicians to extend the voting franchise whenever it is in their best interest to enlarge the number of people that are allowed to vote. We see this to be the case in England…Disraeli and Gladstone both increased the franchise to get them elected and serve their own purposes. We see that happening over-and-over again in the United States. The effort of the politicians is to play to the preferences of different “interest” groups and ride them into office and into power.
To discuss this in very modern terms, I refer once again to the recent work of Niall Ferguson, especially his latest book titled “The Ascent of Money.” There are two specific areas that I would like to focus on specifically in this post. The first area concerns how capitalism and, more specifically, the financial aspects of capitalism can create opportunities for politicians to build large constituencies that can help them attain office perhaps to the potential detriment of the health of the country. The second has to do with “housing” democracy, the idea that all…or at least the vast majority…of Americans should own their own home.
The first of these areas relates to the “bad press” that finance and financiers have gotten over time. Historically, finance and financiers have been depicted as parasites that prey on the “real” economic activities that are carried on by the rest of the society. Somehow these people attach themselves to what is really going on in an economy and “suck” the system for what it is worth. Essentially, what is being said about finance and financiers is that they are peripheral to the real work of the economy contributing little or nothing to the output produced real workers.
One of the things that Ferguson presents and stresses is that economic development requires that finance exist within an economy and without a financial system (private property and the rule of law) little enterprise, innovation, or expansion takes place. Finance brings resources, particularly financial resources, to where they can be the most productive in a society. Without this allocation function, societies tend to remain dormant…listless…poor.
With this said, Ferguson goes on to write that debtors have seldom felt well disposed toward creditors and the former has tended to outnumber the latter by a large amount. Because of this debtors have tended to get better coverage in the press and a wider audience for their complaints among intellectuals and people with particular political leanings. Politicians can count and are very aware that debtors outnumber creditors.
Furthermore, financial crises and scandals occur frequently enough to make finance appear to be a cause of poverty rather than prosperity, volatility rather than stability. That is, finance disrupts people’s lives…it seems to make things more difficult…it is identified with “cheats” and “frauds”. Again, the thing that seems to “stick” in people’s minds is the “bad stuff” and not the “good stuff” that comes from a well-functioning financial system.
There are two other factors that seem to permeate the image of the financier to “common” citizens. First, there are wide disparities in income and wealth distribution separating “financiers” from the rest of society. This doesn’t seem very democratic and fair…especially if these people are parasites. Second, for centuries, financial services have been disproportionately provided by members of ethnic or religious minorities who have been excluded from other important positions in the society.
The point of this is that people that have or can have negative feelings about finance and those people that work in financial institutions. These negative feelings can be played upon by those that can gain from obtaining support from these large numbers of people. That is, politicians and others can play on the emotions of the discontented, the dislocated, and the disenfranchised. In this way they can play down or tarnish the image of the good that comes from the financial system.
The other topic I wanted to emphasize is what has been titled “housing” democracy…the concept that all…or, at least, most…Americans should own their own home. This move started in the 1930s as laws and institutions were created to make it easier for people to own their own home. This effort increased after the close of World War II and gathered speed in the 1960s with the “Great Society” and did not slow down into the Nixon years.
I remember working on something called a mortgage backed security during the time I was in the Washington, D. C. in the 1971-72 period. The rationale, as least the one I heard, for this effort was to help get Republicans re-elected to Congress as well as to bring more Republicans into government. How could this happen? Well, if we could get thrift institutions, the primary organizations that originated mortgages, to package their mortgages and sell them to other financial institutions, like insurance companies and pension funds that purchased long term assets, then the thrift institutions could go out and originate more mortgages. More people could own their own homes…and since the Republicans created this process…the voters would reward them by electing or re-electing them to public office.
During the rest of the century this idea was not lost on either Republicans or Democrats. Basically, this effort became a part of the American dream…the creation of everyone owning their own home. So, financial innovation built on financial innovation…and these innovations were constantly celebrated. As a consequence, mortgage-related securities are the most prominent financial asset in the world in terms of outstanding amounts. And, this promotion of “housing” democracy has brought us to the brink of financial collapse…or worse. But, it reportedly got a lot of happy homeowners to vote.
If these politicians have pushed America…and other countries…into more and more of a democratic mode…the question is…has this been helpful? Has this made things better off or worse off? Another question follows…if this process of “democratization” has actually taken place and has not been the most beneficial approach to the health and welfare of the country…what can be done to counteract it? This last point will be discussed in my next post.
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