This past week President Obama gave a speech a few steps down my block on financial reform. During his talk, the President outlined a number of steps which, it is hoped, would prevent the country's economy from ever collapsing again. Many of the economic policies which the current administration has put into place seem to reflect a belief that with proper regulation, the economy will never again fall. Enough government intervention can end the series of up and down business cycles which have been prevalent throughout history.
This idea strikes me as fairly impractical for a number of reasons. I might be biased as I've just completed the book 'This Time is Different,' wherein the authors take a quantitative look at financial crisis on a government level for the last few hundred years. One of their major theories is that situations like the recent US economic decline have happened before (which they clearly demonstrate in their data) and will happen again. During each run-up to an economic crisis, people always believe that 'this time is different' and something will set them apart to prevent a downturn. Alas, during each crisis that belief is proven wrong. In the 2007-current crisis, people believed that the economy had been fixed and they were beyond a cyclical economy. Obviously they were wrong.
So, the question becomes: how come the government can 'fix' the economy now to prevent future downturns, but they never could before? I believe the simple answer is that they can not. Remember, the Federal Reserve was created by the Wilson administration to prevent downturns - the Great Depression proved it could not. The FDIC and SEC were just two examples of Roosevelt era organizations designed to prevent banking crisis' and asset price bubbles. It has been proven many times that they can not prevent those problems. If the US government has many times created new regulations, organizations and frameworks to control the business cycle, but failed - why would this time be any different.
The belief here is that the current government will create some new organizations to 'prevent' future economic problems. These agencies will likely be designed to prevent specific abuses and failures that caused the most recent economic downturn. However, two problems will ensue. First, these agencies will have a great deal of unintended consequences. Businesses will find some loophole or framework which will cause greater abuses or failures in the economic system. The second problem is that the new organizations will not prevent future cycles unless they are so overly regulating that they stifle all economic growth. Prior examples have shown that each time the government tries to control the economy, they fail. Their programs create a vast number of unintended new problems and are still unable to achieve their ultimate goal of a permanent upward economic trajectory.
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I don't doubt that either business cycles, or the human emotions that led to the current bust -- namely greed, and desire to live beyond one's means -- are here to stay.
ReplyDeleteHowever, I don't think it's fair to say we've already seen all the government has to offer for regulation via the current FDIC and SEC. While you point out those have been around since FDR, that haven't always functioned as intended (see: SEC in the 2000s). It would be interesting to see how things function if regulations and their enforcers actually worked. In hingsight of how things turned out the past few years, I think it's worth all our while to see if workable regulation can be implemented that serves both the people and the banks. It's in no ones interests to let the banks run themselves with no regulations-- neither the people, nor the banks when they inevitably bust.
Some form of regulation must be implemented. No, it won't prevent the next bust, but perhaps it can lessen or contain it. Simply continuing the same broken system as we have been operating doesn't seem a great solution to me.