The economic crisis is trying to tell us something (and we’re not listening)

Rob Bennett Contributor
Font Size:

Somebody’s been murdered.

An innocent man happened to be standing nearby when the dead body was discovered.

The police chief is feeling political heat to pin this thing on someone.

It’s bad in two ways if the innocent man is arrested. One, it is an obvious injustice to put him through such suffering. Two, the entire society is endangered if this happens. The killer is still loose!

Sometimes things happen that are so bad that we feel a need for quick closure. Giving in to that need can be a mistake. It’s important not just to address problems, but to address them properly.

Something went wrong with the banks. An economic crisis followed.

Liberals say that we should punish the bankers and add regulators.

Conservatives are not quite so anti-bank. But they are certainly not entirely pro-bank. Many conservatives opposed the bailout bills. The suggestion is that the banks caused the trouble, so we should not all be chipping in to help them out of the mess they brought on.

Is it possible that both of the two most common political takes are wrong? That’s what I think. Here are some words from Anatole Kaletsky that offer a very different perspective on things, one that I find offers a more satisfying explanation of a calamity so big as the breakdown of the global economy:

In the search for the ‘guilty men’ responsible for the collapse of the global economy, one obvious group has escaped blame: the economists…. It may be true that all bankers are greedy, all politicians venal, all regulators blind and all accountants stupid, But such personal failings do not explain their behavior in the past few years. After all, bankers do not like losing power. All these ‘guilty men’ behaved as they did because they thought it made sense. And why did these greedy bankers and stupid politicians hold beliefs that in hindsight seem so ludicrous and self-destructive?… What the ‘madmen in authority’ were hearing this time was the echo of a debate that consumed academic economists in the 1960s and 1970 – a debate won by the side whose theories turned out to be wrong. This debate was about the ‘efficiency’ of markets and the ‘rationality’ of the investors, consumers and businesses who inhabit them… So economics is on the verge of a paradigm shift. We are where astronomy was when Copernicus realized that the Earth revolves around the Sun. The academic economics of the past 20 years is comparable to pre-Copernican astronomy, with its mysterious heavenly cogs, epicycles and wheels within wheels or maybe even astronomy, with its faith in star signs.

What we are dealing with here is much bigger than anything the bankers alone could have done. It has to do with our understanding of economics. We have made economics a numbers game. But all money transactions are performed by humans. That means that economics has a big psychology element to it – all sorts of irrationalities enter the picture once you accept that there are humans involved.

Since most of the textbooks and most of the studies and most of the calculators ignore the human element, they get the numbers wildly wrong. But we live in a scientific age. We place great confidence in numbers. We’re getting it wrong but we believe that we’re getting it right. We’re making important financial decisions by consulting numbers that don’t add up.

Our economy was strong enough that we got away with it for a considerable amount of time. So we traveled farther and farther and farther out on the limb. And then —

We blamed the bankers when it broke! Because they happened to be standing there looking dumbfounded.

It’s not the bankers. Or at least it’s not only the bankers. It’s all of us. We don’t understand economics as well as we like to think we do. We don’t understand markets as well as we like to think we do. We have placed too much confidence in theories that sound reasonable on first hearing but that cannot bear much scrutiny. And we have gotten burned badly for doing so.

The economic crisis is trying to tell us something. We need to change how we think about economics and about investing. It would have been nice if we could have learned this lesson the easy way. But lots of people have tried in recent years to get the word out and have been ignored. So the reality principle came to assert itself in this other way.

If it is our understanding of economics that is at fault, hiring more regulators is a waste of money. The regulators use the same textbooks as the bankers. If the bankers try to follow more reasonable practices, the regulators are going to object. You have to understand what works before you can insist on compliance with what works.

If it is our understanding of economics that is at fault, the bailouts were appropriate. Conservatives don’t like bailouts because they believe in accountability. But it is not the bankers who need to be held accountable. It is all of us. This was a society-wide mistake. In a bailout we all are held accountable, which is the right way to go if we were all at fault.

People have a hard time taking this in. It is so big. And it strikes people as depressing news to hear that so many smart people got something so basic and important so wrong.

Please don’t be depressed. The wonderful thing about obstacles blocking your progress is the liberating feeling that comes when you figure out the way over them. And the bigger the obstacle, the stronger the liberating feeling. This was a colossal mistake. So, when we overcome it, we can realistically expect to see huge forward movement as a result. This economic crisis is trying to tell us what we need to know to enter the greatest period of economic growth in our history.

We need to listen. We need to begin a search for the true killer.

Rob Bennett recently authored a Google Knol entitled “The First Retirement Calculator That Gets the Numbers Right.”