The recent financial crisis is already passing into myth as the Great Recession. And there will continue to be authors who will write their answers about this event in the luxury of hindsight. I can refer to what I wrote at the time. And this is what I posted at ET in September 2008. "Federal Reserve policy implies assisting the liqiuidity of any large bank. Both the Fed and the Federal Govt have predetermined not to allow any new crisis or new meltdown. That is how its going to be." It is simpler than it seems. There was a housing price bubble followed by a big housing bust. Thats it. All that happened is that the banking system had to be given a little support across this country and in Europe by Governments. I and most others still had our morning coffee and daily dump with things going on just as usual.
Another point of view is the crisis happened DUE to too much regulation. For decades certain financial institutions such as pension funds have been forced by regulations to rely on credit rating (assigned by rating agencies such as Moodys, S&P or Fitch) as the main indicator of risk. In particular, the regulators required a certain (high) proportion of assets to be held in high-rated securities. In the 2000s environment of ever-falling yeilds, the regulated financial institutions had no choice. They either had to buy these super-leveraged mortgage-backed securities (becuase these provided higher return at the same credit rating compared to corporate bonds) or loose investors because competitors were prepared to buy leveraged CDOs and MBS's and the latter provided highger returns. Also, regulators's reliance on credit rating as the most important measure of risk in bonds and bond-like securities led to the culture of not ever attempting to independently estimate risk of these securities.
Where untested economic theories come into play is "quantitative easing" supposedely used to combat the crisis.
The abuses that caused the financial meltdown appear to me to have been caused not by a lack of regulation but by selective enforcement of existing regulations. Egregious big-name perpetrators were given a pass whereas smaller market participants were squashed by a bug by those charged with enforcing market regulations.
Arguing against capitalism because of periodic recessions is like arguing against democracy because sometimes governments get voted out for poor performance. One must also compare like with like. It is hypocritical and employing gross double standards to criticize "free markets" for not achieving the results implied by unrealistic theories of perfect competition, rational choice, and perpetual equilibrium; and then to assume that regulation will be carried out by diligent, impartial, omniscient philosopher-kings who only have the good of society at heart. Just read "No One Would Listen" or spend a week working in government if you actually believe any of that bullshit. "Free markets" in the real world have problems of government interference, principal/agent incentive problems, special pleading/political capture, excessive short-termism, herding/groupthink behaviour, irrational attitudes to risk and reward etc. But societies with more powerful controlling governments have problems with the corruption of power, regulatory capture, institutional inertia, bureaucracy, complete lack of incentives to perform well, jobs for life, buggins turn, restrictions on originality and innovation, group-think, authoritarianism and eventually repression etc. Take a look at the world's richest, safest, and most civilized countries. They all have broadly capitalist systems, governments own either zero or a limited amount of the means of production, and there is a relatively liberal attitude towards government (i.e. political pluralism). Take a look at all the socialist societies, let alone communist ones, that have been tried in the last 150 years. They all went bankrupt and became poor. Take a look at when some of the richest countries flirted with socialism in the 60s and 70s - the economy got fucked in places like the UK and USA when they veered left during that era. Even Sweden eventually concluded they had gone too far towards the statist model, and rejected that extreme after an economic disaster in the early 90s. Apparently a 1 year recession is sufficient to completely blind you to the lessons of history. What a spineless soul you are. The recent fuckup was caused by the same things that cause almost every banking crisis - excessive leverage, the fragility of fractional reserve banking systems, groupthink, moral hazard and a blindness towards outlier risk. Apart from reducing leverage and/or going to full reserve banking (which has its own costs), there is not much one can do about the other problems, because they are inherent in human nature. Do you really think the same regulators who ignored the Stanford and Madoff frauds for a decade, despite being warned repeatedly and literally having it spelled out to them, the same regulators who were asleep at the wheel as the biggest housing bubble in history inflated right in front of them, despite being warned repeatedly about it, the same regulators who are in their jobs because they are so much more stupid and unimaginative than their peers in the private sector, are really going to spot these crises in advance, and then have the balls to poop the party when everything looks great? If you believe that, I have a bridge in Brooklyn to sell you. Take your utopian socialist fantasies some place where they won't destroy society and fuck up all our lives. P.S. I love how you quote a capitalist-bashing book, but ignore the legions of well-researched, peer-reviewed writings on the problems of regulation, socialism, welfare state etc. In 1979 you would have been posting "do we need less state intrusion into our lives"? People like you are why we have these problems in the first place, just clueless short-termists who extrapolate the last 18 months out into eternity.
Unfortunately there is the human factor - which is greed and criminality. One drives the other. Anywhere there are billions of $s, £s etc. just sloshing about, then the the dishonest, get-rich-at-any-cost etc. sort of people will be drawn in. There have to be imho regulations to curb their excessive acivity. They will largely be exploiting the grey area between open criminality and legalised theft to their own advantage. If there are no laws governing their activities then how can they be taken to court and curbed ?
But there were already laws and regulations in place beforehand. Do you think what Madoff was doing was legal back in 2007 or 2003 or 1999? Don't forget that banks were *heavily regulated* before the crisis. There were not only strict rules about capital reserves that banks had to hold, there was an all-powerful central bank whose job it was to oversee the integrity of the financial system. These regulators in whom you and nitro now place your faith, were as late as mid 2008 saying the banking system was fundamentally sound, and ignoring the Madoff and Stanford frauds that had been brought to their attention a whole decade earlier. And you think these clowns are going to save the world? You are complaining about bankers being rewarded for failure - what about the regulators? They failed and now you want to reward them with even more power. At least the banks made money most years before fucking up. The regulators failed and fucked up *every single year for a decade*. The sheep-like craven desire to be told what to do is really pathetic. I've seen more resilience in lemmings, at least they will fight when cornered.
Some good points you have raised Ghost An old problem of who regulates the regulators Perhaps we need an integrity index. Anyone below 50% doesn't get considered for the job ? Must say if I was on millions per year I wouldn't be stufffing up my job/career by pocketing even more illegally.
Since WS is not free market oriented it must be highly regulated. Decades of mergers and acquisitions plus bubbles, have weakened the power of the free market and replace it with corporatism.