If you stayed still long enough in 2007 someone would start telling you about
sub‐prime mortgages, the growth in derivatives, and the bonus culture on Wall
Street and in the City of London. Network news was full of excitable types telling
us all about the problems created by the deregulation of financial markets, the
unexploded munitions left lying about by credit default swaps. It was Babylon in
the bond markets, by all accounts.
Before we lose ourselves in lurid anecdotes about the seamier side of the loan
approvals process, we should step back for a moment and look at the various
explanations for why we are now in recession. There are a number ways of
getting this wrong. All of them have a certain amount of plausibility, and some of
them are quite emotionally appealing. But they are all dangerous in the same
way. If we fall for any one of them, or any combination of them, we’ll be lulled
into thinking that much the same political settlement that led to this disaster will
lead us out of it. So I give you, in no particular order, How Not to Explain a Crisis.
First off we are urged to take the long, historically sober and sensible view. In
this vein any number of people who will tell you that our troubles have their
origins in the madness of crowds, the mysterious movements of markets, or in
our evolved nature. Writing in Commentary, John Steele Gordon tells us that ‘the
nexus of excess speculation, political mischief, and financial disaster’ that
brought about the current crisis has been around for ages:
Given the recurrence of these themes over the course of three centuries,
there is every reason to believe that similar calamities will beset the
system as long as human nature and human action play a role in the
workings of markets.5
The great historian of finance, Niall Ferguson assures us that financial markets
can’t help but be unstable because of our ‘innate inclination to veer from
euphoria to despondency’ and ‘our perennial failure to learn from history’6.
Crises, in these kinds of accounts, become one with the awesome majesty of the
physical world. They emerge from our nature and can never be avoided. Such
claims may seem historically sober, they may be delivered in tones of donnish
authority, but they depend on our historical ignorance for any plausibility they
have. The global financial system did not suffer from serious disruption between
the Second World War and the early seventies. Regardless of our innate qualities,
we act within institutions, bounded by legal and social inhibitions. These can be
changed to make financial and economic crises more or less likely. As we shall
see they can be changed in ways that lead to catastrophe.
The crisis‐as‐extreme‐weather‐event also appeals to those who argue that no
one in their right minds could have seen the crisis coming, given the complexity
of financial systems. The commentator John Kay insists that ‘we may be able to
say a lot about their general properties while being unable to make specific
predictions’7. Kay invokes the non‐linearity of markets, their dynamism, and, of
course, the troublesome butterfly whose antics cause so much meteorological
It adds up to a kind of explanation by mystification, in which tolerably simple
phenomena are explained away with reference to mind‐bogglingly complicated
ones. Besides, plenty of people made specific and accurate predictions. They
tended not to have columns in the Financial Times but, as Kay recognises, citing
the work of Philip Tetlock, ‘the better known the forecaster, the less accurate the
You can also baffle yourself by keeping too tight a focus on the financial sector.
Keynes’s biographer, Robert Skidelsky, has argued that ‘the main source of
instability lies in the financial markets themselves’9, while Robert Reich cries
‘greedy bankers beware’10. In these readings the culprit is a mixture of the moral
and the technical, a mixture that appeals to journalists. Most of them have spent
at least a decade in a state of supine incuriosity about those aspects of finance
that bankers didn’t want them to talk about. While they once filled their pages
with placidly admiring profiles of various City and Wall Street rainmakers, they
now heap scorn on their erstwhile heroes.
And they have started to pore over the details of the derivatives market, the
operations of the hedge funds, and the excessive risks taken by banks in the last,
glittering decade. Again, a fairly simple set of circumstances is ‘explained’ by
gestures towards the mind‐numbingly complex and an event in political
economy is lost in the mathematical sublime. Cor, look at those equations!
There are several variants on the narrow finance sector story. Some focus on
sub‐prime lending. Poor Americans were persuaded to take out loans they
couldn’t afford; banks then bundled up these shaky debts and sold them on to
investors; as rates of default began to rise, a neurosis of distrust seized the credit
markets. Suddenly all hell broke lose. This is sometimes called the ‘yanks and
banks’ account and it was pushed hard by the British government in 2008. It is
emotionally appealing because it lays the blame at the feet of a coalition of
shiftless rednecks and shifty Wall Street operators. As an attempt to deflect the
blame from the UK government it looks a little shaky, since New Labour had built
its electoral ascendancy on its submission to yanks and banks, in one way or
another. More plausibly some cite the wider real estate boom and the cheap
credit that fuelled it from 2001 onwards. But, as we shall see, the real estate
boom itself was the flower on a plant with much deeper roots.
Apologists for the free market also tend to narrow their focus to the credit
markets but they blame the state, not the banks, for the seizure that began in
2007. According to Eamonn Butler, the director of the Adam Smith Institute, the
crisis ‘was caused by politicians forcing the banks to give out bad loans,
monetary authorities flooding the West with cheap credit and regulators being
asleep at the wheel’11. Butler goes on to claim that ‘one can date its origin
precisely, to 12 October 1977, when US President Jimmy Carter signed the “antiredlining”
law’. How so, Mammon? Sorry, Eamonn. Well, he explains,
Before then, lenders generally denied loans to people in poor
neighborhoods, believing that the local mix of low incomes and a weak
housing market would lead to many people defaulting. But the politicians ‐
with good intent ‐ wanted to make home ownership available to all
Americans. So lenders were forced into giving out risky mortgages: what
we now call “sub‐prime” loans’. 12
Butler is referring to the Community Reinvestment Act. The act sought to stop
regulated financial institutions from withholding credit from individuals and
businesses in (poor, often black) areas. Many market‐friendly commentators
have, like Butler, claimed that it ‘forced’ lenders to make shaky loans. In fact the
CRA requires that federal agencies encourage them ‘to help meet the credit
needs of local communities in which they are chartered consistent with the safe
and sound operation of such institutions.’13 On the face of it, this doesn’t sound
like a charter to lend recklessly. And, given that the explosion in sub‐prime
lending is only part of a much wider expansion of credit, this explanation starts
to look shaky to the point of being flaky.
That is not to say that a President from the 1970s couldn’t have had a hand in the
current crisis. It’s just that Eamonn has picked the wrong one (it isn’t Gerald
Ford, either, by the way).
It is difficult to know what to make of this and similar attempts to exonerate
private capital. The bright sparks at the Adam Smith Institute in Britain and the
Heritage Foundation in the United States are right to recognise that government
action directly contributed to the current car crash. But they ignore how private
investors welcomed British and American moves to deregulate finance with
something approaching ecstasy. The markets could have priced in the dangers of
regulatory paralysis and cheap money, and intimidated policy‐makers into
taking steps to make the system less crisis‐prone. If the markets were as allseeing
and as efficient as their admirers claimed they would have done so.
But they didn’t, because they aren’t.
It is also tempting to blame Alan Greenspan, the Chairman of the Federal Reserve
from 1987 to 2006, for the crisis. With Robert Rubin and others Greenspan
certainly worked hard to minimise regulation on Wall Street and so permitted
some reckless behaviour with financial derivatives on the part of the banks.14
More significantly, Greenspan provided the cheap money that fuelled the
property boom in the United States in the early years of the century. Greenspan’s
laissez‐faire attitude to asset price bubbles had already contributed to the boom
and bust in stocks driven by dot.com mania. The cheap money policy after 2000
allowed the Americans to blow a new bubble in real estate and probably headed
off, or rather postponed, a severe recession.
But Greenspan embodied the wishes and assumptions of the finance‐oriented
‘free market’ right. He took the view that central bankers had no business
second‐guessing the markets as to the value of assets. His job, as he saw it, was to
clean up the mess after the bubbles burst, not to intervene beforehand.
Greenspan himself has, in his usual forthright manner, come to admit that he was
‘partially’ wrong to resist regulation of derivatives. Talking more generally about
his free market principles he acknowledges that he has found a ‘flaw’:
I don’t know how significant or permanent it is. But I have been very
distressed by that fact … I made a mistake in presuming that the selfinterests
of organisations, specifically banks and others, were such that
they were best capable of protecting their own shareholders and their
equity in the firms.15
We should pause perhaps and ask ourselves how any adult could imagine that
self‐interest would prevent banks from acting in ways that posed systemic risks,
given the widely reported tendency of self‐interested actors to act in ways that,
you know, pose systemic risks.
Whatever Greenspan’s deficiencies, the policies that led to the crash long predate
his tenure at the Federal Reserve. Besides, his philosophy, flawed as it
turned out to be, was the conventional wisdom on Wall Street and in recent US
administrations. Greenspan himself served under Presidents Reagan, Bush I,
Clinton and Bush II. His insouciance about the dangers posed by unregulated
financial engineering, his refusal to intervene to prevent bubbles, and his
accommodating attitude to Wall Street interests, were unremarkable in the
circles in which he operated. Put it another way, if his economic philosophy had
been less flawed, he never would have been appointed.
In the final family of bullshit explanations, responsibility settles on us all in a
fine, even dust. All of us are to blame, and so none of us can be singled out. We
all borrowed too much and brought the crisis on ourselves. This is a line that is
very popular with those who are otherwise very happy to take a leadership role.
Again, what pretends to be explanation induces a kind of vertigo. Instead of
distinguishing between causes, and identifying the ones that matter, we are
invited to lose ourselves in the sublime of a million and one decisions of
I’d say that that is bullshit, too.
Maybe we were all at the party, but hardly any of us could have known what was
in the punch. We were encouraged to leave supposedly complicated and
technical matters like the management of the economy to experts. Professionals
with intimidating credentials were on hand to dismiss anyone who presumed to
express doubts. Those who did express concern were largely exiled to the
internet where they struggled to be heard in the Babel of infotainment. When we
had an opportunity to vote, the main parties in Britain and the United States
unanimously offered the policies that have brought us to disaster.
We can do without any faux‐wise posturing about our genetic inheritance, and
we should pass up the temptation to blame ourselves for our addiction to credit.
This has nothing to do with the mystery of being human and everything to do
with a finite number of decisions made by a finite number of human beings
whose identities are very far from being mysterious. And though the
recklessness of bankers has played its part in making things much, much worse,
we aren’t in the predicament we’re in simply because of the ingenuity of hedge
fund managers and associated financial high‐wire artists.
Leave a Comment so far
Leave a comment