Having experienced an economic calamity, don’t we just need to figure out how to prevent it from happening again?
Yes…but that might be impossible.
MIT economist Andrew Lo read 21 books on the financial crisis. 11 were from academics, 10 from journalists and one was written by former Treasury Secretary Henry Paulson. Comparing the dates, the problems, the solutions that deal with the events of 2006-2009, here is what Dr. Lo learned:
There is disagreement about when the crisis began:
- Mid-2006 when the housing bubble crested?
- Late-2007 with the liquidity crunch in the shadow banking system?
- September 2008 with the Lehman Brothers bankruptcy and “breaking the buck” by the Reserve Primary Fund?
People disagree about the protagonists and the focus of the financial crisis:
- a housing bubble?
- concentration of power with financial elites?
- financial innovation and deregulation?
- subprime mortgage crisis?
- regulatory shortcoming?
- misaligned financial incentives?
- disproportionate emphasis on shareholder wealth?
- too big to fail?
- income inequality which led to political decisions about housing and easy credit?
- failure of the market system?
- “animal spirits?”
- international contagion of investment products?
Depending on how the problems were defined, the solutions differ:
- diminish inequality
- government subsidies for those who cannot afford financial advisors
- government monitoring of financial products, creating safer financial products
- greater transparency
- price risk higher
- capital requirements
- separate investment and commercial banking
At the end of his 36 page analysis, Dr. Lo suggests that we need a “black box” of indisputable facts rather similar to the data from a plane crash. However, Dr. Lo warns us that the complexity of the crisis and of human behavior may preclude us from ever getting satisfactory analysis.
Dr. Lo’s paper returns me to Dodd-Frank. Isn’t it a solution to a problem we have not clearly identified?