When the first big books on what caused the great – and ongoing – financial crisis of 2007 came out, I read them reasonably carefully. I even reviewed some of the best ones for you in last week’s magazine. But I’m afraid I no longer read them with the same attention. Why? Because they’re mostly much the same. They tell us in one way or another that the market has failed, that most accepted economic theory (based as it is on the idea that markets are efficient and self-stabilising) is a bit silly and that we need an entirely new theory to help us figure things out anew.
But I’m not sure we should get too hung up on how useless markets are. Sure, if you look at the last decade you might think they haven’t been working too well. The free market is supposed to make everyone better off. But over the last decade the rich have become obscenely rich (see page 38), while the rest of us have been lucky to hang on to our purchasing power at all. At the same time our banking system has all but collapsed and our stockmarkets made too many of us poorer instead of richer.
However, the point to make here is that none of this has anything to do with market failure. You see, markets can’t fail. They just do what they do based on the conditions they are provided with. So give a market a tax system that favours the rich and penalises the poor for working and it will give you the underclass. Give a market lax lending regulations alongside ludicrously low interest rates for a long time and it will give you sub-prime. Bury it under a pile of freshly printed money and it will give you one of the greatest bear-market rallies ever.
None of these outcomes are the kind of good ones economic theory expects from markets, but they can hardly be blamed on the now much maligned ‘invisible hand’. How can a market, however self-stabilising it might be in isolation, be expected to compensate for an entire world of political idiocy? For governments with election-orientated time frames? For an academic community still bickering over the relative merits of different economic theories? For the total lack of sense of self-preservation displayed by senior bankers for much of the decade?
We rely on our political leaders to help markets get to the right place, to give us tax systems that give incentives to the right things, to put in place regulations that stop greed and fear getting out of control and to push for a tad of social equality along the way. They, not the market, have failed. So what we need now is not better markets (they work just fine), but better governments. Maybe next year…
There won’t be a magazine next week, but we’ll be back on Friday 8 January with all our forecasts for 2010. A very happy Christmas to all our readers.