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| What Financial Reform Endgame? |
| Written by MadMark |
| Monday, 01 March 2010 03:29 |
 Dear Mr. Krugman: I can't help notice that your columns on the New York Times are making less sense than ever. I will address it point by point. The piece I am referring to today is Financial Reform Endgame, published on February 28, 2010. Your entire piece can be summarized as: we are going through the second-worst financial crisis in the history of the world (yes, I notice you like to emphasize it) and 29 million Americans are still looking for work. All this is because we are lacking some banking reform. Any remedial effort by the Obama administration is blocked by Republicans and you oppose any watered down version of the administration's banking reform proposal. I beg to differ. First of all, if you want to call this a crisis, I think it is only fair that you properly define that term. If it is, as my attempt to deduce from your hints, the drop in GDP, trade, or simply wealth of Americans, I think you need to do better. Need a numerical example? Suppose you wake up tomorrow and your bank account balance has gone up to double your today's wealth, you probably spend your day celebrating. We refer to that as an income effect (if you only live tomorrow) or simply an outward shift of the budget constraint, as you remember teaching that to any freshman class. Now, if you wake up the following day after a day of celebration and find that your account has reverted to the previous amount, do you cry foul and call that your biggest loss in wealth? That was arguably the root cause of the financial mess - people wake up in the morning with their housing values out the roof. They spend, spend, and spend - yes, that was a boom in the consumer market. Now the housing bubble is gone, they are feeling poor and are facing the accumulated debts from partying and celebrating. A reality crisis, maybe. Your next focus is on the banking reform push. Now, what exactly are we trying to reform? I notice that you are calling the market discipline, i.e. allowing banks to fail in the future, a fantasy. Governments will always bail out key financial institutions, as you have noted. So is it better to restrict bank actions or to set a precedence of actually letting them fail? You seem to have completely ignore the meaning of the invisible hand, i.e. incentives, that drives us human beings. If you allow them to function without consequences, they will take on very risky projects (You wrote about that practice within the ASEAN nations during the Asian Financial Crisis.). If you create a regulation forbidding them to invest in projects of characteristic A, they will move on and invest in projects of characteristic B, which may or may not be better but obey the rule. Let me illustrate this better with an actual example. If your goal is to keep your 12 year old from getting flesh wounds which might lead to infections, you can very well start making a list of things he is forbidden to do: bikes, running, climbing, and just about every single sport you can imagine. Will you achieve your goal? Possibly - provide that your list is long enough, but if he gets hurt doing something off the list, are you going to get mad? But your child will not live his own teenage years, either. Now, consider the alternative and make it credible that he will lose 3 months of his allowance plus extra chores if he ever gets injured. Will he still take on sports? Possibly - but he will be careful enough from experience to avoid getting injured. Translate that to the financial sector. So if you are arguing that a true reform is needed, I agree completely. Just stop bailing them out. Then you bring out the case of risky loans to "the least sophisticated borrowers that are probably duped into taking these products." I know this technique is very popular and effective because it allows people to shed their accountability for their actions. Politicians often use this to gain votes by showing sympathy. I doubt that you have any intentions of running for office. Simply put: taking a mortgage is arguably the biggest commitment you will ever make in your lifetime; if you jump into a mortgage loan without doing your homework and sign your life away, shame on you! And if you want to split hairs on the entire mortgage push, you can refer to this older article on the New York Times: Fannie Mae Eases Credit To Aid Mortgage Lending. If your concern is for Americans and our future generation, you need to think twice about advocating for a bigger government and more government institutions to oversee or regulate. They are very costly, extremely inefficient, and have proven to last for a very long time. P.S. It is your birthday and you really shouldn't spend that time working on trivial articles. MadMark (Before you speculate, I am NOT a Republican.)
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