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Assessing the responses to the meltdown

Ever since the global capitalist system almost collapsed when Bank of America quaked and Lehman Brothers went under, there has been no shortage of worthwhile books, articles, and pamphlets. Indeed, there has been a virtual deluge of reform prescriptions. 


We have heard from ethicists, sociologists, judges, investment counselors, experts from the left and the right, establishment bodies like the "Group of Thirty," and lots and lots of economists. Fortunately, much of the advice has been good.

One of the healthiest developments has been the rehabilitation of the late, great, but sometimes ostracized economist John Maynard Keynes. Keynes has been invited in from the cold where he was exiled for supposedly helping to bring about "stagflation." His notion that there is tension and conflict between our two capital markets (i.e. Wall Street and "Main Street"), is now getting a new hearing.

Indeed, it's increasingly clear to thinking people that there are two pricing systems in our modern economy- one for long term physical assets and another for the pricing of financial assets. As we have seen, this becomes incredibly dangerous if that the bubble of speculation moves from its subordinate position and becomes the main event or, as another economist has put it, "enterprise becomes the bubble on a whirlpool of speculation."

Another positive development of late is that one of Keynes' followers, the late Hyman Minsky, is also omnipresent in the literature these days with his doctrine of capitalism's inevitable bubbles and busts. Policymakers, journalists, and academics are taking these ideas seriously today and truly questioning the hypothesis of the "efficient market" (or "rational market").

This is promising news, but what is a layperson to make of all this? How does one see the forest in spite of all the trees, weeds, and underbrush and assess if various proposals for reform herald real change or represent business as usual?

Here are some ideas to keep in mind and questions to ask as new policies and prescriptions are advanced:

Does the proposed reform still hold on to the "rational market" idea? If so, it's a problem because this theory helps to veil what's really going on. It also creates a big rationalization for the whole financial services industry system and the recent Ponzi-like products that almost cost us everything.

Do the proposed reforms keep our economy and its well-being tied too closely to the fortunes of financial markets? If so, it's a problem.

Do proposed reforms truly deal with the problem of institutions that are "too big to fail?" If so, this is good.

Do they build on the ideas of Paul Volker and the respected Group of 30 for instituting some new global rules that would deal with the "bigness" question without creating an unequal playing field for our financial competitors? This is good too.

Do they suggest some ways for the financial services industry itself to pay for the next bailout and for the rating agencies to be compensated in a different fashion than the current system in which they have an incentive to lie? This is another winner. Better still, do they bring insurance companies into the banking regulatory system? 

Do they truly regulate the so-called "shadow" banking system? Will keeping assets off the balance sheet still be allowed? Will new and more complex financial instruments be forced to prove themselves by being sold initially on exchanges, rather than on the basis of computerized projections? These are all essential.

Do they, as some smart economists are calling for, explore the idea of "counter-cyclical capital requirements" – the idea that institutions should set some money aside when times are good as a cushion during downturns?  In a related vein, so they explore the idea of requiring much larger "rainy day funds" for government to promote more timely stimulus actions? Both of these are excellent ideas.

Lastly, do they include creating some space and subsidy for community development finance institutions, revolving loan funds, community credit unions and other mutual or development finance institutions? This would be a home run.

If the recent meltdown has shown us anything, it's that "business-as-usual" won't cut it. There's simply too much at stake to turn our economic future over to the same insider crowd that got us into the current mess.

Fortunately, there are alternative voices and common sense paths to follow with proven records of success. If citizens and elected officials keep their eyes on the ball, we can learn from past mistakes and build a healthier, fairer economy.


William Schweke a Senior Fellow at economic policy think tank, CFED [1].