Black Swan Free World (10)
This is the final post in a 10 part series.
On April 7 2009, the Financial Times published an article written by Nassim Taleb called Ten Principles for a Black Swan Free World. Let’s look at them one at a time…
10. Make an omelette with the broken eggs. Finally, this crisis cannot be fixed with makeshift repairs, no more than a boat with a rotten hull can be fixed with ad-hoc patches. We need to rebuild the hull with new (stronger) materials; we will have to remake the system before it does so itself. Let us move voluntarily into Capitalism 2.0 by helping what needs to be broken break on its own, converting debt into equity, marginalising the economics and business school establishments, shutting down the “Nobel” in economics, banning leveraged buyouts, putting bankers where they belong, clawing back the bonuses of those who got us here, and teaching people to navigate a world with fewer certainties.
Of the ten suggestions, this one has the most value by far. Unfortunately, this one may be the suggestion that has the least chance of being taken up. No one is talking about any part of this. We seem to be moving to try to set the world back into the place that is was, or very close to it.
We should be asking “What should be the place of banking in our economy?” This is not a question of allowing the free market to choose. The free market has nothing to do with this. The role of the banking sector is entirely determined by the government. The banking sector had grown to eat up a huge percentage of all of the profits of the entire economy. Does that make any sense to anyone? Banking can be a symbiont with the economy or it can be a parasite or it can be a cancer. Before the crisis, banking had definitely moved beyond the level of parasite to becoming a harmful cancer. Too much of all of the profits of all of business activity in the entire economy were being diverted to the banks and with the pay structure of the banks, into the pockets of a very small number of bankers. Did that make any sense whatsoever? Is there any way that anyone can show that situation makes for a healthy economy? The bubbles that happened twice could be seen as the way that bankers justified their huge take from the economy. If values were growing rapidly, no one seemed to mind that bankers took so much out of the deals.
Source:Evolution of the US Financial Sector Thomas Philippon
However, if the economy and the values of businesses and assets in the economy grow at only a sane pace, and bankers try to go back to the level of take from the economy that they have grown accustomed to, then the amount of total profits left for the rest of the economy are bound to be negative. So unless we re-think things and figure out how to muzzle the banks, then we are headed for more bubbles that will justify their stratospheric incomes.
The financial sector, once it exceeds a certain share of the economy, should be viewed as a tax on the economy. Many protest the taxes that the government imposes because the money is not well spent. Well, the money from this tax goes to personal expenditures of the bankers themselves. There is not even any pretense that this tax will be spent for the common good.
One question that really needs to be answered is how much of this financial “innovation” that is touted as the result is really beneficial to the economy and how much of it is just unnecessary complexity that hides that take of the bankers and hedge funds. The excuse that is always given is that all of this financial innovation helps to provide lubrication for businesses. But that is more like an excuse than a reason. Mostly the financial innovation has fueled bubbles. It has led to the excessive leverage that feeds into one sided deals for hedge fund managers.
More often than not, financial innovation has helped to fuel the extreme fixation on short term gains in the economy. Financial innovation has featured hollowing out companies to maximize short term values. Quite often the companies “helped” by this process turn into worthless shells somewhere along the process. This destroys that productive capacity of the economy to allow for the extraction of the maximum amount of short term profits.
Financial innovation helps to turn corporate assets into profits and to take those profits out of the firm through leverage.
So Taleb’s suggestion that we think through Capitalism 2.0 is a good and timely one. But we need to start asking the right questions to figure out what Capitalism 2.0 will be.
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