Since the GFC, a lot has been written about the demise of capitalism. But its death is exaggerated. The banking system remains intact, money markets continue and the poor seem more likely to overthrow political tyrants than their capitalist overlords.
The system does need a tweak. But exactly what should change? The Road from Ruin sets out an agenda. Written by Matthew Bishop and Michael Green, the US business editor of The Economist and a university lecturer respectively, the book argues for “a fundamental overhaul of the British model of capitalism”.
To me, their prescriptions seem modest. They dismiss, for example, the theories of zero-growth being expounded by the green movement, and they scorn a return to big government or the interventionist regulations espoused by the left. Bishop and Green are capitalists and their remedies are within the camp of pinstripes and briefcases. Which makes it all the more interesting.
They first assert the importance of innovation in finance. Yes, they admit, almost all of the great financial collapses—from the tulip mania of 17th- century Holland to the recent recession—result from innovations, such as futures trading and hedge funds. But innovation also brings benefits: mortgages, limited liability companies, portfolio management and so on. We need to innovate, but in a context of regulation that provides relative (but not absolute) safety. Next, they argue the GFC was made so much worse by the decision to let Lehman Brothers collapse. All evidence from crises past shows the banking system accelerates a downward spiral. The Eurpoean and British responses were much smarter, and the authors reserve special praise for the unloved Gordon Brown.
Third, they say the true cause of the GFC was not a lack of regulation but the wrong kind of regulation, based on a faulty idea: the efficient market hypothesis. Developed in the 1970s, the theory says that the price of equities and their derivatives reflect day-to-day economic reality. Ultimately that was true; the rotten condition of the sub-prime loans were finally exposed and the markets tumbled to reflect the underlying state. In the meantime, traders and speculators were so far removed from the reality there was no efficient market at work, just a self-referencing merry-go-round of speculators ramping up Wall Street. When the correction came, it came with a thump.
To avoid such thumps, the authors recommend replacing the efficient market hypothesis with the so-called adaptive market hypothesis. Borrowed from evolutionary biology, this sees the economy as a messy ecosystem with non-linear feedback loops and a dizzying array of complex relationships. Sounds interesting, but what that means in practice is where the book itself gets messy—for me at least. From this the authors leap to a series of recommendations about government interventions that sound a lot like God messing with nature. Are governments that omniscient?
I’m no economist so it’s hard to offer specific criticism. But there’s one big idea that appeals. Ecosystems work best when all parts operate in concert. The problem with the GFC was the separation of the financial traders from the rest of us. The answer is not more specialists—it’s more of us. Bishop and Green want more traders, not less: more shareholders, a more informed public, more transparency in the arcane world of bankers and bonuses, the return of mutualised outfits like friendly societies and more shareholder activists. They point to the success of the fair trade movement to use informed and compassionate capitalism to improve working conditions for the poor.
The same should apply to restraining the avarice of bankers. They want what British Prime Minister David Cameron calls the big society (I think our guy calls it the ownership society), where the populace, not the government, are the brakes on excess. True accountability, they argue, sits not with the few but with the many.
The Road from Ruin: A New Capitalism for a Big Society
By Matthew Bishop and Michael Green (Bloomsbury Acad & Prof, 2011) $40
Idealog has been covering the most interesting people, businesses and issues from the fields of innovation, design, technology and urban development for over 12 years. And we're asking for your support so we can keep telling those stories, inspire more entrepreneurs to start their own businesses and keep pushing New Zealand forward. Give over $5 a month and you will not only be supporting New Zealand innovation, but you’ll also receive a print subscription, an Idealog t-shirt and a copy of the new book by David Downs and Dr. Michelle Dickinson, No. 8 Recharged (while stocks last).