I spoke Friday afternoon to MIT Sloan graduates (Reunion Weekend; slides attached), arguing that while we are likely done with a panic or “free fall” phase, we have only just begun to deal with the deeper problems revealed by the global financial crisis.
Think of it this way. The United States has done well over the past 200 years or so because it was founded with strong institutions – rules and laws that mean we’re protected against government or powerful elites becoming too powerful – and over time these have generally improved, or at least not collapsed under pressure. Yes, you can complain about (and aim to improve) many aspects of our society, but where would you prefer to set up a technology-based business or make any kind of productive investment or build your own human capital?
Call this the rule of law, or protection against being expropriated, or sufficient constraints on executive power, but it adds up to roughly the same thing. We strongly limited the power of the most powerful in our society – and this is in striking contrast to what happens in much of the rest of the world.
But over the past 20-30 years, we took our eye off this ball.
The financial sector, under our noses, amassed enormous economic clout and mystique, and leveraged (pun intended) this into tremendous political power – both in terms of the belief that Wall Street can do no wrong, and that we should defer to financial “experts” both on the way up and during the crash (despite the fact their interests are not necessarily our interests).
Our institutions have been undermined by powerful people. We’ve seen this before, of course, both around the world and also in the United States. It’s Andrew Jackson vs. the Second Bank of the United States, or Teddy Roosevelt against the great railroad trusts and big oil, or the Pecora Hearings on the financial shenanigans that helped bring on the Great Depression.
Disproportionate power does not prevent economic growth; there are plenty of booms in banana republics. But “banana booms” never prove sustainable. You get reasonable rates of growth, perhaps even for a decade or more, but then a collapse. Weak institutions are strongly associated with instability, crises, and lost decades. In fact, a lot of what we think of as decisive macroeconomic policy – which the IMF, for example, traditionally focuses on – turns out to matter much less than how much you undermined sensible rules and norms during the boom.
When the crisis hits, you see the problems with glaring clarity – the political connections, the excessive and irresponsible behavior of financial elites, and the extent to which the executive has been captured by whatever branch of oligarchy was boosted by the boom.
The crisis per se does not weaken the powerful. Sure, a few of them may go bankrupt, but this just increases further the concentration of economic power or, if you prefer, their market share. It is for good reason that Jamie Dimon, ever the master of CEO semiotics, said to his shareholders recently: 2008 “might have been our finest year ever.”
Most countries are doomed to this oligarchy-boom-bust-oligarchy cycle. The US broke free or at least temporarily broke away from versions of this cycle, arguably, three times already (Jackson, Roosevelt I, Roosevelt II). Each time the reform process took 5-10 years; perhaps longer from start to finish.
Can we do it a fourth time and how long will that take?