CSI: Golden Goose

In spite of the fact that a rather small amount of greedy people have thrown a wrench into the world economic system and put capitalism in peril, there is a bright side. At least they have blown themselves up completely  and we (hopefully) can get onto the business of allocating capital to interesting endeavors. See ya!


When Good things Happen to Bad People. Or Alternately, the Ultimate Fighting Match between Friedrich Nietzsche and Adam Smith.

Much has been written regarding the problem of why bad things happen to good people. However, recent events have highlighted an irony within the current structure of capital markets… often, good things happen to bad people.

In normal times, most of us wake up, go to work (if we still have a job), live within our means, save for retirement and the kids school, give a little to charity, take care of our families and otherwise seek to do no harm as we go about our path in life.

However, there are those that ascribe to what I call the “pirate model” of capitalism. Cull together your “crew” and take what you can, when you can and the only law is not getting caught. These folks have geared up, sailed the open sea of deregulated capital markets driven by quippy mottos such as “eat what you kill.” And they will look you straight in the eye with great charm and tell you it is a “dog eat dog world” and they will rob you if they are able. And indeed they have. 

What is so striking to me about these pirates is their utter lack of an inner compass. How is it that AIG could have gone cap in hand to the US taxpayer one week and the next, indulge in a $440,000 spa and party? Easy. With no inner, moral framework, you simply do what comes naturally. Such is the nature of pirates.

And lest we single out AIG executives, let’s not forget the steady, systemic march of failed corporate executives, politicians and their tales of excess and outrageous abuse all the while testifying that they are “shocked” at the consequences or “surprised that their models failed.” A key component of the vacuous, moral nature of the capital markets pirate is a complete lack of contrition. If you have no right or wrong and simply exist to get richer than the other person, how could there be such a thing as responsibility or guilt? You were ultimately being compensated for seeking to build shareholder wealth – yes? What other role does an [executive, trader, investment banker, stock analyst, regulator, investor] play other than to enrich and be enriched? 

Fortunately, there is a circuit breaker. Simply put, not everyone can abuse the capital markets system without the capital markets breaking down. What would happen to shipping if everyone (including shippers) was a pirate? What we are seeing first hand is that the pirate model requires that the majority of participants serve as prey to the few that seek to hunt them. When everyone is a pirate, then everything goes to hell in a hand-basket. Heck– credit markets could seize up or something like that…

I often wonder what Adam Smith would say if he saw the current world economic system. It is a marvel that has brought about progress on an unprecedented level. Consider what has happened since the Wealth of Nations was published. I for one believe it will continue to do so in future millenia. I believe that liberal economics is bigger than the petty pirates we now contend with.

However, in the short term, I cannot help but remember that Adam was a professor of moral philosophy before he became the father of modern economics. As an aside, Adam Smith was not a Christian and it is uncertain what his religious beliefs were- if any. Thus proving that having an inner compass is not exclusive to the explicitly religious. Adam’s first work was the Theory of Moral sentiments- published 17 years before the Wealth of Nations and updated throughout his life. Perhaps Adam really was onto something there. 

First, do no harm

Watching our choleric Secretary of Investment Bankers Treasury and his professorial Federal Reserve sidekick, Ben Bernanke, grope for solutions to the market’s gyrations has left me with a sense of morbid fascination. I deeply appreciate the immense challenges and their efforts to calm markets and address a poorly understood credit freeze. However, as I consider the regualtory lurches reflecting all the grace of frankenstein breakdancing, I cannot help but wonder what are the longer term impacts of these crisis driven steps?

The reason I raise this issue is that I recall it was regulatory intervention into capital markets that was a major contributor to arriving at this point. It was lax regulatory policy in credit combined with excess liquidity that were central contributors to widespread credit abuses and inflated asset prices.  Are we simply enabling those that are drunk in market excess and pushing off the crisis to another time? And if so, how much will it be amplified?

Central to the proper functioning of capital markets is the concept of price discovery. This is the process whereby market participants find a trading price that resolves a complex mixture of intrinsic value, liquidity, speculation, and pragmatic needs to hold or sell a financial asset. When this price discovery mechanism is upset, it requires later, larger reactions in order to attain normalization of price discovery. By avoiding the pain today, are we setting ourselves up for deeper, more consequential market problems later? My great worry in this absurd, black comedy that our financial regulators are conducting is the question, “Are we now caught in a market intervention positive feedback loop requiring successively stronger measures in order to keep an asset bubble inflated because the pain of correction becomes successively more dangerous?” 

And while I make light of the concern, I am not deluded about the compelexity or subtlety of the markets. I remember well the lessons of Long term Capital Management- the best and brightest among us are not (yet) able to master the complex system of market dynamics. From my vantage point, each time we seek to avoid the economic discipline of market corrections by interventions, it reappears later in a deeper, steeper and more consequential correction.