How to avoid making the same mistakes.
Try and think back on how your life has changed since the financial crisis broke out in 2008 with the collapse of the investment bank Lehman Brothers. Most likely we’re depressed, feeling poorer, maybe thinner and have little to dream about. It’s not easy having to tighten the purse strings or trying to understand where we went wrong. Yet this is the only way can we hope to avoid the mistakes of the past. It’s also, as it turns out, the premise behind Martin Wolf’s most recent book, The Shifts and the Shocks: What We’ve Learned—and Have Still to Learn—from the Financial Crisis.
When in the spring of 2007 it transpired that the entire US real estate market was completely bloated by subprime loans, many began to quiver. The world was sitting on a time bomb about to explode. The blame was pinned on financial instruments such as derivatives that are so complex that even their creators were unable to calculate the mark-to-market price of the individual product. Wrong. It wasn’t the tool itself that was causing the damage, it was how it had been used. “All you need do is take a kid just of college, hand him a portfolio of clients and promise him a 100% bonus on his yearly salary and he’ll turn into a criminal”, said Jim Rogers, one of the top commodity brokers in 2008. In essence, the concept is fairly simple: human nature is selfish. And it was true.
The mistakes, Wolf recalls, were many. It had been believed that Lehman Brothers, the US bank ranked fourth in terms of assets, could fail without too much of an impact on the US economy. Instead, its collapse assumed epic proportions and managed to freeze out all global commerce for weeks. It had the same impact as a war. And then there was the eurozone. An economic area built to unite but which has ended up becoming increasingly divisive. The European Central Bank learned its lesson and is trying to save the euro. Had this not been the case, the financial universe would have been swept away like a twig in a maelstrom.
In the background of the financial crisis, or better crises, there’s an economic school of thought that is moving ahead very slowly and sluggishly compared to other fields of academic research. It seems unable to come up with anything new, perhaps out of sloth or a well-meaning belief that the status quo should be maintained. As Wolf points out, neo-Keynesianism, post-Keynesianism, modern monetary theory, the Austrian school and Wicksell’s differential have offered interesting food for thought and changed attitudes and nature, but they continue to reveal an outrageous degree of intellectual orthodoxy. “Only by changing the thought patterns of today’s students, trying to stimulate them so we ourselves can be stimulated, can we hope to mitigate the effects of future crises”, writes Wolf. Investing in knowledge to change the social system and, as a result, the political and economic one is perhaps the most effective weapon the world can deploy. The problem is not so much realising it. For Wolf, “the problem is applying it. And we’re late already”