Financial Crisis: Intellectual Failure or Greed? Panel Discussion: John Glen, Professor David Myddelton, Séan Myddelton February 2009 TT
Hello, my name is Toby Thompson. I am here today with three economists here at the Cranfield School of Management. I am with David Myddelton, Chairman of the Institute of Economic Affairs and Emeritus Professor of Finance and Accounting here at Cranfield; John Glen, Senior Lecturer in Economics and Séan Rickard, Senior Lecturer in Economics, also at Cranfield. Gentlemen, we are talking about finance, debt, the UK economy. David can you tell me what has gone wrong? DM Too much debt, too much borrowing, too much consumption – do you want more? TT Yes please. DM That’s on both governments and in the personal sector. TT So I am responsible for borrowing too much and buying too much and spending too much and asking for loans from banks? DM Well, when we talk about the personal sector, we are talking about overall. I don’t have any borrowing, so I am not to blame. I don’t know your personal circumstances, but governments are certainly to blame. They have encouraged too much borrowing and borrowed too much themselves. TT Governments not banks? I am getting mail through my post box saying here is a new loan – take out a new car loan, new TV loan, whatever it is. DM Don’t forget the banks are lending other people money, the governments have borrowed too much. TT So that is government regulation, that’s the financiers – where does the responsibility lie? DM Well ultimately the responsibility lies, it seems to me, with people who borrow too much. Full stop. That isn’t a popular thing to say and most politicians don’t even mention the borrowers as being in any way at fault. TT As opposed to the lenders saying here is some money? DM Of course. The lenders may well be to blame to too, especially if there has John Glen, Professor David Myddelton, Séan Rickard
been fraud or near fraud involved, as maybe there sometimes has been. But you can’t say the borrowers have no responsibility. That is absurd. TT Séan? SR Well there is an element of truth in what David says. The manifestation of the problem is too much debt. The real issue is the unfettered use of markets. It is people who have been exercising greed, what some of us call ‘animal spirits’ in going out there and spending too much money when there has been no checks or balances in the systems on them. And it applies not just to consumers – unfair I think to blame consumers. I think the problems really start at the level of companies who were not monitored, who were not checked by governments in their proper role. JG I think an interesting point here is we can end up blaming either end of the spectrum. We can end up blaming the people who borrowed excessive quantities and those who have lent to them. As we come out of this crisis what we definitely have to do is learn the lessons from this crisis and essentially we need to think about the way we regulate the banking system. I think we get the regulation that we deserve and there was an element of us wanting to regulate lightly because we liked the profitability that was generated, we liked the credit that was available to us as borrowers and that has led us down a road where we have over borrowed, we have not regulated the banking system effectively or responsibly. And the banking system has shown itself incapable of regulating itself. TT These things seem like something I cannot affect whatsoever. I can’t affect markets, I can’t affect regulation as a person in the street. What do economists say about that? David? DM Well I’m an accountant too, as you mentioned as the beginning and I don’t think we necessarily do get the regulations we deserve. I don’t know what accountants have done to deserve the pile of rubbishy regulation we have got in accounting and I don’t accept John’s point that borrowers don’t really bear much responsibility. I don’t have to be regulated not to borrow too much, that is just a sensible personally responsible way of behaving. I think one of the problems is, and it’s a Welfare State problem, Toby. Much wider than just this latest issue, I think the Welfare State is an irresponsible society because it encourages people to think about the benefits they are going to get, without thinking about having to pay for them. So for two generations now irresponsibility has been built into our way of living. SR A society without welfare provision is also irresponsible. We have to find a middle way. And I am with John really. Surely the lesson of this crisis is you cannot have unfettered markets. You need to regulate markets. Page 2
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JG There are people who have been aggressively sold funds who are not in the position really to assess the risk to which they are exposing themselves, let alone the system. And I think there is a role there for intervention to regulate those types of behaviours on the part of markets. TT So a light touch, heavier touch? DM Some touch. I am not saying no touch. I don’t disagree really with John. SR But David you believe in markets. We know that there are two fundamental rules for markets to work. One is that you must have sufficient information, and clearly not only the people borrowing, but the people running these markets didn’t appear to have sufficient information. DM Not at all, we are all ignorant about the future. Markets work perfectly well with ignorance. SR I must be able to make my choices based on an assessment of what the risks are and what the alternative offers are. The people offering these products didn’t even know what it was, let alone the people you are now expecting to have made an informed decision within the market. DM Well you don’t have to be very informed to know that if you borrow 125% of the current value of your house and you are unemployed and you have no income, it is going to be very difficult for you to meet the legal conditions. TT But why offer it in the first place? Should governments say you should not offer 100% mortgage in the first place? And that is a government issue, not a banking issue. DM I don’t see why they should. I mean this is the nanny state gone wild. I am not saying that markets should be completely unregulated, but you have to have people responsible for themselves to some extent. TT John? JG But I think the critical point here is that we are not going to get out of this current malaise that we find ourselves in unless we get markets working efficiently. It is not government that is going to get us out of this. Government may help to turn the tide as it were, they may help to nudge us in the right direction. But we have to get markets working effectively again, we have to get people returning to normal market activity, but we also have to do that in a way that ensures that we learn from the mistakes that we have made in the past. So I think we need to encourage markets to operate effectively. I don’t Page 3
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think we should lurch too far to an interventionist strategy. We shouldn’t believe that governments are going to save us from this. I personally don’t think that the governments have got the capability to do it, let alone the actual finance to do it. We need to get markets working effectively again and we need to make sure that those markets are regulated, so that we don’t make the mistakes we have made in the past. SR I am much more pessimistic than that actually because I see this as a rerun of 1929 in many respects, where we then thought we had learnt the lessons, we then put in place regulation, we said this must never be allowed to happen again. And indeed it has happened again. DM You say we, is that the Americans as well? SR Yes, it’s us collectively David. Its human beings. Because ultimately you have this tremendous force – it’s called greed. And once I see the opportunity to begin to lean on governments to reduce the regulations, to give me an added advantage, it takes over. DM Well, but we are all teachers – you know, ignorance is our meat and drink, if you like and there is a lot of it about. TT And that is my point. Why are we so lucid now, academic economists, around why this has happened and how it shouldn’t have happened? Why weren’t we lucid back two years ago when we say well you shouldn’t be selling 100% mortgages? There is a problem with capitalism at that point. DM Good point. Well there is a problem and I mean if you think of the Stock Market, it gets too high. The fact is that when it is at its peak, everyone is optimistic – it’s very unusual for people to say it’s too high. When it’s at its bottom – and it isn’t there yet – people get very gloomy. Everyone says I will never go into stocks again. So there is a kind of herd instinct that operates and I am afraid that even we are involved with that. TT But that sounds deterministic – we are never going to get out of this, it’s just human nature to have a boom and a bust. JG I agree with Séan’s point – I think there is a regulatory cycle. I think that the danger is that we will over regulate, perhaps as we come out of this crisis and not allow markets to help us out of the crisis. You know, there shouldn’t be a lurch to the other end of the scale where we say markets cannot deliver. Markets deliver the vast amount of wealth that we all enjoy consuming, it’s just making sure that they are effectively regulated so that we don’t get these crisis and then to guard against what I think is again a behavioural response that the market will give, which is this regulatory cycle. We will renege against regulation. We have done it periodically in history. Page 4
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TT So it’s about courage, it’s about perseverance, about stamina? DM And it’s about not forgetting the lessons of history. I mean, Séan said we forgot about 1929, you could argue that Gordon Brown when Chancellor of the Exchequer forgot about the relative success of the Bank of England in preventing serious financial crisis for 150 years in this country. But he abandoned it overnight, he thought he knew better and it wasn’t until it was really stress tested after about ten years that we discovered that the new system wasn’t all that good after all. SR Unfortunately that is normally the case, but John made the point, which I think you will agree with David … DM Do I? SR … that boom and bust, or at least economic cycles are with us. Always will be with us. DM Especially if governments have interest rates too low. SR Well you see there is perhaps a collective failure there of people getting over optimistic believing as a result of government policy that inflation had now been beaten and interest rates could come down too low. Hopefully we do learn the lessons, but never completely. DM But you say inflation indexes which don’t include asset prices are dangerous. That was true in 1929 too – your point – and we didn’t learn from that. SR No and we have said, really there is this collective view that when things are going well, anyone who suggests that maybe we should be cautious, they are looked at in a rather patronising way – you don’t understand, you know? How many people in the last few years have told us the paradigm has changed? It was a new world, we really couldn’t look back to the new examples. Hopefully we will come out of this a little wiser. Ultimately we always depend on markets to create wealth. We should never forget that. But it strikes me that one of the lessons of what is going on at the moment is that we certainly need governments to help those markets to correct themselves. JG But I also feel that we don’t have to go back as far as 1929. We only have to go back to 1997 to get a microcosm of the crisis that we have at the moment – the one that unfolded in East Asia. TT But you all seem to be saying that learning is a massively important thing and here we are in a business school, a seat of learning. Have we not got something to say about this? Are we not in some way culpable? We are a Page 5
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kind of grand, venerable coaching house for most management bandwagons which roll across capitalism – have we not got a part to play in that around courage, building courage, building the courage to stand up and say no? Is that not part of what we are about? DM Yes. Well I buy that. I mean I think you are right, how you behave is important. There are lots of intellectual failures here, we mustn’t forget that. People talk about greed and so on, and that is part of it. But for example, to pick up your point about business schools, I think a lot of business schools – I wouldn’t particularly blame Cranfield – put far too much faith in some of these mathematical models. They essentially thought they knew more than they did. It was a genuine mistake, they weren’t fooling people, they genuinely thought they knew and they were mistaken. TT They being the business schools? The orthodoxy of business schools? The orthodoxy that capitalism and business schools come together? DM Yes, if you want to get academic articles published, it’s not easy if you are taking a line completely divorced from most other people in your field – it isn’t. TT So in your classes you would say stand up and disagree with me? SR I would say that the greatest gift, if you like, that we can impart is the encouragement of people to take a different view when they feel it is merited and to have the courage to stand up and defend it. And one of the problems, I think, and perhaps all business schools are a little guilty of this, when the prevailing wisdom seems to be pushing in such a strong direction the people who stand against, or who query it, they are seen somehow or other people who didn’t quite get the message. DM Trouble makers. SR That’s right. Rather than something to be encouraged. But if only we had had in the boardrooms of those banks some powerful voices for people to say what is going on here? Just wait a minute. DM Yes, it is very easy to say that from outside – I agree with you. But the pressures, the behavioural pressures on people to conform are enormously high and there is quite a lot of evidence on this as well. TT So if nothing else, we would breed a class of people that could say no? DM Or could say I don’t understand, could say I am not going along with it. I don’t know whether I know whether I agree or disagree, but I am not yet convinced. That is a kind of half way house which is better than where we Page 6
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are. TT John? JG I think it is also important rather than us turning people out, training people in this way, is to make them actually aware that if you want to aspire to a position of leadership that this is a behavioural response that is required of you. Whether we can actually train that into somebody I would question, but I think that we actually need to make them aware that that is a competence that they must exhibit. And frankly if they don’t exhibit that competence of courage, of a willingness to challenge what you might call wisdom, then maybe they are not appropriate for those leadership roles. And I think that is one of the characteristics that have been missing. DM Can I make a comment? TT Last comment. DM When we used to have written reports here, often the chap who wrote what I regard as a wrong report got better marks than most others because he had to argue better to sustain his case. And I think John is right, we should encourage that behaviour. TT Gentlemen, we can go on for much longer, but thank you very much indeed. Page 7