Ethical reflections on the financial crisis 2007-08 and the subsequent recession
Chapter One. Introduction
Abstract:
In this introduction I sketch the problem I will address in the book: the financial crisis 2007-08 and the subsequent
recession. I point to the fact that notwithstanding Adam Smith’s defense of the free market he also points to a role for
the government in promoting a well-functioning economy. I quote Adam Smith’s argument for the necessity of
governmental oversight of banking. We contrast this to Greenspan’s naive belief in self-regulation of the banking
system. We document Greenspan’s opposition to banking regulation.
Key words: Adam Smith, Financial Crisis 2007-08, banking regulations, Greenspan, merit goods, the new
economy.
Chapter Two. Adam Smith and the Free Market
Abstract. In this chapter I show Adam Smith’s great admiration for the new free market economy
exemplified by his report on the enormous productivity of the pin-factory. Smith attributes this great
productivity to the division of labor which allows workers to specialize and which encourages them, out
of self-interest, to look for machines to help in their work. On the demand side, the new economy relies
on the human tendency to barter where self-interest replaces friendship as the means to get what one
want. This tendency to barter entices the system to produce what people want at the cheapest possible
price. This is, according to Smith, the presence of a kind of “invisible hand.” It is not the result of a
(government) plan.
Next, I show that Smith, provides an argument that the help of the government is needed in the case of
the provision of roads thereby prefiguring the modern concept of public goods. I show how Smith
anticipates the modern concept of merit good in his discussion of education, monopolies and the need
of governmental control of banking. Smith even discusses the danger of lobbying to influence the
regulatory power of the state.
Key words: Adam Smith, the new economy, self-interest, tendency to barter,
invisible hand, public goods, merit goods, function of the government, banking
regulations, lobbying.
Chapter Three: The Concepts of Private, Public and Merit Goods
Abstract:
In this chapter I expand on Adam Smith’s observation that roads and education cannot be
conceptualized satisfactorily by the concept of private goods. The concepts of public and merit goods
need to be added. I reduce the eighteen different characteristics of public goods, found in the economic
literature, to the two crucial ones of non-rivalness in consumption and non-exclusion possibility of nonpayers. I build upon the partial insight of Samuelson to claim that the three concepts of private, public
and merit goods are ideal concepts which can be present jointly and in degrees in every economic event.
Given that both Samuelson and Olson show the need for the government to make, in some cases, a
decision without sufficient scientific evidence (Samuelson) or on ethical considerations (Olson) I argue
that the concept of public goods demands the ethical concept of merit goods, introduced by Musgrave.
I provide the different definitions and justification given by Musgrave. A discussion of the secondary
literature allows me to strengthen Musgrave’s own confession that he has only been able to give a
partial justification of the concept of merit goods. I announce that in the next chapter I will provide a
Kantian inspired justification for merit goods.
Key concepts: public goods, merit goods, non-rivalness in consumption, non-exclusion possibility, ideal
concepts, Samuelson, Olson, Musgrave, leadership/learning, interdependence of utilities,
redistribution.
Chapter Four. Business Ethics and Eleven Categories of Merit Goods
Abstract: In this chapter I add the concept of merit goods to the concepts of public goods and
the free rider problem as one more economic concept that can be useful in the vocabulary of
business ethics. Musgrave defines merit goods as goods that are so meritorious that the
government has the right to interfere with consumer preferences. Thus the government can
subsidize education and even make it obligatory. Musgrave (and I agree) stresses the fact that
the concept of public goods is quite different in that in the provision of public goods the
government intends to respect the wishes of consumers. I then provide a Kantian argument to
justify and limit merit goods and I provide eleven categories of merit goods. I provide an
example of a failed merit good implementation. The food business was successful in
preventing the government’s implementation of the merit good program for breast feeding.
Our question is whether and when business leaders have the obligation not to try to stop the
implementation of a proven merit good. At the end of the chapter I argue that the idea of
merit good expands the notion of stakeholder beyond what the concept of public good is doing.
Key words: business ethics, financial crisis 2007-08, breast feeding, ethical conflicts, public
goods, categories of merit goods, property rights, economic efficiency, education, safety net,
public health measures, well-functioning social contract, transparency, strategic planning,
environmental protection.
Chapter 5. The ethical and socio-political dimensions of the financial crisis of 2007-08 and the
subsequent recession
Abstract:
In this chapter I make use of the publications of Reinhart & Rogoff, Reich and Rajan to understand the
causes of the financial crisis of 2007-08 and the ensuing recession. Reich and Rajan go beyond a purely
economic analysis and introduce socio-political factors such as the income gap between the very rich
and the rest of society in the decade before the crisis, the lack of regulations of the financial sector, the
use of easy mortgages to keep the American dream alive, and the fraudulent treatment of some
mortgages and the derivatives based on them. These socio-political factors touch upon ethical
problems. I then argue that the ethical dimension in economic thinking has been captured by
Musgrave=s concept of merit goods. I then demonstrate that Reich and Rajan make use of seven of my
eleven categories of merit goods to explain both the financial crisis of 2007-08 and the characteristics of
the ensuing recession. I end the paper by showing that the American political system is currently not
capable of delivering the merit good decisions required for dealing in a reasonable way with the
challenges that led to the financial crisis and the recession caused by it.
Key words: Financial crisis, income gap, socio-political factors, American dream, regulations, recession,
business cycle, capitalism, merit goods, public goods, debt, education, safety net, health insurance, tail
risk, unemployment, cheap money, ethical.
Conclusion
Abstract: I here survey the content of the book. In chapter two I demonstrated that Adam Smith
argued for allowing the self-interest of individuals to be the motor of the new efficient free market
economy. Adam Smith saw a modest role for the government to deal with roads and education. I argue
that this insight leads to the need to develop the concepts of public and merit goods. I develop those
concepts in chapter three. In chapter four I develop eleven domains where the government has a
regulatory function. I call them the eleven categories of merit goods. In the last chapter I showed, on
the basis of the writings of Rajan, Reich and Reinhart & Rogoff, that the financial crisis 2007-08 and the
subsequent recession can be explained by deficient governmental actions in seven of the eleven merit
good categories.
Key words: Adam Smith, self-interest, individuals, competition, public goods, merit goods, eleven
categories of merit goods, financial crisis 2007-08, role of government, regulation of banks.