Capital Markets: Do We Really Need Them?

Capital Markets: Do we really need them?

The current credit crisis is bringing forth calls for financial reform: We need to reregulate capital markets. We need transparency and accountability. (In a just society financial accountability would involve jail sentences. Robbery is robbery even if the criminal has an Ivy League education and wears $1000 suits.). Financial institutions which are 'too big to fail' need to be broken up. And so forth.

These ideas are reasonable enough if your goal is to prop up capital markets and keep them functional for as long as possible into the future. If, on the other hand, your goal is to create a system of economic production which has long term stability, then these proposals are wholly inadequate. Capital markets require composite economic growth for proper functioning. This is not a controversial assertion. Read Adam Smith, whose advice was to make sure that you live during a period of continuous economic growth because otherwise you will be royally screwed. If anyone out there believes that they have discovered a new form of arithmetic which allows them to conclude that capital markets will work just fine in the absence of composite growth please don't bother explaining it to me. I have better things to do with my time than to get into arguments with the inventors of perpetual motion machines. I know, of course, that many people believe that the end of economic growth is not near at hand and that some combination of investment in new energy sources and higher efficiency can comfortably drive many more decades of global economic growth. My best engineering judgment (which may or may not be worth very much) tells me that such people are wrong. But even if they are right, I do not see why keeping the pedal to the metal with respect to growth until physical necessity forces us to ease off is an intelligent policy. In a finite world sooner or later we have to shift our economic focus to maintaining human physical and psychological health (the only economic outputs worth producing) with a minimum amount of production and consumption. The sooner we begin this shift of focus the less likely we are run into problems of disastrous overshoot in our use of resources. Capital markets are a terrible tool for achieving this new kind of economic goal.

Of course, the minute you challenge the usefulness of capital markets as an economic tool people start raising the specter of the man-eating socialist monstrosity which any person with half a brain knows is the only alternative to capital markets. Perhaps I do not have even half a brain, but it seems to me that the financial universe has room for more ideas than those contained in the Wall Street investment bank and the Soviet five year plan. What about public finance? What if the extenders of credit were not investment banks, mutual fund managers, insurance fund managers, and so forth but public banks whose reserves consisted of tax monies. The purpose of these banks is not to increase shareholder value as rapidly as possible and line their own pockets in the process, but rather to make sure that vital forms of economic production are carried out in a continuous and uninterrupted manner. If a business needs an infusion of cash they go to a appropriate bank and request a loan. The bankers evaluate the request in the light of the importance of the product being produced, the likelihood of eventual repayment of the loan and so forth. If they deem it in the public interest that credit should be extended to the business in question then they do so. Since this is a process of investment as a public service there is no need to charge interest. Such banks could also advance credit to startup enterprises which are deemed to represent a worthwhile risk. The bankers should receive salaries for services rendered, and their income should not depend on the volume of loans that they float.

Such public banks could also turn down requests for credit on some other basis than the risk of short term loss. Suppose some entrepreneur comes to the banker with a proposal to manufacture some new form of home entertainment system with a wall filling screen and incredible 3D special effects unheard before in the video industry. "They will sell like hotcakes," the entrepreneur assures the banker. The public banker scratches his chin and says, "Yes, they may well sell like hotcakes over the next several years, but given the long term resource situation, manufacturing such systems in probably not a wise choice. I am going to have to decline to extend you any credit for this project."

You may ask what will happen to private investors if public finance becomes the norm. The answer is that they will have to get used to making money the old fashioned way: by working for it. What a concept! I never cease to be amazed by the number of people who call themselves 'conservatives' who tout the virtues of hard work and self-reliance, and at the same time believe that the right of rich people to get richer without lifting a finger is the only basis for a moral society.

One objection to such a system of public finance is the claim that such public bankers will inevitably be dunderheaded bureaucrats who are incapable of recognizing a good investment opportunity even if it hit them over the head with a sledgehammer. Only ruthless, heartless bastards, who are trying to get rich quick can possibly make intelligent investment decisions. It is strange, though, how the ruthless bastards running Wall Street now do not seem to have shown much intelligence with respect to the long term health of our economic system. I am extremely skeptical that short term greed can be turned into long term intelligence simply by passing a bunch of rules and regulations. If you want someone who is making investment decisions to display long term economic and ecological intelligence, then you have to make such intelligence part his or her job description. Even in the glory days of the post WWII economic expansion governed by the Bretton Woods system of monetary management there was not an investment banker in the world who acted as a steward of the earth's resources.

If the idea of investment as public service is a laughable joke, and if human beings are incapable of foregoing any short term luxury for the sake of long term economic stability, then civilization as we now know it is doomed. In this case attempting to prop up capital markets for as long as possible in the hopes that some other set of poor bastards will be left holding the bag when resource overshoot brings the growth party crashing down has a certain cynical logic to it. You will have to pardon me, however, if I do not sign up as a working member of this school of 'thinking'.

September 25, 2008