I was fortunate enough to participate in this year’s Allied Social Science Associations meeting; not quite yet as a speaker but rather an attendee. Although I was only able to make two sessions due to some conflicting events this weekend, I made the most of them. The first was a session called Bailouts, Incentives, and Regulation as presented by Thomas Philippon of NYU. This presentation was pretty technical and bulky but it had some interesting implications. I won’t bore with the details but rather draw some connections with the more relatable of the two presentations.
History, Crisis, Institutions and Economic Analysis was presented by Oliver Williamson of Berkeley. I would like to share some interesting points given by the speakers, primarily Charles Calomiris of Columbia, Benjamin Friedman of Harvard, and Robert Shiller of Yale.
The financial crisis was not all about “too big to fail.” This was also an issue in the other more technical session, and an important one. The math shows that the size of banking institutions is not as important as is their systematic importance. The media got wind of the “too big to fail” cliche in 2007 and hasn’t let it go. Although the concept is still important in the response to the financial crisis, the misallocation of capital and finance was the bigger issue. It didn’t matter who owned bad equity, or bad debt, or bad derivatives in 2007. It could have been thousands of different banks rather than a concentrated few and the bailout would have still been a necessity to restore the market to a “healthier” state.
Economists didn’t predict the banking collapse, but we have done good work to fix the effects. Robert Shiller made a big point of this using the bill on financial regulation passed this last year as evidence. The bill imposes some big changes in financial regulation that have been suggested by economists since 2007. Although the bill does miss big points, it is a step in the right direction.
It is time that economists seriously start questioning whether our financial institutions do the job they are supposed to. Finance is supposed to allocate capital, yet the crisis in 2007 was all about the misallocation of capital - a lot of it. Can we really expect our economy to function properly if financing is more of a gambit than an example of the invisible hand at work? I think not.
Over the next year I will probably address some of these issues more in-depth. Be excited.