A few weeks ago, one WSJ excerpt sparked a nationwide parenting discussion and inserted the term "Tiger Mother" into the common vocabulary. Law professor Amy Chua's new book, Battle Hymn of the Tiger Mother, became an instant NYT bestseller, and news stories about her, her family, or the national debate would grace the covers of magazines from Time to People. Well, here at the Glom we thought it was strange that all kinds of folks were chiming in (David Brooks?) while we knew a big passel of other law professor moms who might be able to speak to the topic from experience.
So, we rounded up a whole bunch of rockstar lawprof moms with school-age children or younger to give us their take on the book on Monday, February 21. Usha, Lisa and I are chomping at the bit to blog about this a little more, and we've told the Glom Dads that they can certainly chime in as well. Joining us so far are Mehrsa Baradaran (BYU); Lyrissa Lidsky (Florida); Sarah Lawsky (UCI); Jennifer Collins (Wake Forest); Andrea Schneider (Marquette); Erica Hashimoto (Georgia); Michelle Harner (Maryland); and Miranda Fleischer(Colorado). I think the median number of children in that list is three, so there's a lot of fodder there. Like Prof. Chua, some of our participants have parents from other countries (Lyrissa and I are from West Texas, which may count as well). Like Prof. Chua, some of our participants have law professor spouses.
Just so you know what to expect, everyone is going to speak to the book. Not the author's family life or personal biography, even if some of our participants know her personally. We are going to speak of the daily balance that law prof moms face not only of work time and family time but also of inspiration and unconditional love. How does a mom sit on an admissions committee, seeing that the average admit to her alma mater has a near-perfect gpa and then go home and tell her child that grades aren't everything? How do we prepare our kids to mix in any sphere they want, including the ultracompetitive sphere we inhabit, while preserving their spirit? These are hard questions for me, and I'm looking forward to hearing everyone else's take on both the book as memoir and the book as challenge.
We're also interested in what our readers have to say, so we hope you jump in on the comments!
If you have spent a fair amount of time reading about the financial crisis, you are unlikely to be surprised by the broad outlines of McLean and Nocera’s book. But this book should still be required reading. First, the author’s are masters of the storytelling craft. Many scholars can examine the institutional and economic causes of the crisis, but McLean and Nocera can make these explanations vividly understandable. At the same time, they weave together a tapestry of stories of captains -- among them Angelo Mozilo, the management of AIG, executives at Fannie Mae, various regulators -- who sailed their institutions and the international economy straight onto the blackest of shoals.
However, what interested me most was not the treatment of the usual suspects, but how the juxtaposition of the various stories – the invention of mortgage-backed securities, the rise of Countrywide, the development of AIG’s credit derivative business – reveals subtler villains and difficult puzzles. Much of what I find interesting below may not strike you as novel, but the value of this book may be in getting us to look once more with fresher eyes at patterns that tend to submerge back into the vastness of the big picture of the crisis. The book still has me mulling over the following:
Making the numbers: the poorest decisions by financial institutions and regulators were driven by a monomaniacal focus on managing according to a single measure of success: Countrywide’s management was obsessed with market share, policymakers fixated on homeownership percentages, and, of course, short term share price preoccupied any number of firms. Perhaps the subtlest but most telling examples of management by numbers – both stupid and smart -- is the contrasting attitudes that Wall Street firms took towards measures of risk like “value-at-risk” (“VaR,” which measures the maximum loss that a firm could expect in its portfolio from specified kinds of risk with say a 95% confidence interval). The book contrasts banks such as Merrill Lynch, on the one hand, and their more sophisticated competitors like JP Morgan and Goldman, on the other. McLean and Nocera portray Merrill’s CEO, Stanley O’Neal, as being obsessed with massively and crudely increasing his firm’s risk solely to earn the same profits as Goldman. At the same time, the authors describe how banks that used raw VaR numbers as a lodestone failed to understand the limitation of VaR models – such as the fact that the model says nothing about the level of losses in the remaining 5% of cases (to use the above confidence interval). This created incentives for traders to game models by making investments that would not be captured in VaR figures – for example making trades with a low probability but high magnitude of potential losses to fit into that unknown 5%. Contrast this with the attitude towards VaR of both the metric’s creators at JP Morgan and the senior executives at Goldman; at these firms, the firm’s VaR number – which was often recalculated at the end of each trading day -- was seen as the beginning of the conversation on appropriate levels of risk for the firm, and not the end.
Most readers will likely be less interested in the limitations of risk management tools than I’ve been, but the more general lesson on the dangers of managing according to simple numbers has broader implications. Americans seem hardwired for lists and rankings (with the end-of-the-year bacchanalia of lists now upon us). The danger of making decisions based solely on “hard numbers” has dangers not only for industry, but also for government and statecraft. Think of how many Presidents set goals for increasing not only homeownership, but also for goals such as levels of college education or exports. What nasty tradeoffs, for example, irresponsible oversight of student lenders, are made in order to meet brute goals? Academics are not immune from this fixation with navigating according to simple numbers – witness the games played with school rankings (or even the obsession – heaven forbid – with law review placements and citation and download counts).
Bully cultures and dissent: it is also striking to see how the firms that fared the worst – like AIG and Merrill – suffered more because of a culture of bullying, in which risk management was not only marginalized, but dissent was squelched with screaming and naked power plays. Contrast this again with the portrayal of Goldman, which, by no means a warm and fuzzy place, nevertheless encouraged active discussion and debate on levels of risk-taking and potential threats to the firm. There is also a direct parallel to the tale of how Bob Rubin and Larry Summers responded to Brooksley Born’s concerns on the regulation of OTC derivatives during the Clinton Administration. I can be reflexively skeptical every time an academic brings up the fuzzy concept of “culture,” but the book makes a powerful case for institutional cultures in which dissent is allowed and ego is channeled.
Accounting scandals were the smoke, the fire came later: the experiences of both AIG and Fannie Mae may surprise in that accounting and regulatory scandals did not chasten behavior and risk-taking. Instead, they seem to have merely pushed risk-taking, as if hydraulically, to other parts of the organization. This may perplex many lawyers – wouldn’t you think that being called to the mat by the government would sober up a client and increase the leverage of the in-house compliance chaperones?
Instead, it appears that the competitive and cognitive dynamics of a continuing bubble dominate – something I examined in 2006. These dynamics radically alter decisions to comply with law and can far outweigh the effects of scattershot prosecutions and enforcement actions. Regulation through litigation seems a rather quaint idea after reading this book.
CEOs with J.D.s: speaking of in-house compliance guys, it is also striking to consider again how many of the ceos of financial institutions had j.ds – Rubin and Blankfein at Goldman, O’Neal at Merrill, Prince at Citi, Raines at Fannie Mae. I’m not sure what this means other than to explode the myth that going to law school makes one automatically risk averse. Might having a law degree counterintuitively mean that an investment banker has to take a convert’s attitude towards financial risk: become more Catholic than the Pope?
Where were the lawyers?: This question has been asked many times by many others, and unfortunately this book does little to answer the question. Lawyers and their role in the many fateful decisions of firms and agencies are largely degree absent from the book. But there are certainly clues. The book provides many examples of “siloing,” in which different groups within a firm did not share valuable information on risk – for example, the level of “stated documentation” mortgages being made – with other groups. This explains to a large degree how the build up of risk both inside a firm and system-wide was missed. Were lawyers unable to play the siren role because they were stuck in a silo or marginalized? Or was it their lack of understanding about finance and economics?
Or is perhaps the inherent conservatism of our profession also counterintuitively to blame? Think about how precedent works for transactional lawyers. If a model agreement has worked many times before, it may be less likely to be questioned anew. If a lawyer were to suggest new risk factors for securities disclosure what might happen? Likely there would be pushback and a request for an example of someone else using that language – in other words, a request for precedent.
Did lawyers fail to apply enough pressure on the brakes due to reluctance to displease or lose clients? Or was a broader shift in professional norms at work, in which lawyers saw their role as helping clients develop work-a-rounds for regulations rather than as counselors counseling compliance with the law. At a conference earlier this year, a friend of mine phrased the distinction as the difference between a role of “transaction cost engineer” (borrowing from Gilson) and one of “protecting the franchise” of law.
Answering the question of “where were the lawyers” has profound implications not only for scholarship, but moreover for legal education. Will the crisis cause legal educators to re-think what we do in the classroom? If so, I hope we move beyond simplistic calls for more ethics classes? Business schools (my apologies, David) have a patent on rolling out new ethics programs as a clockwork response to each new wave of scandal. Excuse my hearty skepticism about whether those courses really change the behavior of future bankers, or whether they are more window dressing to make donors and universities feel better. Ethics courses may help the conscientious be aware of difficult questions, but only rules – whether imposed by law or a community – will deter the true “bad man.”
So All the Devils was a welcome read, even in a busy season, because of all the thinking it has forced me to do. On a more abstract level, it has also made me think about my own scholarship as I continue to plow away on my own book. One limitation of McLean and Nocera’s journalistic account is that it focuses much on the individual decisionmakers – a version of a Great Man account of history. The reader may be left thinking “if only these individuals had made these particular choices differently.” Focusing too much on the trees misses the systemic forest of failures. Had Angelo Mozilo not pushed Countrywide deeper into riskier mortgages, some other firm would have taken its place. To McLean and Nocera’s credit, they do provide brief and accessible accounts of some of the scholarship on the meltdown – such as Gary Gordon and Andrew Metrick’s account of a “bank run” on the repo market. Still, the lion’s share of the book is devoted to the personal.
Yet the personal and narrative approaches can serve as a tonic for scholarship, my own included, that emphasizes economic and institutional forces and downplays individual decision-making. One limitation of this latter approach is that it may – although not by necessity – lead to giving short shrift to “softer” factors that contribute to crises, such as changing norms. Moreover, a focus on economic and legal changes may be misread to suggest that human agency has no part in the equation. For all the justified reluctance to inject morality into financial crises – and I do reject the idea that human nature changes from age to age or that greed was an invention of the last ten, twenty, thirty years -- downplaying the human element can lead to the trap of believing that all was pre-ordained by iron laws of history.
I'm very glad we all had an excuse to stop grading for a moment to finish All The Devils Are Here. I very much enjoyed this very readable, but extremely fact-based, account of the years leading up to the financial crisis. I also liked the way the authors drew a line from mortgage brokers signing up "hard money" borrowers all the way to investment banks dealing in CDOs and CDS's. Because really, one doesn't exist without the other, and that entanglement is the important part of the story. Finally, I think the most valuable part of the story is the Fannie Mae/Freddie Mac story, which just isn't given enough attention. Unlike other players, these GSEs are not only still here, they played a role in the attempt to stabilize the industry and were largely ignored by Dodd-Frank.
After seeing the title, I was surprised that the book wasn't going to come out hard for criminalization of some of the actions of the players in the book. Oh, there are plenty of sins here: sloth, gluttony, envy, pride. And most everyone in the book is painted some color of stupid, but few are devilishly (or criminally) evil. And no one escapes, regardless of party or ideology: Clinton, Bush, Obama, Summers, Rubin, Greenspan, etc. What the book lacks are any angels. There are Cassandras, but as in real-life, Cassandras (think Harry Markopolos) are a mixed bag. Some see it coming, but whine only as loud as they dare before annoying others (Ned Gramlich). Others try to warn, but their personalities get in the way (Brooksley Born). The picture that is painted is of lobsters egging each other on into a pot of water that is slowly heating up. A few lobsters beg off, but we really don't hear from them again (Dave Zitting, pp. 149-50). Most are afraid of being left behind if they don't join the party. Then they all realize the water is starting to boil.
The book is far too factually accurate to be called one-sided; however a running theme of the book is that financial innovation is bad. Or, that financial innovation serves no useful purpose and leads to ruin. Let me explain. The book traces the housing market from the post-war 30-year fixed to the first mortgage-backed security to the increase in subprime lending to the securitization of subprime to the "slicing and dicing" of MBS to synthetic collateralized debt obligations to credit default swaps. However, the book does not really analyze the utility of any of these innovations, even the home mortgage. (p. 6, noting that the 30-year fixed "is designed to allow middle-class families to afford monthly mortgage payments" but is "standard in only one other country (Denmark)".) We can all agree on the internal and external risks of financial innovation, but these innovations were not just innovations for innovation's sake. I would like to see some account acknowledge that good things came from the securitization of home mortgages. And, good things came from being able to "credit enhance" mortgages for the sake of securitization, through reinsurance or guarantees, and good things came from allowing purchasers to hedge their risk through credit default swaps, which give the market a lot more price information than the credit ratings agencies do. The authors mention some of these assertions, but put them in the mouths of actors already deemed devils, so they aren't given as much credit as they are worth.
Because this is the problem with prescribing a low-risk diet. We cannot go cold turkey. We can't imagine a United States without a mortgage product. For the capital necessary for lenders to offer mortgage products to this many people, we need some sort of securitization. Prudent investors will want to hedge this risk with products that counteract the risk. In a perfect world, this will decrease overall risk to as close to zero as possible. But, in a non perfect world, the need for liquidity will necessitate professional risk-takers (speculators), and overall risk will rise. Securities, even asset-backed securities, don't tank investors. Investors tank themselves. And some financial products look like tasers and some look like WMD. How to regulate? This is a big question, and understanding and acknowledging the tension is important.
I think one great example of this tension between positive utility and negative utility is Chapter 22, which details how the GSEs began expanding its subprime mortgage debt IN THE SUMMER OF 2007!! Why? Because it saw an opening, as mortgage firms were failing, and the government saw a need. To keep the system going, the GSEs had to step in when other buyers couldn't, or there would be no new mortgages. So all the risk in the system became concentrated in the one place that would hurt taxpayers the worst, but for the sake of allowing taxpayers to keep refinancing their mortgages. That is not any easy knot to untangle, my friends.
The book has a lot of fodder for those who like to ponder what ifs and alternate regulatory worlds!
Joe Nocera, my favorite Times columnist, was willing to answer some questions about All The Devils Are Here, the subject of the Conglomerate's latest book club. Your interviewer (that would be me) was probably trying a little hard on the questions (they are very long!), but the answers do try to make the best of them:
All The Devils Are Here pays a lot of attention to the way that government policy and regulation facilitated the crisis, as opposed to corporate misconduct (though you talk about plenty of that, especially in the mortgage industry). Is it fair to say that one of the themes of the book is that misguided government policy was the sine qua non of the crisis? And if so, do you think that government policy can be rejiggered to prevent this sort of thing from happening in the future?
Misguided government was a big factor, no question, in all sorts of ways, some known, some not so well known. For instance, it was the government that gave the big three ratings agencies, Fitch, Moody's and S&P, their special status, meaning that pension funds, money market funds and others could invest in securities that had an investment grade rating from any one of the big three. Government looked the other way at the subprime abuses. And government refused to do anything as derivatives became increasingly important in finance, and created systemic risk that had never existed before. But even so, government was only one leg of a three legged stool. The other two legs were the rise of the subprime companies, which handed out loans that borrowers could never hope to repay, and Wall Street's voracious appetite subprime mortgages it could bundle into Triple A securities. There is also another factor: the universal belief that housing prices could only go on one direction: up.
Business law scholars think a great deal about how the corporate form can facilitate good business decisions. But financial institutions tend to use corporate governance best practices (no poisons pills, dual class stock structures, plenty of outside, if not always qualified, directors), and yet have extremely high levels of insider compensation, regularly exercise poor risk management, and so on. You’ve looked at the way the banks were run during the crisis; how did you think their corporate organization affected their performance, if at all?
It is important to remember that most Wall Street firms were partnerships before they became corporations. When they took investment risk, they did it with the partners' money; when they reaped rewards, it was the partners who put those rewards in their pockets. Once the partnerships became publicly traded corporations, they were suddenly freed from the fear that losses would come out of their own pockets--it was now shareholders' money they were putting at risk. Yet their view of compensation never changed: the vast majority of the gains they made went not to the shareholders, but to themselves. Most Wall Street firms put aside more than 50 of revenues--not profits, but revenues--for compensation, an astounding figure. That is why there was so little brake on the riskiness, and even the foolishness, of the risk-taking: all the incentives went in the opposite direction. Having a corporate structure, in no small measure, created those warped incentives.
Economists almost always write collaboratively, legal scholars sometimes do, and it seems pretty uncommon in business journalism. How did the collaborative process work for you two?
Bethany and I are like a tennis doubles team that has been playing together for a long time. We know each other so well, we can anticipate where one is going, and we each know the others' strengths and weaknesses. We have been working together, on and off, for some 15 years, most of that time at Fortune, where I was an editor and Bethany was a writer. We worked together on The Smartest Guys in the Room, which I helped to edit. And this time around, we divvied up the reporting--she took on the subprime companies, Goldman Sachs, Fannie and Freddie, among other topics, while I covered Merrill Lynch, AIG, the Clinton era in Washington and so on. Bethany is a great reporter and a brilliant thinker, who is also one of the fairest journalists I know. I am a better editor and stronger on narrative, She pushes me to think things through better; I push her to write her chapters in a more story-telling fashion. And since we both know that about each other, we never fight. (Well, almost never.)
Welcome to the Conglomerate's book club on Bethany McLean and Joe Nocera's All The Devils Are Here, their comprehensive account of the financial crisis and the progenitors of same. What the book does, and what few other financial crisis books have done is to take a longer, more synthetic view of what went wrong - this is no tick-tock. I'd compare it to Gillian Tett's Fool's Gold in that worthy endeavor. Here's what I found particularly notable about the McOcera take:
- It's all about regulatory failure. The book is no screed against government incompetence, but it is focused on how the government's moral hazardish support of the housing market led to tons of problems. And then when the crisis develops it (correctly in my view) concentrates on the government's response. I think the financial crisis illustrates the way that Wall Street has become entwined with Washington, and so I think this is the right focus. The last paragraph of the book quotes Lewis Ranieri: "What should the government do?" It's a question that can get lost amid all those Wall Street titans.
- Paul Volcker, everyone's hero, was a Fannie Mae lobbyist - that's a nice nugget.
- It's all about housing finance to these guys, and there, the hardly propitious outer planets of the business - thrifts in Long Beach, for example - turn out to have been critical, if fraudulent players. It's not an area that has gotten nearly enough play - until this book.
- But there's an eclectic choice of subjects here - good stuff on mortgage makers, credit ratings, Frannie, and Hank Paulson. Less on other stuff. So that's how you know what they think is important.
I think you should get the book. My co-bloggers may have different perspectives on its perspective, of course, and I'm biased towards taking the government view on anything. So we can all look forward to a good, and interesting, book club. Do weigh in with your views.
We'll be talking about Bethany McLean and Joe Nocera's financial crisis book tomorrow and thereafter, and Joe Nocera will answer some questions, too. Join us, won't you, and weigh in with your thoughts, too. Here they are on the Daily Show, to whet your appetites.
We'll be reading Joe Nocera and Bethany McLean's All The Devils Are Here on the blog starting December 16, and just to whet your appetite, we'll be posing some questions to Joe Nocera (who will answer them!) when it happens. Do read along with us, and let us know what you think.
Please join us in December for the next Glom book club, on Bethany McLean and Joe Nocera's All The Devils Are Here, their account of the financial crisis, which, thankfully to this reader, is both heavy on the governance and the finance in equal portions, and not a tick tock, but a broader view of the unpleasantness and the steps that led to it. You've got a month to read along and join us, so please do exactly that! Here's Nocera on the book for New York, an entertaining Deborah Solomon style interview.
This list of the Top 50 book clubs. We don't have a book in the queue right now, but perhaps you could recommend one? I am still reading The Facebook Effect by David Kirkpatrick and enjoying it, but I don't think it's a good candidate for our Book Club. What's the next big thing in business law?
We recently reviewed
I sincerely thank Professors Larry Cunningham, Lyman Johnson, and Mae Kuykendall for their gracious and thoughtful ‘Glom reviews of my book, Out of Crisis: Rethinking Our Financial Markets. Gratifyingly enough, the reviews have been reposted widely, reaching even economists. See here. I will say, however, that the ‘Glom reviews of my book were all quite sweet, and maybe a bit of lemon would be good. So, rather than succumb to the vanity of replying directly to positive reviews, I’m going to indulge in the anxious pleasure of attacking my own book, and perhaps suggesting a somewhat dark view of our situation.
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Out of Crisis may be divided into three movements. The first movement, a radical reassessment of financial policy orthodoxies in light of the recent crisis, is mysteriously treated by Westbrook as if it were something analytically obvious that nonetheless needed to be said in Washington and perhaps Chicago. But, writing as a professor, one is obliged to go through the motions of analysis, however unconvincing, and at least Westbrook does so without wasting too much ink.
The third movement, a host of practical suggestions, is also both conventional and idiosyncratic. Again, though, professional obligations give Westbrook some excuse. Authors working in this idiom are required to be normative: “my analysis is ________, and therefore we must _________.” Of course what some professor says must be done, and what in fact will be done, is hardly the same thing. However, the fact that he is obscure does not relieve him of the professional duty of utopian design, and Westbrook delivers some modestly entertaining, if overly radical, suggestions. For example, he argues that the federal government should nationalize and liquidate major banks in trouble, as opposed to the government’s sensible policy of injecting massive amounts of capital and extending open ended lines of credit while “pleading” for the resumption of lending. Silly stuff, but kind of fun.
The book’s raison d’etre, and the focus of this review, is the second movement, in which Westbrook explores (or imagines) the possibility that this intensely capitalistic nation might reconceive its financial markets. Financial policy, he says, has an intellectual history. Alan Greenspan was right when he told Congress that the intellectual edifice collapsed. And if the house of finance has collapsed, then what might be built out of the ruins? On this sandy foundation, Out of Crisis simply goes to work imagining financial markets in new terms, suggesting new “metaphors” for marketplace action, and the like.
The book’s temerity is astounding, and, of course, unjustified. Even though economics – and so financial policy – has understood itself as a science, in which knowledge accumulates, Westbrook blithely assumes that financial policy changes over time, as if finance were merely one of the humanities.
Second, Westbrook takes it as given that the intellectual edifice collapsed, and that to think otherwise is to argue Ptolemaically after Copernicus and Galileo. It must be admitted that many recent steps taken by the federal government, e.g., refusal to mark bank assets to market and bans on short selling, conflict with neoliberal economic orthodoxy, e.g., that financial markets are informationally efficient. Surely, however, such deviations are anomalies. The vast majority of policy proposals are rightly grounded in a very traditional imagination of the economy, especially financial markets. Greenspan misspoke; we in finance still know what we have long known and taught.
Third, Out of Crisis simply asserts, on the basis of recent unfortunate events, the proposition that our policy elites – in the academy, in the government, and in the private sector – will seriously rethink the role financial markets play in U.S. and indeed global society. But why? Our leaders, fortunately, remain very privileged. Acknowledgments of error, much less apologies, have been few and far between, no doubt because this crisis was caused by a shifting of the tectonic plates, and the resulting tsunami. Moreover, finance is serious business. Nothing in the training or dispositions or raw talents of our financial leaders inclines them to reinvent themselves, and that is as it should be. Westbrook provides no clue why mature dogs should want to learn new tricks, for the simple reason that we do not, and should not. It is now over two years since the Fed opened the discount window to investment banks, and by working together, we have done quite well, without the disruptions of a substantial reform.
Fourth, the book offers “new metaphors” for thinking about financial markets, and proposes massive legal changes, and the wholesale reconsideration of attitudes toward business and finance. On the basis of what? This is not the usual unjustified normative argument that we have come to expect from law professors. Out of Crisis is a strangely American and bizarrely bureaucratic fantasia, like some love child of Max Weber and Joan Didion, conceived during a long road trip. For all his irritating cosmopolite pretensions, Westbrook seems to think he is writing from the fulcrum of the nation, perhaps in the Flint Hills, and like farmers since the founding of the nation, he does not like what he sees in the big city, on Wall Street. And so, in the long populist tradition, he simply imagines another financial world, a better American capitalism.
Which brings me to the fifth and most important failing of Out of Crisis: its perverse patriotism. Westbrook acknowledges that transparency and portfolio management are inherently antagonistic, and that we are “tragically” condemned to suffer marketplace dangers. Rather than concede the futility of trying to regulate global capitalism, however, Westbrook desperately argues that the antagonisms within our political economy should be managed by law. More dramatically and in very old-fashioned liberal style, he imagines that we can, through law, shape or even “construct” markets.
But how, in a country as vast as the United States, could one find agreement on how a market should look? More deeply, Westbrook’s hope that political economy can rest on the public, legal, and even democratic management of contradictions within finance heroically assumes a consensus on political economy, publicly minded leaders, and a society in which both the rich and at least the middling believe in those leaders. Westbrook assumes, in short, a commercial republic, evidently unaware that republics are unstable, and that this one is long gone, as the Supreme Court made clear this past week in the Citizens United case. At this juncture in our history, Out of Crisis is quixotic.
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Perhaps presuming oligarchy would have resulted in a stronger book. In that case, my arguments about how our government should address the financial crisis would be grounded on essentially aristocratic virtues. And surely our financial classes could use a finer sense of honor, more profound loyalty to our institutions, and greater compassion for what Leona Helmsley famously called “the little people,” employees and consumers and the like. It would be a fine thing if investment bankers had a modicum of decorum; those of us in the academy would enjoy life more if we conducted ourselves like gentlemen intellectuals instead of professional knowledge workers. And given that these discussions take place well within the top 5% of the population, noblesse oblige seems appropriate.
Those things said, I cannot discuss politics in essentially aristocratic fashion without acknowledging that in some significant ways both the American experiment and the forms of globalization with which I have made my peace are over. And at least this winter, Sancho, I’m unwilling to do that.
Our three reviews of Bert Westbrook's Out of Crisis: Rethinking Our Financial Markets (here, here, and here) are getting some attention from economists. See The Economist's View and Open Economics. The latter is particularly sympathetic to Bert's argument:
What we have here, then, is a very alternative narrative of the crisis, one that delves into root causes that go far deeper than economists dare tread. It seems that Westbrook goes even deeper than the Polanyian notion that markets are embedded in a social and political structure. They are also constructed by society and by language. There is no recourse to the simplistic notion that, “in the beginning there were markets.” Maybe there were markets from an early point in human prehistory, but our markets are just as much a product of our discourse on how economies function as they are a result of institutions.
Our final review of Bert Westbrook's new book, Out of Crisis: Rethinking Our Financial Markets comes from Larry Cunningham, who is the Henry St. George Tucker III Research Professor of Law at the George Washington University Law School:
With Out of Crisis, David Westbrook has written a characteristically rich, critical and original narrative of the financial prevailing economic calamities and what to learn from them. As with other books on the crisis, he identifies the widely, though superficially, recognized culprits. These range from rating agencies to investment banks to exotic financial instruments incubated with little government oversight to faith-based embrace of risk management models and modern finance theories. These analyses, woven throughout the book, would help any reader unfamiliar with events or their theoretical context understand them.
They are also insightful, offering perspectives not only from law and finance but from political science, sociology and philosophy. This approach makes the book rewarding for those already familiar with the basic facts. More valuable, it enables the book to develop and defend its broader thesis, a trait that distinguishes this book from most others attempting to explain the crisis and prescribe corrections.
What’s especially distinctive about Westbrook’s account is how it offers to locate both diagnoses and prescriptions arising from prevailing calamities in a broader framework of social and political organization and institutional design. It shows how inadequate attention to this larger conception misleads debate, both before and since the crisis, into false dichotomies. These manifest in such overly simplistic contentions as the relative efficacy of government regulation versus private ordering. Out of Crisis offers to transcend them.
The false dichotomies arise because of preconceptions about distinctions between government and markets. Those can obscure the deeper reality that both are products of social organization. The issue is not whether or how government should intervene in markets, an interminable and fruitless debate that hinges on people’s relative confidence in markets to self-regulate efficiently versus that in governmental capacity to regulate effectively.
Out of Crisis explores a more complex and interwoven approach to both diagnosis and reform. It conceives the relation between regulation and markets differently than prevailing talk. Markets do not arise or arrive bearing inevitable or immutable traits, rules or roles. They are instead products of particular features of social and political organization whose participants help to shape their attributes and functions.
If so, the theme modestly emerges, debate must not dwell upon simple trade offs between regulation versus markets. People must appreciate that markets are social and political products and that participants in effect choose what design features particular markets should offer. The book at this stage announces its modesty and does not labor over exactly what corrections or changes should be made or how. But it succeeds by inviting a line of thought that could lead participants to think about their own prescriptions in those terms.
This thesis contains at least an implicit rebuke to ideologues of the left and right alike for excessive devotion to false positions. In this it shares something with Richard Posner’s recent account of the calamities, A Failure of Capitalism. Posner’s and Westbrook’s theories of markets appear to differ greatly, with Posner more vested in the inevitability and durability of basic principles and iron laws of economics being instinct in markets. But given how these distinguished scholars, coming from such different economic, philosophical and legal perspectives, can share the more vital thesis they both contribute makes me hopeful that we all will yet learn something of enduring value from this devastating crisis.
Our second review of Bert Westbrook's new book, Out of Crisis: Rethinking Our Financial Markets comes from Lyman Johnson, who is the Robert O. Bentley Professor of Law at the Washington and Lee University School of Law and the Laurence and Jean LeJeune Distinguished Chair in Law at the University of St. Thomas School of Law.
David (“Bert”) Westbrook’s new book – Out of Crisis: Rethinking Our Financial Markets – is a challenging read, but one that pays a good return, and I recommend it to the non-faint of heart and mind. The book is a challenging read, stylistically, because it contains numerous parentheticals that frequently hobble the flow. Bert has a tendency to pack a great deal of additional information, references, or allusions into already-weighty sentences.
The book, more importantly, is substantively challenging, in the best sense. It “challenges” emerging accounts of the recent financial crisis – what Bert calls the standard narratives – as evading a more fundamental examination of root causes, one not easily reducible to a clean storyline or obvious policy prescription. Bert sees the crisis as an occasion of such colossal failure that it demands a bold rethinking of how we conceive finance, regulatory policy and modern capitalism itself. It seeks to be a sophisticated and “inside” critique, but one launched at a very basic and ideological level. Bert laments at length and with great insight, but he also offers a general way forward.
The book, early on, states that it seeks to revive and extend a “social understanding of markets” running back to Veblen, Weber, Durkheim and other social theorists though, in fact, Bert later seems to equate “social” with “political,” a point to which I will return. He also early on makes the critical, often lost, distinction between “uncertainty” and “risk,” and he clearly states why he is extremely skeptical of self-regulation grounded on claims of market efficiency and human rationality. Reminiscent of philosopher William Barrett’s The Illusion of Technique, he also decries excessive reliance on even greater technical savvy or information as the hallmarks of a path to reform. He considers political (D.C.) Masters of the Universe to be as flawed as private (NY) Masters. Too much hubris for Bert, though ultimately he makes a necessary peace with both.
The book carefully lays out how modern financial innovation has dramatically enhanced the liquidity of all sorts of property through the sophisticated use of contracts. This permits leverage and necessarily entails widespread efforts at risk management via diversification, hedging, and insurance. Risk (unlike uncertainty) can be successfully managed, Bert argues, under certain usual conditions, but not all. Moreover, financial complexity often reduces transparency – a mainstay of our regulatory approach − thereby creating that dreaded uncertainty. Furthermore, the remarkable degree of assumed liquidity in financial markets makes financial institutions − and the whole economy – highly vulnerable to a swift loss of liquidity. This is due to the extraordinary interconnectedness and interdependence of modern financial markets and products. And this brings Bert squarely to his thesis: the social side of markets.
A contracting party is affected not just by its counterparty but by all of its counterparty’s counterparties. And so on. When uncertainty arises about ability to perform, risk management techniques do not help; in fact, they may exacerbate problems. Caution sets in, and if sufficiently widespread, financial liquidity “freezes” throughout the entire system. Financial fates in our country therefore are interconnected, whether one is virtuous or vice-driven. For Bert, the recent crisis, above all, displays the extraordinary social danger attendant to the inevitably social nature of modern finance. As a matter of political theory, then, Bert suggests we break out of the conventional analytical dichotomy between emphasizing one or the other of “the (free) market” and “the (regulating) government.” Rather, markets themselves are one mode of shared governance and they should be deliberately and democratically constructed to achieve certain societal goals and avoid certain perils.
This is the greatest contribution of Bert’s book. Although it goes on, especially in Chapter 9, to lay out broad policy ideas – I especially like his willingness to consider scale of operation as a problem and decentralization as a solution − his chief goal is to overcome the customary ideological insularity of finance and economics and situate them squarely in political economy. Here he uses delightful metaphors. I have always liked the rules of basketball for seeing the constructedness of market rules, and the occasional need to change them, and Bert obliges here. He also uses the splendid image of cultivating a garden.
I will end with one final observation. Bert’s wonderful book would be even better had he not emphasized only the government as a “social” actor. Our social terrain – and so our thinking about markets – can be more intentionally and beneficially shaped by other civic institutions: schools of all sorts, but certainly business and law schools; religious institutions; and a host of non-government organizations that powerfully shape beliefs and customs. Broadening the conversation Bert seeks will give more of us a voice in how to shape markets as well as heighten our own sense of responsibility. This can aid in overcoming another disheartening attribute of modern finance: most of us feel we are participants in a financial system we do not make but cannot leave (Bert – Sartre’s No Exit?). To democratize capitalism requires, to be sure, renewed thinking about government’s role in finance but it also demands fresh thinking about finance in many other venues. Bert’s provocative book invites that dialogue.
We are very pleased to host a series of three brief reviews of Bert Westbrook's new book, Out of Crisis: Rethinking Our Financial Markets. The first of our reviews comes from Mae Kuykendall, Professor of Law at Michigan State University College of Law:
Our recent economic surprise confounds us. In OUT OF CRISIS: RETHINKING OUR FINANCIAL MARKETS, David A. Westbrook (“Westbrook”) demonstrates that no ready-to-hand view of the economic meltdown works. In his view, the astonishment at these events by our political class reveals a crisis of the post World War II understanding of modern finance. We have before us an opportunity and a need for principled thinking freed of the shattered consensus of an ancient regime in which most of the academy and the political class are paid-up members. The need to comprehend the most promising role for government in rescuing us from crisis and preventing recurrence of that crisis is urgent. Westbrook hopes for something better than the recent past.
Westbrook draws on his wide knowledge of law, finance, literary theory, cultural anthropology, and political history to guide us through our recent disaster and introduce us to the looming hazard of having lost an elite consensus on which policy and day-to-day business is predicated. Westbrook’s framing of analysis could hardly be larger, yet a contrast is useful in recognizing the scope of his effort. The contrast to Westbrook of considerable interest here is CARMEN M. REINHART AND KENNETH S. ROGOFF, THIS TIME IS DIFFERENT: EIGHT CENTURIES OF FINANCIAL FOLLY. I hope I do not break the rules of this forum if I use a second book to set off in relief the ambition and importance of Westbrook’s undertaking.
In brief, Westbrook offers considerable detail about regulation, financial products of recent vintage, theories of risk and uncertainty, responses to our crisis, the conceptual error in a view of the market and the state as distinct and separate, and other analytic pitfalls and opportunities. He also offers his own unique voice; for those of us who know him, we frequently hear Westbrook’s (Bert’s) mildly zany chuckle punctuating his interpretation of just what “we” have done of late. By contrast, Reinhart and Rogoff offer the standard voice of the dismal branch of social science to convey a “quantitative and historical analysis of crises, “ using financial data, especially about debt, compiled to permit an eight-century comparison. In a mild boast, they tell us, Charlie Kindleberger had narrative, but we have data. Their book is organized around the visual presentation of a massive data base, carried along by a voice of historical interpretive summation and psychological distance.
Westbrook identifies an intellectual problem in the moment and provides a warning about habit. Professionals in finance and law must not assume a reversion to the mean that the idea of crisis can imply, he says. We would love to proceed by assumption: take two aspirin and assume the usual correction to the business cycle. But Westbrook suggests, we’re not fine. We’re in peril, without a governing paradigm and at risk of letting simple stories substitute for “conceptual renewal.” We must at least conjure enough theory on which to predicate action. For the peril could be more than financial; it could be a watershed for democracies.
Further, Westbrook argues that the prevailing orthodoxy has left us with a reconstruction project. Confidence in markets went too far and burrowed into our institutional design, giving support to the echo in financial failure of the catch phrase of euphoria in the Reinhart and Rogoff title: “This time is different.” For Westbrook, “This time the failure is different,” and waiting for a reversion to the mean is to be passive in the face of institutional and, Westbrook tells us, political crisis. Parts of the reversion—and tracings of the mean-- are showing up on time. But, the failure was too great. The dislocation hurts human beings. And we have lost our paradigm.
Rogoff and Reinhart have the unfazed tone of their professional mission: macro-economic analysis and the presentation and management of data. Their primary message to the reader: “We have been here before.” With centuries of data comes insight. So their biggest plea for the future of sound finance is data. Give us data.
Westbrook combines the recognitions of one versed in post modernist readings of text with a keen sense of our common operational responsibility for immediate action. He gives us prescription at a grand level—a call for conceptual renewal within the “discursive community” of finance and a recognition that finance is now concerned with a web of legal contracts, or words, instead of the tangible things traditionally connected with measuring and preserving value. If we recognize that finance is about politics and law and interconnected contracts, we come face to face with the intellectual problem. Pricing is not so simple as the assumptions of a shopworn model suggest, and data are not much help to repair a fallen model. Having given us theory, Westbrook then pulls us through a look at the “plumbing” of financial markets referred to in passing by Reinhart and Rogoff and proposes tactics for maintaining faith in “ephemeral claims of legal right, over global distances.” The grounding insight is that markets are political constructs, like games. So efficiency is not the only concept to gauge a market’s health.
In his theory, Westbrook turns to a factor about which the neo-classical economist has no insight to offer and which has a changing import for the tasks financial elites must master: the language in which we execute and regulate economic life. Westbrook directs us to a critical insight for this crisis: we are collectively enmeshed in a tragedy of language, using it to govern financial exchange in ways that are naïvely representational or, in the alternative, unrealistic about the power of a linguistic construct to constrain the world. Disclosure as a strategy, given to us by our savants of the last finance reset, assumes what the English professors tells us is really a childish idea: that language serves as a window to a real picture and, as such, is just a conveyance to us of what is there to be seen and understood. In Westbrook’s phrase, this idea about managing the problems investment presents makes language invisible.
In our other principal strategy-- risk management-- language is asked to set up containers for large swaths of poorly described arrays of claims on something real. The tragedy is the contradiction. We believe, like children, in being told what our basket of claims contains, and we rely, like language engineers, on the idea that a big enough basket of abstractions—claims on too many things to try to understand with the faith of children looking through a picture window—is conceptually safe.
The nation—our government, meaning Congress and the administration (Westbrook tells us, the Bush-Obama sequence)-- is there when the gears of tragedy grind to an unhappy resolution. When things go wrong, as children we rail at what we didn’t know, and as language engineers we proceed to try to keep as much as we can hidden away in a basket of risk. Truly, we see through a glass darkly. To be specific, Westbrook tells us that such methods as the auction for the toxic assets of banks and the rescue of General Motors are designed to throw risk back into a basket so we can regain our contradiction. We can still believe disclosure is the way language works, and we can banish the specter of risk to a manageable worry confined in a linguistic cage. With their voice of data-fed experience, Reinhart and Rogoff remark: “…governments have many incentives to obfuscate their books.”
Westbrook warns us about this temptation—embraced with fervor by the established order to keep responsibility for our linguistic folly at bay. As we stare at representations of the world of money, finance, and work, we can believe in the recovery part of “boom and bust.” Simply staying calm—and today we have the leader for cool—should be enough. Prudent central bankers and a dose of Keynes are timeless, and a new government-funded container for risk the new idea. To fix the institutions of finance, elites are using words to rearrange and contain.
Westbrook’s tactics are, instead, reconstructive and architectural. Design for failure. Have institutions that can fall on their own. And let them fail. Manage the problem of language and its limitations with a diversity of institutional form. Design for a system in which risk is real and scary, and not disclosed or hedged into a predictable, priced dispersion. Remember that markets are constructs, so do design. Match the scaling of architecture to the uncertainty of sustained confidence in price, value, counterparty liquidity.
Bad outcomes call for rewrite, revision, new content. We hear credit is tight. Yet for those Westbrook calls “finance mandarins,” there’s still enough there to sustain a lot of concept over brute fact. Many of us who would write or read about finance have moved out of a mainly physical world into one apart from the claims of nature and its hardships. Rewrite is fast and easy. Easy enough.
Macroeconomists have little interest in personality, only in the human folly revealed in a growing data file. Once there were kings, they tell us, who sometimes financed extravagant consumption by “debasing” the metallic coins. But now, for advanced economies, folly is universal and recurring, and the patterns of greater note than the particulars or the types of players in any moment of human folly.
But Westbrook, taken with our time and place, describes the motives and players in the folly we can claim today. And these—the motives and we the players, our meritocratic culture-- concern him. Our ideology of the market, and our naivete about the reasons that drive how we participate in, regulate, and analyze markets, are an innocent corruption. Few among us have purses lined with the booty from a bribe, but not a few have entered a courtier class, and have found a post in a market of courtiers. There is no higher value among such a class than the status quo of comfort.
Westbrook ends on a dark note. Such a cosseted class might well plot just our recent roadmap for recovery: keep accountability at bay and make risk opaque. If need be, beggar thy neighbor and arm to the teeth.
After these musings, in a coda of perhaps three pages, Bert becomes the sunny man many of us know, calling upon his confidence in the “residual sense of republican decency” that should save us all.
Time will tell.