What we still haven’t learned from the financial crisis

Dr. Sam Gregg argues that as time passes, armies of doctoral students will explore every nook and cranny of the ’08 meltdown. But if most governments’ policy responses are any guide, it’s apparent that many lessons from the financial crisis are escaping policymakers’ attention. He gives five important lessons policymakers should take note of . . .

Dr. Sam Gregg

It’s been more than a year now since the 2008 financial crisis spread havoc throughout the global economy. Dozens of books have attempted to explain what went wrong. They identify culprits ranging from Wall Street financiers to ACORN and politicians.

As time passes, armies of doctoral students will explore every nook and cranny of the ’08 meltdown. But if most governments’ policy responses to the crisis are any guide, it’s apparent that many lessons from the financial crisis are escaping policymakers’ attention. Here are just five of them:

The moral hazard issue. The message conveyed to business by many governments’ reactions to the financial crisis is this: If you are big enough (or enjoy extensive connections with influential politicians) and behave irresponsibly, you have a reasonable expectation that governments will shield you from the consequences of your actions. What other message could businesses such as AIG, Citigroup and Bank of America have possibly received from all the bailouts and virtual nationalizations?

Big government. Once you allow governments to increase their involvement in the economy to address a crisis, it is extremely difficult to wind back that involvement. Indeed, the exact opposite usually occurs.

Who today remembers the stimulus and bailout packages so heatedly debated in late 2008? They pale next to the fiscal excesses of American governments throughout 2009. Recessions and subsequent government interventions create an atmosphere in which the hitherto implausible — such as trillion-dollar 1,900-pages-long health care legislation in an era of record deficits — becomes thinkable. Likewise, the Bush administration’s Chrysler and GM bailout morphed into the Obama administration’s virtual appropriation of the same two companies.

Negative complications. We seem unwilling to accept that government policies initially presented to us as the only thing standing between stability and economic Armageddon invariably have unforeseen negative consequences that are not easily resolved.

FDIC chairman Sheila Bair recently claimed, for example, that the American government’s decision to purchase capital in failing banks was, in retrospect, a mistake. Not only has government semiownership further complicated the moral hazard problem, but it has created dilemmas that flow directly from the fact of government intervention. “Do we contain the bonuses and the compensation,” Bair asked, “because they are partially taxpayer owned, which might make things worse because they can’t bring in new and better management, which in some cases might be necessary?”

The knowledge predicament. Today there is widespread acknowledgement that the 2008 financial crisis owed much to the Federal Reserve keeping interest rates too low for too long. Yet we persist in imagining that a group of people — the Fed’s seven governors — can somehow manage the credit and monetary environment of what was a $14.4 trillion economy in 2008 in pursuit of often mutually-exclusive goals: stable prices, optimal employment and moderate long-term interest rates.

Fiduciary responsibility. We’re reluctant to acknowledge how much the financial crisis reflects the breakdown of concepts of fiduciary responsibility — the moral and legal obligations that someone acquires when entrusted with another person’s resources. Many CEOs have been rightly pilloried for their failures. But what, for example, of those boards of directors who presided over fiascos such as Lehman Brothers and the 147 American banks that failed between January 2008 and November 2009?

Why were board directors not asking questions about a bank’s heavy reliance for its profits upon the alchemy of mortgage-based securities and other financial products that no one apparently could understand? Why did they not query reports advising that particular investment models could mathematically fail only once in a million years? Why did boards only take action to replace fund managers when companies were teetering on bankruptcy? Why did some directors imagine that a firm’s generation of quarterly profits was sufficient indication that they were fulfilling their fiduciary responsibilities?

Of course, it’s usually counterproductive for directors to immerse themselves in the micro-details of a firm’s operations. But it is part of their fiduciary obligation to investors to question company employees and take action when the answers are not forthcoming or unsatisfactory. Indeed it’s more than a fiduciary responsibility: It’s the moral duty of anyone placed in a position of stewardship of others’ resources.

But perhaps my bigger fear is that these developments suggest that America is slowly but surely moving towards what the great French philosopher Alexis de Tocqueville called “soft despotism” — a Faustian bargain between the political class and the citizens. Tocqueville predicted that “an immense protective power” might assume all responsibility for everyone’s happiness — provided this power remained “sole agent and judge of it.” This power would “resemble parental authority” and attempt to keep people “in perpetual childhood” by relieving them “from all the trouble of thinking and all the cares of living.”

Is America on the road to comfortable servility? “The American Republic,” Tocqueville wrote, “will endure until the day Congress discovers that it can bribe the public with the public’s money.”

One measure of a society’s inner strength is its willingness to learn from mistakes and alter behavior appropriately. Sadly, in America’s case, the 2008 financial crisis’ long-term significance may be its illustration of how unwilling to learn we seem to be.

Dr. Samuel Gregg is research director at the Acton Institute. He has authored several books including “On Ordered Liberty” and his prizewinning “The Commercial Society.” His latest book, “Wilhelm Röpke’s Political Economy,” has just been published.