Political Communication and Reform  

lan Greenspan’s shocked reaction to the current economic turmoil shocked me. The same factors that turn the engine of our economy, i.e. allowing and enforcing risks and rewards on individuals and companies based on their behaviors in the market place, can also stop it cold.

Actions in the marketplace of individuals and organizations are to a great extend predicated on the expectations of what will happen in the marketplace in the future. It is rational to have realistic expectations of course. Over optimism and over pessimism are sins. But in a sense when we act in the marketplace we are collectively not looking down. We predicate much of our optimism on the trust that most people, most of the time, will not look down at the same time and greatly contract their spending and act as if the end is nigh. Because if everybody contracts their spending, there will soon be nothing to spend. When we collectively feel good about our collective prospects, this fuels real growth as we spend and investment more and higher paying jobs are created. But when an event or events take place that breaks the spell and people anticipate that everyone else will contract spending, then if everyone thinks this way, everyone will actually contract spending. In terms of the housing bubble, the price of housing became so high and flippers became so prevalent, that people looked down and broke the spell. Another pressure is the high debt levels folks carry. An everlasting bubble is theoretically possible, but it is overwhelmingly likely that in our complex world an event will occur that will pop it.

In a culture where you can earn a lot of money without thinking in the long term, the long term will become irrelevant to daily practice. An arms race of risk taking pushes the individual, company or sector into new behaviors once considered foolish. If you see a fellow employee, CEO or competitor reap the rewards of large risks in the short term, there is pressure to conform to this behavior. As this behavior becomes more prevalent, it becomes more likely that you will be pushed out of the marketplace if you do not conform to the new behavior. What was once an innovation in behavior becomes merely what is necessary to keep up. The synergy of activity during optimistic times has its destructive analogy in pessimistic times. As the financial and housing sectors took more and more risks as a sector and the outlook became more short-term, Greenspan should have known that both sectors also became more fragile.

One reason why markets cannot be trusted without smart regulation is because humans and organizations are not the perfectly rational information machines a view implicitly held by many. We are protean adopters, who mimic successful behaviors and employ an error prone, limited rationality. More over there is no guarantee that cooler heads will prevail if they have been pressured off the scene by more successful (in the short term) hotheads.