Blaming the powerless

Jacob Weisberg has an amusingly nasty hatchet job in Slate heralding the latest financial crisis and ensuing federal bailout as the death of libertarianism. His last lines are particularly funny and biting:

The best thing you can say about libertarians is that because their views derive from abstract theory, they tend to be highly principled and rigorous in their logic. Those outside of government at places like the Cato Institute and Reason magazine are just as consistent in their opposition to government bailouts as to the kind of regulation that might have prevented one from being necessary. “Let failed banks fail” is the purist line. This approach would deliver a wonderful lesson in personal responsibility, creating thousands of new jobs in the soup-kitchen and food-pantry industries.

The worst thing you can say about libertarians is that they are intellectually immature, frozen in the worldview many of them absorbed from reading Ayn Rand novels in high school. Like other ideologues, libertarians react to the world’s failing to conform to their model by asking where the world went wrong. Their heroic view of capitalism makes it difficult for them to accept that markets can be irrational, misunderstand risk, and misallocate resources or that financial systems without vigorous government oversight and the capacity for pragmatic intervention constitute a recipe for disaster. They are bankrupt, and this time, there will be no bailout.

I spent two years working at the Cato Institute, so it probably comes as no surprise that I find Weisberg’s critique a little unfair. But bear with me: For starters, only one of the people Weisberg blames for the government’s freewheeling approach to Wall Street in the last decade would ever describe himself as a libertarian: Alan Greenspan. Bill Clinton isn’t one, George W. Bush sure as hell isn’t, and neither are former senator Phil Gramm, nor former SEC chairman Christopher Cox. (And let’s not forget that “irrational exuberance” was Greenspan’s own phrase.) Libertarians are a very small subsegment of the population, and by virtue of the fact that they reject any association with the only viable political parties in the country, they almost never occupy significant positions in government. So while many Republicans and Democrats share some common political ground with libertarians, to blame libertarians for what’s happened in the last month is kind of like blaming the Green Party for Clinton-era reforms like the Don’t Ask, Don’t Tell policy and special courts for drug offenders.

I think Weisberg is probably right that more regulation of some sort was in order. If credit default swaps were essentially insurance policies, it’s not unreasonable to argue that they should have had reserve requirements, which could conceivably have prevented firms from leveraging themselves at ratios like 30:1 and getting vaporized overnight in a run. But regardless of the Washington Post article Weisberg marshals in his cause, neither he nor anyone else had an idea what the regulation should look like until it was too late.

However satisfying it may be to assign blame — as if whipping a small and perpetually disenfranchised group accomplishes anything — solving problems in hindsight is not solving problems. It’s easy to go back and identify the warning signs after it all hits the fan. Next time, try doing it in advance.

The realization that a single actor often doesn’t have all the information he needs to come to the right conclusion is actually the strongest argument there is for the wisdom of markets. It’s not that markets are perfect; it’s just that because they involve large numbers of self-interested actors who have their own money on the line, they tend more often to arrive at the right answers than governments, which generally don’t worry so much, because they have nothing to lose but your money, and which impose their mistakes on EVERYONE.

After all, a financial crisis that causes fallout on Main Street as well as Wall Street might hurt a substantial majority of the population, but some wise investors might manage to ride it out unscathed — that is, until the government passes a bailout and sees to it that they suffer the losses, too.

In other words, Mr. Weisberg, the market is stupid by accident, and the government is stupid on purpose. What’s worse?

(If you’re interested, I wrote a somewhat splenetic take on the bailout here, in the pages of the San Francisco Chronicle.)