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Filling the Financial Regulatory Void « The Baseline Scenario
I would argue that the fundamental flaw in financial regulation is that it is based on the assumption that regulators are not self-interested individuals like the rest of us. We think about regulation only in terms of how to engineer the incentives of the regulated and ignore the fact that regulators themselves rarely have a stake in doing their job well, which in any other occupation would limit the motivation and types of individuals a position attracts.
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It is unlikely that consumers will ever hold much influence over the realities of the financial regulatory process because they are not organized in comparison to the financial industry, which concentrates significant resources in the creation of inefficient regulators. By and large, consumers are not well-informed about what they have at stake in the regulatory process and, even if they were, that would not be the sole determinant of how they define themselves politically.
Adding another layer of guards to guard the existing guards ultimately results in an infinite regress. I do not think it is cynical to suggest that, absent an actual paradigm shift with respect to accountability in the financial industry, we are just going to have more of the rent-seeking that has gone on to date and the economic calamities that ensue. For my part, I would propose opening up financial regulation to a small group of social entrepreneurs. Let people establish for-profit companies that can compete for government contracts to stress test the holdings of financial institutions independently and audit their records.
Why markets can’t cure healthcare - Paul Krugman Blog - NYTimes.com
One of the most influential economic papers of the postwar era was Kenneth Arrow’s Uncertainty and the welfare economics of health care, which demonstrated — decisively, I and many others believe — that health care can’t be marketed like bread or TVs. Let me offer my own version of Arrow’s argument.
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There are two strongly distinctive aspects of health care. One is that you don’t know when or whether you’ll need care — but if you do, the care can be extremely expensive. The big bucks are in triple coronary bypass surgery, not routine visits to the doctor’s office; and very, very few people can afford to pay major medical costs out of pocket.
This tells you right away that health care can’t be sold like bread. It must be largely paid for by some kind of insurance. And this in turn means that someone other than the patient ends up making decisions about what to buy. Consumer choice is nonsense when it comes to health care. And you can’t just trust insurance companies either — they’re not in business for their health, or yours.
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The second thing about health care is that it’s complicated, and you can’t rely on experience or comparison shopping. (”I hear they’ve got a real deal on stents over at St. Mary’s!”) That’s why doctors are supposed to follow an ethical code, why we expect more from them than from bakers or grocery store owners.
You could rely on a health maintenance organization to make the hard choices and do the cost management, and to some extent we do. But HMOs have been highly limited in their ability to achieve cost-effectiveness because people don’t trust them — they’re profit-making institutions, and your treatment is their cost.
TravelinEdMan: Why "Share" and how can OER and OCW benefit people in these difficult economic times?
SSRN-Superstars and Mediocrities: Market Failure in the Discovery of Talent by Marko Tervio
The basic problem facing most labor markets is that workers can neither commit to long-term wage contracts nor can they self finance the costs of production. I study the effects of these imperfections when talent is industry-specific, it can only be revealed on the job, and once learned becomes public information. I show that firms bid excessively for the pool of incumbent workers at the expense of trying out new talent. The workforce is then plagued with an unfavorable selection of individuals: there are too many mediocre workers, whose talent is not high enough to justify them crowding out novice workers with lower expected talent but with more upside potential. The result is an inefficiently low level of output but higher wages for known high talents. This problem is most severe where information about talent is initially very imprecise and the complementary costs of production are high. I argue that high incomes in professions such as entertainment, management, and entrepreneurship, may be explained by the nature of the talent revelation process, rather than by an underlying scarcity of talent.
Ascription is an Anathema to any Enthusiasm › Moral Hazard Pay
The change of control clauses in executive contracts are part and parcel of the “bribe the pirate” pattern seen in publicly traded companies. Given the desire of shareholders to have executives to take large amounts of risk, since that shareholders can diversify away most of that, you do two things: let them share the upside, remove the down side.
Interfluidity :: Tax clawbacks: doing it right
The requirements of the Constitution seem perfectly consistent with imposing a clawback that permanently alters the incentives of the people who run systemically important banks. A good law would be both retrospective and prospective. It would help defray the costs of the current crisis while firmly establishing the principle that the individuals who run critical financial institutions can be decompensated if they let those institutions melt down on their watch. The analogy to Superfund is quite close, I think.
FT.com / Comment / Opinion - Adam Smith's market never stood alone
By Amartya Sen
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Perhaps the biggest mistake lies in interpreting Smith’s limited discussion of why people seek trade as an exhaustive analysis of all the behavioural norms and institutions that he thought necessary for a market economy to work well. People seek trade because of self-interest – nothing more is needed, as Smith discussed in a statement that has been quoted again and again explaining why bakers, brewers, butchers and consumers seek trade. However an economy needs other values and commitments such as mutual trust and confidence to work efficiently.
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There were, in fact, very good reasons for mistrust and the breakdown of assurance that contributed to the crisis today. The obligations and responsibilities associated with transactions have in recent years become much harder to trace thanks to the rapid development of secondary markets involving derivatives and other financial instruments. This
occurred at a time when the plentiful availability of credit, partly driven by the huge trading surpluses of some economies, most prominently China, magnified the scale of brash operations.
Social Production, the Good Life, and the Ways of Desire « Easily Distracted
"I’d still argue that a sense that the material world around us is dense in objects and spectacle, that we have a sense of what I’ve called fecundity, is important to middle-class well-being." and more nuanced thoughts on consumerism and excess.
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If eventually we settle into a new austerity, that is likely to be partly performative, an identity that we try to communicate to others for some of the same reasons we might have tried to communicate fashionability, luxury, discriminatory taste: because in our local worlds, that identity accumulates some kind of social capital.
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I’d still argue that a sense that the material world around us is dense in objects and spectacle, that we have a sense of what I’ve called fecundity, is important to middle-class well-being.
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Stumbling and Mumbling: Rational group delusions
Benabou shows how groupthink can spread even if individuals are rational. Let’s say your boss and a few of his associates get a damn fool idea ... What do you do?
You could speak up. But the costs of this might be high; even if don’t get sacked, you might be ostracised in various subtle ways, and even if you don’t you risk feeling foolish during the time - which could be many months - in which your warnings seem not to be vindicated. And the benefits of speaking up are small. You’ll not change corporate strategy or win friends in high places.
FT.com / Comment / Opinion - How bank bonuses let us all down
Here you can see that this mismatch between the bonus payment frequency (typically, one year) and the time to blow up (about five to 20 years) is the cause of the accumulation of positions that hide risk by betting massively against small odds. As traders say, they have the “free option” on their performance: they get the profits, not the losses. I hold that this vicious asymmetry is the driving factor behind investment banking.
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