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The Crisis of Capitalist Democracy

by
Richard A. Posner

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Title:	The Crisis of Capitalist Democracy
Author:	Richard A. Posner
Genre:	Non-fiction
Written:	2010
Length:	388 pages
Availability:	The Crisis of Capitalist Democracy - US
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Our Assessment:

B : solid overview, decent analysis of the American financial crisis up to 2010

See our review for fuller assessment.

Review Summaries
Source	Rating	Date	Reviewer
Globe & Mail	.	23/4/2010	Don Tapscott
National Interest	.	3-4/2010	Liaquat Ahamed
The NY Times Book Rev.	.	9/5/2010	Niall Ferguson

From the Reviews:

"In this dense tome, Posner presents well-argued suggestions for change and offers fresh thinking about the business cycle, building on Keynes's theories." - Don Tapscott, Globe & Mail

"Yet again, however, I found myself wishing that Stiglitz and Posner had used their analytic firepower to give me a more solid basis for my views rather than simply echoing and reinforcing my own prejudices." - Liaquat Ahamed, National Interest

"A born-again Keynesian who remains an ardent opponent of big government, Posner may remind some readers of the two-headed pushmi-pullyu in the Doctor Dolittle books. On the wickedness of Greenspan and the greatness of Keynes he sounds like Paul Krugman’s doppelgänger. But facing the other way on the fallibility of regulators is Posner’s free-market Chicago head, which is scathing about attempts to police executive compensation, skeptical about the value of a new consumer protection agency and anxious about spiraling fiscal deficits and the risk of future inflation. (...) The Crisis of Capitalist Democracy has been written in haste, and it shows. Characteristically, Posner has not just one but two blogs and too much of this book reads as if it first saw the light of day online. But the trouble with blogging is that the more you blog, the less you read. Since he is not an economist, Posner cannot afford to take as many shortcuts as he does." - Niall Ferguson, The New York Times Book Review

Please note that these ratings solely represent the complete review's biased interpretation and subjective opinion of the actual reviews and do not claim to accurately reflect or represent the views of the reviewers. Similarly the illustrative quotes chosen here are merely those the complete review subjectively believes represent the tenor and judgment of the review as a whole. We acknowledge (and remind and warn you) that they may, in fact, be entirely unrepresentative of the actual reviews by any other measure.

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The complete review's Review:

The Crisis of Capitalist Democracy is not quite a sequel to Posner's earlier examination of the American financial crisis that hit in 2008 (and lingers), A Failure of Capitalism, but rather, as Posner writes:

it is an effort to deal in greater depth, and from a longer perspective, with a crisis that has continued to evolve, to elicit new response measures and new proposals for regulatory reform, to engender new concerns about the future and spawn new controversies about the past.

       Perhaps the most notable thing about the book is Posner's embrace of Keynesianism -- by which he means: "thinking that builds on the original ideas of John Maynard Keynes, as distinct from their revision by practitioners of the 'New Keynesian Economics'". As he notes, despite the title of his previous book on the crisis, he remains a believer in capitalism -- "But capitalism is not a synonym for free markets"; Posner has definitely become very wary of entirely unfettered markets.
       The three-part book begins with an extended 'Analytic Narrative of the Crisis', a useful overview of all the factors that played a role in the crisis and an attempt to analyze many of them. Much of this material is very familiar; still, Posner packages it quite well and does discuss most of the relevant issues, and the theoretical framework behind much of the thinking (or what seems like absence of thought ...) and actions that led to various disasters.
       From the first page of this overview he also makes clear that he thinks the fundamental error (leading to many errors) that led to the banking crisis was:

Banks used to be safe. Made safe in reaction to the Great Depression of the 1930s, which had featured a banking collapse, banking became unsafe as a result of a financial deregulation movement that began in 1980, that culminated in 1999 with the repeal of a major 1930s banking reform (the Glass-Steagall Act), and that was succeeded by a brief, disastrous era of lax regulation, regulatory complacency, regulatory inattention, and regulatory ineptitude.

Posner acknowledges the government -- especially the Federal Reserve, Treasury Department, and, to a lesser extent, the SEC (which really seems to have had few excuses) -- had difficult and often uncharted waters to navigate and decisions to make, but it's remarkable how much of the blame, from first to last, he ascribes to government. Posner clings to the notion that financial institutions (and their employees) were (and remain) what amounts to rational actors: given the conditions, they acted reasonably in taking advantage of whatever they could. It was the government's job to set (and oversee) conditions that limited the damage they could do -- and the government, in its various capacities (regulatory, legislative, punitive, etc.) failed miserably (and has continued to not impress greatly as the crisis continues).
Posner notes:

I continue to be perplexed by how government (except for its promotion of home ownership, a secondary cause of the crisis) has managed to escape most of the blame for our current economic state.

Posner is particularly critical of the government's failure to bail out Lehman, arguing that:

From what happened later, it is apparent that even a loan at the top of the range [US$90 billion] would have been a bargain for the U.S. economy, regardless of how much of the loan would ever have been repaid.

Financial markets seized up completely after the Lehman collapse, but it's still not entirely convincing that a Lehman bailout could have saved the day -- or rather, could have saved the day at any reasonable cost. The issue is not only the (immediate) financial cost, but also the signal it sends to the markets (and the institutions). The government's ham-fisted approach to bailouts -- Bear Stearns had been saved previously, while shortly later AIG was also rescued -- sent a muddle of messages; with hindsight it's easy to say that Lehman, too, should have been saved at taxpayer expense, but given the terrible signal it would have sent (that the government is willing to prop up even the worst offenders, at a cost only to shareholders (which, yes, does also hit the (ir)responsible employees, managers, and partners, but is still a fairly soft blow)) there were solid (if arguably misguided) reasons for the government to take a harder line here. Given that the government caved everywhere else it now looks like a huge -- and bizarre -- mistake, but at the time there were certainly arguments that this was the proper tack to take. Of course, the way the government tacked after that -- hither and thither -- compounded the mistake.
Posner notes that:

The behavior of businesses and consumers in a bust is individually rational but collectively irrational.

He refers here specifically to the fact that: "inflation is bad in a boom, but it is good in a bust -- yet in a bust, deflation is more likely that inflation", but it also covers other aspects of market behavior, and Posner is repeatedly disappointed by government reactions to these fundamental facts. So, for example, pouring money into banks in the mistaken belief that the financial crisis was simply a liquidity crisis (i.e. if banks just had more money they'd start lending again ...) was not a great response. Similarly, he complains about the current push towards new and tighter financial regulation:

The pressure has produced an informal tightening of banking regulation at the very time when it should be loosened to encourage lending. Tight regulation is what we want for booms, loose for busts

But, of course, after the laxest possible regulatory environment during the 'boom' (which was largely a boom for the financial industry and the professionals employed in it, not the country as a whole), anything but tightening is politically simply not viable. (Posner also argues that (what he perceives as) current regulatory hypervigilance -- in reaction to regulators having been: "asleep at the switch" -- is also undesirable: "Just as people hoard when we want them to spend, regulators get stricter when we want them to loosen up" -- a not exactly confidence-inspiring notion.)
Several of those who played or play prominent roles in the crisis do get their fair share of criticism (though Posner lets off some rather lightly, too). Alan Greenspan can't escape serious blame, and Posner also points out several times that:

Bernanke has been shameless in refusing to assign any share of responsibility for the crisis to mismanagement of monetary policy by the world's central bankers; he was one of the mismanagers.

       While expressing considerable disappointment with how the government continues to deal with the crisis, Posner treads fairly carefully when speaking of the current actors and their roles. He does, however, note that those holdovers from before the crisis hit (including Bernanke and Geithner) helped lead the country down this path, and certainly his repeated mention that Bernanke refuses to acknowledge his complicity and failures suggests considerable doubt about Bernanke's ability (and willingness) to make the right decisions at this point.
       The second part of The Crisis of Capitalist Democracy asks: 'What Lessons Have We Learned from the Crisis ?' -- and expands on Posner's embrace of Keynesianism (the major lesson he apparently learned). The brief third part looks at: 'The Way Forward', and includes Posner's suggestions for reform -- whereby he emphasize that he thinks major overhauls are premature, and that it is essential to first understand how we got in this mess before we try to fix the system. After amusingly trashing the field of macroeconomics -- one thing we've learned, he dryly notes, is that macroeconomics is "a weak field" (a polite way of saying that it's proved to be a joke) -- it's clear, however, that understanding seems a very long way off. Certainly, the macroeconomists don't seem to have a clue.
       Posner's suggestions for reform are of interest, and, for the most part, sensible. There are the obvious -- 'Regulate off-balance-sheet contingent liabilities' -- as well as the more contentious, such as his ideas for the reform of credit rating agencies (which certainly need to be reformed -- even though he believes investors will now be: "more cautious about relying on ratings" (which doesn't seem to square with the still central role they play in so much finance)). Interestingly (and sensibly), Posner also fully endorses a return to a Glass-Steagall separation of commercial and what amounts to investment banks.
       The Crisis of Capitalist Democracy doesn't offer much that is new on a subject that has been headline news for several years now, but it is a useful summary of the crisis, and aspects of the book -- including Posner's insistent reminders of how the US government's failures played such a central role in causing (and, in part, continuing) the crisis -- are particularly helpful. Fairly open to other positions -- even super-efficient-market-man Eugene Fama and his supporters are given some say in (futile) defense of that point of view -- and only occasionally too limited in scope and reach, Posner's book is a decent starting point for debating the many issues the crisis has raised.

- M.A.Orthofer, 20 March 2010

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Links:

The Crisis of Capitalist Democracy:

Harvard University Press publicity page

Reviews:

Richard A. Posner:

The complete review's Richard Posner page
Faculty page at the University of Chicago

Other books by Richard A. Posner under review:

Books about Richard Posner under review:

William Domnarski's biography, Richard Posner

Other books of interest under review:

See Index of books dealing with Business and Economics
Books on Legal subjects at the complete review

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About the Authors:

Richard A. Posner is Chief Judge, U.S. Court of Appeals for the Seventh Circuit. He is also a senior lecturer at the University of Chicago Law School, and the author of many books.

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