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A Failure of Capitalism
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B : readable, decent effort to do what it sets out to do
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The complete review's Review:
In his Preface Richard Posner writes that:
There is a need for a concise, constructive, jargon- and acronym-free, non-technical, unsensational, light-on-anecdote, analytical examination of the major facets of the biggest U.S. economic disaster in my lifetime and that of most living today. That is the need this book tries to fill.While one can argue the finer points, of need and regarding the enumerated specifics, Posner does a reasonably good job of fulfilling his self-set mandate in A Failure of Capitalism. Always tempted by theory, Posner lets himself get carried away in trying to explain and analyze the facts, but he does provide an overview of most everything that went into (and is coming out of) the financial crisis that imploded the American economy in 2008. (Unfortunately -- and somewhat surprisingly -- he ignores most of the global dimension: concerned only with the on-site American fall-out he doesn't go much beyond a few China-mentions and the collapse of oil prices, not touching upon the fascinating other-worldly examples from Iceland to Ireland to continental Europe and elsewhere and any lessons that might be learned from those experiences.)
Posner does take a long, hard (and sometimes repetitive) look at what led to the financial crisis -- and to the current (as he terms it) depression. (For some reason a great big deal has been made of semantics surrounding this crisis, with the d-word that Posner tosses around (and uses in his sub-title) otherwise avoided at almost all cost -- certainly by American government officials, but even Robert M. Solow goes on about this question at considerable length in his review of this book, deciding: "I am going to stick with 'recession'". Why this is a distinction with much of a difference isn't clear, and the economists' explanations (as is the case with most of their explanations about this thing) aren't of much help: it is what it is, after all, and whether you call it a depression, a recession, or a tea party shouldn't matter one bit. Sadly -- as Posner also points out --, appearances (as opposed to reality) do matter a great deal in the world of finance -- image isn't everything, but it matters a whole lot -- but by this point the label one attaches to this crisis is fairly beside the point.)
Posner tries to describe how we got in this mess, but it is a convoluted story and he's torn in quite a few directions as he tries to explain it. Still, his take on the major factors contributing to the crisis are reasonable enough. Many will gleefully note that Posner -- always considered leaning rather to the right, and certainly an enthusiastic supporter of unfettered markets -- acknowledges that the free market got out of hand -- due to (gasp !) under-regulation. A major problem was that activity once reserved for banks has now been taken up by a wide variety of other institutions. "There isn't that much difference anymore even between a commercial bank and a hedge fund", he notes. This new competition has led to the loosening of regulations governing banks, and also led banks to compete in new, remunerative (well, for a while ...) fields -- which increase the risk of catastrophe. (Posner also notes that this particular genie will be hard to put back into the bottle; deregulation is a lot like entropy, both in its inexorable one-way flow and in that takes a hell of a lot of energy to reverse it.)
Interestingly, Posner emphasizes that he thinks most financial services actors -- banks and bankers and mortgagors and all the rest -- were acting exactly as we should have expected them to. Even if one knows one is riding a bubble that might burst at any moment it makes sense to continue playing along since there's good money to be made (and since there's no way of knowing ahead of time when the good times will end). So he lets them off pretty easily:
But although financiers bear the primary responsibility for the depression, I do not think they can be blamed for it -- implying moral censure -- any more than one can blame a lion for eating a zebra. Capitalism is Darwinian. Businessmen take risks (mostly within the law) that promote their financial interest; it would make no more sense for an individual businessman to worry that because of the instability of the banking industry his decisions and those of his competitors might trigger a depression than for a lion to spare a zebra out of concern that lions are eating zebras faster than zebras can reproduce.Instead, Posner argues that what is needed is proper (and presumably fairly strict) regulation, as he notes:
The journalists and politicians, and some who should know better, like the distinguished macro-economist Paul Krugman, are engaged in an orgy of recrimination against Wall Street. They have the wrong target. The responsibility for building the fences that prevent an economic collapse as a result of risky lending devolves on the government.(This is actually not as big an ideological leap for Posner as many will make it out to be: he is, after all, a lawyer, and has never had much of a problem with government shaping (some) policy to suit its (and, presumably, citizens') needs. Amusingly, however, he does shy back not only from offering many specific suggestions as to what sort of fences should be built (i.e. regulation should be implemented), but is particularly emphatic about the idea that: "this is not the time either to reorganize or to reregulate the financial industry" -- i.e. he has no faith whatsoever that they could get it right this time around. While his concern here is also about heat-of-the-moment overreaction it does beg the question: if not now, when ? (and also: why should one expect government to do a better job re-organizing and -regulating further down the road ? While a somewhat clearer picture may have emerged of everything that went wrong by then, the basics surely aren't in great dispute).)
Posner largely absolves the private actors. As he sees it:
In sum, rational maximization by businessmen and consumers, all pursuing their self-interest more or less intelligently within a framework of property and contract rights, can set the stage for economic catastrophe.As far as this particular crisis goes:
As far as one can judge on the basis of what is known today (obviously an important qualification), the depression is the result of normal business activity in a laissez-faire economic regime -- more precisely, it is an event consistent with the normal operation of economic markets. Bankers and consumers alike seem on the whole to have been acting in conformity with their rational self-interest throughout the period that saw the increase in risky banking practices, the swelling and bursting of the housing bubble, and a reduction in the rate of personal savings combined with an increase in the riskiness of those savings.Responsibility for seeing that it doesn't get to the economic-catastrophe-stage falls squarely on the shoulders of government: law -- and then leadership -- has to be the check that channels self-interest in such a way that it can't bring the whole house of cards down. As Posner notes, the hands-off jr.Bush administration promoted regulatory laxity for years (though that all started under Reagan and Clinton) and then did a godawful job of reacting to events as they unfolded. He even jabs at the former president more than one might have expected (yet still less than that bungler deserves), noting how the crisis was exacerbated in the fall of 2008 by:
a lame-duck President who seemed to lack interest or competence in handling economic issues and to prefer reminiscence, retirement planning, legacy-polishing, and foreign travel to directing, and explaining to the public, the government's response to the biggest economic crisis in three quarters of a century.Posner notes that early reactions -- such as the 2008 tax rebate 'stimulus' -- were Hoover-like half-measures that did little good, and he is also critical of the more consequential and damaging ad hoc bailout program: "Business requires a reasonably stable political environment", he notes, and the bailout offered no such thing (hence he also finds it completely reasonable that banks didn't take the money and immediately lend it out: it would have been irrational for them to do so).
Posner does also look at how the US might get out of this mess, and makes a good case for public works spending as one of the most sensible ways to pump money back into the system. Sensibly, he also points out that tax cuts are probably pretty pointless at this point: "many people will save rather than spend the increase in their after-tax income in order to rebuild their now meager savings and stave off insolvency, especially if they don't think the tax cut will be permanent" (as, realistically, he notes they are unlikely to be). Indeed, Posner will draw the ire of many a former conservative fan when he goes so far as to say:
I do not think there is a compelling objection to raising the marginal tax rate on all high earners. Taxes will have to be raised at some point in order to finance the anti-depression programs, and income taxes are more efficient taxes than, say, corporate taxes.And he offers the heresy (in many quarters):
This is not the time to raise taxes, but we are an undertaxed nation.(Perhaps feeling a bit defensive, knowing what a backlash he'll unleash with statements such as these among much of his fan-base, Posner also devotes an odd little chapter to 'The Future of Conservatism'. He notes that the three main groups supporting Republicans -- as he calls them: economic, security, and social conservatives -- have all suffered in these times and that this, along with a nice helpful push from: "a sense of the Bush Administration's lack of managerial competence", has damaged the Republican party. He's not ready (or able) to put the pieces back together, but offers what are presumably meant to be some guiding olive branches; it probably won't appease those disappointed by what he says and suggests elsewhere in this book -- even with his token union bashing ("one bright spot is the beating that the United Auto Workers has taken in the court of public opinion").)
Posner does well in pointing out that there were those who had warned of the coming crisis -- and then also in analyzing why such Cassandra-cries went (and generally go) unheeded. And he continues to insist that most of the actors were just doing what should have been expected from them (given the environment, situation, and regulatory framework), and thinks they were quite right in not worrying about the complete catastrophe that has, pretty much, unfolded (and that they weren't merely led astray by perverse short-term incentives that blinded them to the long term possibilities, especially the slim ones).
What is inexcusable is the failure of the Federal Reserve and other economic agencies within the federal government to have prepared contingency plans for the possibility, remote as it seemed, that a crumbling of the banking industry would set the stage for a depression. When the financial crisis hit in mid-September 2008,the government was unprepared and responded with a series of improvisations that did avert the most catastrophic imaginable consequences of the crisis but could not avert a depression. The improvisations were bumbling, incoherent, poorly explained; the President seemed absent, so far as attending to the economy was concerned, during the critical period. Even now, four and a half months later, the government has no coherent plan of recovery.Interestingly, however, he sends mixed messages about incompetence, arguing also:
Paul Krugman opposes the claim that the government should not take over banks because it doesn't know how to run them with the argument that "bunglers" who ran the banks that collapsed last fall don't know how to run banks either. But they do; and if their mistakes should bar them from being permitted to continue to run banks, then the mistakes that Bernanke and Summers and Geithner have made in the regulation of financial intermediation should bar them from managing the nation's economic policy.Posner believes the bankers do know how to run the banks because the way they ran them (into the ground) was perfectly (well, more or less) reasonable, given the conditions they were working in. Though one might accept this reasoning, there is surely a very strong argument that failure on this scale is enough to bar them from having any further say in these matters: yes, they were just doing their jobs (perhaps even as well as was possible under the circumstances), but certain outcomes override even best intentions and efforts. More to the point, Posner gets his argument backwards: in fact he's right -- but what he should be pointing out is that it is unacceptable that bunglers like Bernanke and Summers and Geithner are allowed to handle the nation's economic policy. (That Timothy Geithner was allowed to become Secretary of the Treasury (and hence oversees the IRS) despite not being capable of properly doing his own taxes can only suggest that competence on even the most basic level is not a particularly high priority for those supposedly leading the nation; the public shrug of indifference about this state of affairs is also telling.) There is reason to be careful about being too critical of those directing policy -- especially in a situation such as the current financial crisis, which can also be considered, in no small part, psychological -- but, just as the jr. Bush should have been denounced much more forcefully for his misguided policies (especially in the foreign arena), so too should current bumbling. As Posner notes, one of the major problems of the current crisis is that the government still has not made very clear what the hell it is doing or thinking to try to clear up this mess; the Obama Administration may be more pro-active than the jr. Bush's, but there are still far too many mixed messages being sent.
Many of Posner's basic points -- especially in describing how we got here -- are correct, and he does a nice job of showing how the various contributing factors (the housing crisis, liquidity problems, etc.) arose and why many of the participants (bankers, mortgagors, etc.) acted as they did (and should have been expected to act as they did), as well as why the warning signs didn't take. It all adds up to a case for better regulation (and enforcement of regulation -- among the jr. Bush's most devious ways of undermining the system was in his hands-off attitude towards enforcing what was already on the books) -- though he doesn't try very hard to figure out how much of that might look. As to getting the economy running well again, he doesn't offer too many suggestions, though he makes good points about how, for example, spending on public works is probably a good way to go (and how cutting taxes is probably pretty pointless at this stage). He's also honest in acknowledging that taxes will have to be increased at some point in the future (though preferably not anytime very soon).
As an introductory overview of the financial crisis the United States finds itself mired in at this time, A Failure of Capitalism serves a purpose. In covering the main points it also offers many talking points, and quite a few things people would do well to chew on.
Note that A Failure of Capitalism is now being supplemented by 'The Posner Economic Crisis Blog' (now available online here), in which Posner will: "blog weekly on the crisis [...] in effect continuously updating the book". This sounds particularly helpful for a book such as this one.
- M.A.Orthofer, 22 April 2009
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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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