The New York Times
Sunday 30 December 2007
For more than a quarter-century, the dominant idea guiding economic policy in the United States and much of the globe has been that the market is unfailingly wise. So wise that the proper role for government is to steer clear and not mess with the gusher of wealth that will flow, trickling down to the every level of society, if only the market is left to do its magic.
That notion has carried the day as industries have been unshackled from regulation, and as taxes have been rolled back, along with the oversight powers of government. Faith in markets has held sway as insurance companies have fended off calls for more government-financed health care, and as banks have engineered webs of finance that have turned houses from mere abodes into assets traded like dot-com stocks.
But lately, a striking unease with market forces has entered the conversation. The world confronts problems of staggering complexity and consequence, from a shortage of credit following the mortgage meltdown, to the threat of global warming. Regulation - nasty talk in some quarters, synonymous with pointy-headed bureaucrats choking the market - is suddenly being demanded from unexpected places.
The Bush administration and the Federal Reserve have in recent weeks put aside laissez-faire rhetoric to wade into real estate, wielding new rules and deals they say are necessary to protect Americans from predatory bankers - the same bankers who, only a year ago, were being lauded for creativity. Were the market left to its own devices, millions could lose their homes, the administration now says.
Central banks on both sides of the Atlantic are coordinating campaigns to flush cash through the global economy, lest frightened lenders hoard capital and suffocate growth. In Bali this month, world leaders gathered in the name of striking agreement to slow climate change.
Adam Smith used the metaphor of the invisible hand to describe how markets should function: With everyone at liberty to pursue self-interest, the market omnisciently distributes goods and capital to maximize the benefits for all. Since the Reagan administration, that idea has weighed in as a veritable holy commandment, with the economist Milton Friedman cast as Moses.
As the cold war ended and Communism retreated, the invisible hand seemed to monopolize economic thinking. Even China, controlled by a nominally Communist party, has blessed private entrepreneurs and foreign investment. In Latin America, the International Monetary Fund financed governments that embraced market forces while shunning those that were resistant.
But now the invisible hand is being asked to account for what it has wrought. In this country, many economic complaints - from the widening gap between rich and poor to the expense of higher education - are being dusted for its fingerprints.
After two decades of disappointing economic growth, several Latin American countries have spurned the I.M.F. while embracing the finance and thinking of Venezuela's avowedly Socialist leader, Hugo Chávez. China's leaders, though still devoted to "reform and opening," are keeping tight control on the value of the currency while steering capital to powerful state-owned companies, concerned that freer markets could throw millions of peasants out of work.
Throughout history, regulation has tended to gain favor on the heels of free enterprise run amok. The monopolistic excesses of the Robber Barons led to antitrust laws. Not by accident did strict new accounting rules follow the unmasking of fraud at Enron and WorldCom. Now, the subprime fiasco and a still unfolding wave of home foreclosures are prompting many to call for new rules.
"We're revisiting the question of market flows with a deservedly wary eye," said Jared Bernstein, senior economist at the liberal Economic Policy Institute in Washington. "For decades, economists and political elites have argued that any time you regulate any aspect of the economy, you're slipping the handcuffs on the invisible hand. That's demonstrably wrong in lots of ways."
But if markets can inflict pain, the harm from trying to tame them is often worse, argue those who would let the invisible hand carry on. The new regulatory tilt threatens to tie up innovation in a straitjacket of bureaucratic nannying while slowing the global economy, they say.
"Every regulation reduces people's freedom," said David R. Henderson, a libertarian economist at Stanford University's Hoover Institution. "The more regulation we get, the worse we do."
Mr. Henderson is critical of the Bush administration's effort to freeze mortgage rates, and the new rules proposed by the Fed intended to curb nefarious lending. They undermine the sanctity of contracts, he said, while making mortgages harder to gain for everyone.
"The way they justify it is that you've got to protect the stupid people who can't read a contract," Mr. Henderson said. "But they're treating everyone as stupid."
But in Washington, and under the roofs of many homes now worth less than a year ago, there appears to be a shift in the nation's often-ambivalent attitude about regulation.
Back in the boom, banks made loans to homeowners who did not have to prove their ability to pay, then quickly sold the loans to other companies. By the time it emerged that a lot of homeowners could not pay, these loans had been pooled with other loans and chopped into strange new paper assets that were sold to unsuspecting buyers around the globe. The subsequent reckoning has forced major banks to write off vast sums of money.
"Here you had all these people who were supposed to be sophisticated investors, and it turns out they were buying billions of dollars worth of debt where they didn't even understand what they owned," said Dean Baker, co-director of the liberal Center for Economic and Policy Research. "There is going to be a willingness to re-regulate financial markets."
Liberal critics have long asserted that dogmatic devotion to market forces has skewed American society toward those of greatest means. More wealth is being concentrated in fewer hands, with rich people capturing the best housing, private education and health care services, and, as the argument goes, only crumbs left for everyone else.
That critique informs proposals from Democrats vying for the presidency, as they debate how best to expand access to health care and ways to shift the tax burden to the rich. They are in essence calling for market intervention to redress imbalances. With the gap between the richest and poorest now greater than it has been since the 1920s, these pitches have emerged as central components of their campaigns
More notable, though, is how fervent proponents of unfettered market forces have lately come to embrace regulation.
The Bush administration, in seeking to freeze mortgage rates for some homeowners, put Treasury Secretary Henry Paulson Jr. in charge of the campaign. Mr. Paulson not long ago ran the Wall Street giant Goldman Sachs. Now, he is demanding that banks accept smaller payments than promised, while describing the market as a fallible thing in need of supervision.
"The government acted to prevent a market failure and to try to avoid unnecessary harm," he said at a public meeting in California.
More than a decade ago, when Bill Clinton occupied the White House, he pushed through the landmark North American Free Trade Agreement, which linked the fortunes of Mexico and the United States. But if his wife or one of her Democratic rivals captures the White House next year, they promise a more skeptical look at trade deals.
Some argue that the push back against market forces is a momentary pause in a steady march toward unfettered capitalism. The libertarian Cato Institute recently issued a report in which it found that economic freedom - shorthand for smaller government and fewer regulations - has never been greater.
"Global economic growth significantly increases with the growth of the world's economic freedom," said Ian Vásquez, director of Cato's center for global liberty and prosperity.
Few policymakers have a beef with that characterization as a generality. But when things go wrong, demands grow for the government to step in and make them right.
"Untethered market forces lead to bad things," said Mr. Bernstein of the Economic Policy Institute. "You simply can't run an economy as complicated as ours on ideology alone."
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