Did the 2008 Financial Crisis Mark the End of Free-Market Economics?

[Al68]

With the failures of Freddie, Fannie, and now AIG, we have seen an earth-shaking failure of free-market economics.

I haven't read this whole thread, so forgive me if this has been addressed.

Why would you equate what happened with Freddie and Fanny with free-market economics? Not only wouldn't this problem happen in a free economy, it would be impossible.

The worst thing about a mixed economy(mix of capitalism and socialism) like the U.S. is that politicians will not only give credit to their socialist policies for the fruits of capitalism, they will also blame capitalism for failures caused by socialist policies. And most people, not understanding economics at all, will just believe anything.

 

[Ivan Seeking]

Specifically, "too big to fail" means that these are not free markets - they are free markets until they need to be bailed-out by the taxpayers. I have linked at least one discussion to more knowledgible people who discuss this in detail.

Note also that due to the complexity of the Freddie and Fannie structures, I specified AIG as the definitive indicator. Since then we have seen more examples than I care to mention.

Profits are privatized, risk is socialized.

 

[Ivan Seeking]

...and Darwinism no longer applies.

 

[cronxeh]

...and Darwinism no longer applies.

Come on man when did Darwinism apply these days? You have medical professionals who constantly upset the natural selection process, politicians who constantly upset sociological process, law enforcement who constantly upset the will of the people, religion who constantly judges people. Its like you can't get too drunk, get hit by a car and die from aspirating your own blood and vomit because suicide is a sin.

 

[Ivan Seeking]

I was talking about economic Darwinism.

 

[gravenewworld]

I haven't read this whole thread, so forgive me if this has been addressed.

Why would you equate what happened with Freddie and Fanny with free-market economics? Not only wouldn't this problem happen in a free economy, it would be impossible.

The worst thing about a mixed economy(mix of capitalism and socialism) like the U.S. is that politicians will not only give credit to their socialist policies for the fruits of capitalism, they will also blame capitalism for failures caused by socialist policies. And most people, not understanding economics at all, will just believe anything.

Free economics doesn't exist. I challenge you to find me a market completely run by free market economics.

The problem with free markets is that they can produce oligopolies and monopolies by natural barriers that come with certain markets.

 

[Al68]

Free economics doesn't exist. I challenge you to find me a market completely run by free market economics.

The problem with free markets is that they can produce oligopolies and monopolies by natural barriers that come with certain markets.

Well, I agree with your first statement, but how can oligopolies and monopolies be produced by something that doesn't exist?

And if the only intervention by govt in an otherwise free market was the prevention of oligopolies and monopolies, along with maintaining basic law and order, I think most economic Libertarians would be happy with that.

 

[ultimablah]

Well, I agree with your first statement, but how can oligopolies and monopolies be produced by something that doesn't exist?

And if the only intervention by govt in an otherwise free market was the prevention of oligopolies and monopolies, along with maintaining basic law and order, I think most economic Libertarians would be happy with that.

Can I please have a pretend-example of a monopoly? I want to see if a truly unshakable monopoly could actually form in a fully free market system.

 

[Al68]

Can I please have a pretend-example of a monopoly? I want to see if a truly unshakable monopoly could actually form in a fully free market system.

I can't give you one. Hence my belief that most economic libertarians would be happy with it.

 

[russ_watters]

Can I please have a pretend-example of a monopoly? I want to see if a truly unshakable monopoly could actually form in a fully free market system.

Isn't Microsoft a worthy real example? Due to tough trust-busting, Windows' market share is "only" 90%! IE is down to 70%, from it's peak of 95% in 2002 due to monopolistic bundling of the product with windows.

 

[CRGreathouse]

Isn't Microsoft a worthy real example? Due to tough trust-busting, Windows' market share is "only" 90%! IE is down to 70%, from it's peak of 95% in 2002 due to monopolistic bundling of the product with windows.

A tech magazine I am subscribed to predicted 'doom & gloom' for Microsoft because of the rapid fall in their OS market share (> 2% fall over the last few months, I think). This fall was entirely a market effect: many people have left Vista for some flavor of Linux (or Mac OS), which has/have seen good gains recently. This seems to point to Microsoft as a major oligopoly rather than a monopoly, especially since the competition seems to have affected Microsoft's pricing power. (Of course, a good case could be made that it is a monopoly -- but it's far from clear-cut.)

And what do you mean by "Windows' market share is 'only' 90%[...] due to a monopolistic bundling of its product with windows."? Are you suggesting that people are/were buying Internet Explorer in droves, and Windows was bundled with IE? The usual argument is that people wanted to buy Windows and IE was bundled with Windows, so MS was abusing monopoly power to get market share for IE -- but I think the market for browsers is yet more open than that for operating systems, IE's 80% share notwithstanding.

 

[CRGreathouse]

Specifically, "too big to fail" means that these are not free markets - they are free markets until they need to be bailed-out by the taxpayers.

I agree that "too big to fail" means that the market is not truly free. In addition to being (potentially/likely) a huge waste of taxpayer dollars, the bailouts are unwarrented government interference. I do support the essential libertarian ethos of free markets, and I'm sickened by the bailout plans.

 

[russ_watters]

A tech magazine I am subscribed to predicted 'doom & gloom' for Microsoft because of the rapid fall in their OS market share (> 2% fall over the last few months, I think). This fall was entirely a market effect: many people have left Vista for some flavor of Linux (or Mac OS), which has/have seen good gains recently. This seems to point to Microsoft as a major oligopoly rather than a monopoly, especially since the competition seems to have affected Microsoft's pricing power.

I think you missed my point: they may well be a "major oligopoly" but that is only because of aggressive anti-monopoly legislation. They would likely be a near 100% monopoly otherwise.

And what do you mean by "Windows' market share is 'only' 90%[...] due to a monopolistic bundling of its product with windows."?

You cut up and mixed together two separate quotes there. The 90% was the Windows market share, discussed above. The semi-separate issue is that MS was able to use the high market share of windows to leverage IE, destroying Netscape in a matter of a couple of years due to monopolistic practices.

Are you suggesting that people are/were buying Internet Explorer in droves, and Windows was bundled with IE?

No, I'm suggesting that people were not buying anything else because they got it "free" with Windows. In 1997, Netscape had a 72% market share. By 2000, they were down to 15%, by 2002, 5%. That was entirely due to Microsoft leveraging them out via bundling of IE with windows. See: browser wars: http://en.wikipedia.org/wiki/Browser_wars

The usual argument is that people wanted to buy Windows and IE was bundled with Windows, so MS was abusing monopoly power to get market share for IE...

Yes.

...but I think the market for browsers is yet more open than that for operating systems, IE's 80% share notwithstanding.

Open source is an interesting development and anti-MS backlash has a lot to do with people jumping ship. But note that the alternate browsers are now free.

 

[Ivan Seeking]

BILLIONAIRE investor George Soros said the economic upheaval had its roots in the financial deregulation of the 1980s and signalled the end of the free-market model that had since dominated capitalist countries.

Liberalisation of the financial industry begun by the Reagan administration had led to a series of crises forcing government intervention, Mr Soros told economists and bankers at a private dinner at Columbia University in New York on Friday.

The global recession, triggered by the collapse of the US housing market, had "damaged the financial system itself", he said. Regulators were in part to blame because they "abrogated" their responsibilities, Mr Soros, 78, said.

The philosophy of "market-fundamentalism" was now under question as financial markets had proved to be inefficient and affected by biases rather than driven by all the available information, he said...

http://business.smh.com.au/business/end-of-free-market-soros-20090223-8fux.html

 

[russ_watters]

I read a comment elsewhere that I agree with - he should be investigated for attempted market manipulation for these rediculous comments. People like him should have an obligation to be responsible for their words.

 

[Ivan Seeking]

I read a comment elsewhere that I agree with - he should be investigated for attempted market manipulation for these rediculous comments.

Of course; no other defense of the Republican model is left. When you are the cause of the near collapse of the world economy, blame the other guy!

Kill the messenger!

 

[russ_watters]

I made no comment whatsoever about "the republican model". But the idea that we are currently in an economic situation worse than the great depression is laughably silly and he's smart enough to know it. The GD had 25% unemployment for god's sake! It had people's life savings evaporating from savings accounts! It is important to note that when people say these things, they make no specific comparisons (because there aren't any), they just make the empty claim.

He's not a messenger, he's a profitteer.

But, regarding "the republican model", the current crisis has two (and a half) relatively specific causes that are only vaguely connected to conservative economic ideas. You like to create a false dichotomy by implying that republicans tend to favor an absolutely free market, but that just isn't the case. On the legislation side, this crisis was caused mostly by one particular republican leader (Phil Grahm) loostening one particular depression-era restriction. Had it gotten more press at the time, I am certain that republicans in general would not have been in favor of it. And it is also important to remember that it had the support of the President at the time: Bill Clinton.

The other major cause (which I call one and a half) is the credit/interest rate strategy of Alan Greenspan and how that influenced lending and spending practices. And though a republican appointee, he did, of course, have the full support of Bill Clinton, since his cheap credit fueled the economic boom that Clinton enjoyed while in office.

 

[kronon]

"Had it gotten more press at the time..."

Thats the interesting bit.

 

[mheslep]

...On the legislation side, this crisis was caused mostly by one particular republican leader (Phil Grahm) loostening one particular depression-era restriction. Had it gotten more press at the time, I am certain that republicans in general would not have been in favor of it. And it is also important to remember that it had the support of the President at the time: Bill Clinton.

Repeal of Glass-Steagal? I fairly strongly disagree. There's several arguments why it didn't (Europe never had a G-S, etc) and a good argument that the repeal kept the current situation from being worse.

The other major cause (which I call one and a half) is the credit/interest rate strategy of Alan Greenspan and how that influenced lending and spending practices. And though a republican appointee, he did, of course, have the full support of Bill Clinton, since his cheap credit fueled the economic boom that Clinton enjoyed while in office.

Agreed, but hard to avoid.

Senator/Dr Gramm believes the politicization of mortgages was the other cause:
http://online.wsj.com/article/SB123509667125829243.html

 

[Astronuc]

This would seem to be a clear case of the failure of free-market theory or practice. This also is an example of the need for better regulation, and just one more stark example of "What's wrong with the US Economy."

Buyout Firms Profited as a Company’s Debt Soared
http://www.nytimes.com/2009/10/05/business/economy/05simmons.html

Simmons says it will soon file for bankruptcy protection, as part of an agreement by its current owners to sell the company — the seventh time it has been sold in a little more than two decades — all after being owned for short periods by a parade of different investment groups, known as private equity firms, which try to buy undervalued companies, mostly with borrowed money.

For many of the company’s investors, the sale will be a disaster. Its bondholders alone stand to lose more than $575 million. The company’s downfall has also devastated employees like Noble Rogers, who worked for 22 years at Simmons, most of that time at a factory outside Atlanta. He is one of 1,000 employees — more than one-quarter of the work force — laid off last year.

But Thomas H. Lee Partners of Boston has not only escaped unscathed, it has made a profit. The investment firm, which bought Simmons in 2003, has pocketed around $77 million in profit, even as the company’s fortunes have declined. THL collected hundreds of millions of dollars from the company in the form of special dividends. It also paid itself millions more in fees, first for buying the company, then for helping run it. Last year, the firm even gave itself a small raise.

Wall Street investment banks also cashed in. They collected millions for helping to arrange the takeovers and for selling the bonds that made those deals possible. All told, the various private equity owners have made around $750 million in profits from Simmons over the years.

How so many people could make so much money on a company that has been driven into bankruptcy is a tale of these financial times and an example of a growing phenomenon in corporate America.

Every step along the way, the buyers put Simmons deeper into debt. The financiers borrowed more and more money to pay ever higher prices for the company, enabling each previous owner to cash out profitably.

But the load weighed down an otherwise healthy company. Today, Simmons owes $1.3 billion, compared with just $164 million in 1991, when it began to become a Wall Street version of “Flip This House.”

. . . .
Twice after buying Simmons, THL borrowed more. It used $375 million of that money to pay itself a dividend, thus recouping all of the cash it put down, and then some.

A result: THL was guaranteed a profit regardless of how Simmons performed. It did not matter that the company was left owing far more than it was worth, just as many people profited from the mortgage business while many homeowners found themselves underwater.

. . . .

Talk about racketeering-influenced and corrupt organizations.

 

[Mattara]

This would seem to be a clear case of the failure of free-market theory or practice. This also is an example of the need for better regulation, and just one more stark example of "What's wrong with the US Economy."

Buyout Firms Profited as a Company’s Debt Soared
http://www.nytimes.com/2009/10/05/business/economy/05simmons.html
Talk about racketeering-influenced and corrupt organizations.

I find it absurd that you try to blame the failure of government interventions on the free market and then have the audacity to call for further government regulation.

The only reason that such behaviors is possible is because the government increased the printing of new currency to artificially inflate the market and taxation for making over a million dollars, thus shifting profit from salary to things like stock options, yearly bonuses, special bonuses, parachutes, golden handshakes, extra pensions and so. If you pay the directors in something else than hard cash for short term increase in stock price then you contribute to short term artificial value inflation rather than investing genuine value. There is an asymmetrical risk here, because their bonuses increase when the price of the stock increase, but they do not get penalized when it drops. There is no real counter weight to this increased risk taking. Obviously salaries is a more long term motivating factor to build value in a company. If you get paid in stocks and options, of course you are going to aim at manipulating the stock prices instead of investing real value.

There are of course other factors at work, such as different tax loopholes that you can use such as stock option accounting double standard. According to the IPS, this cost the American population around 10 billion dollars per year. If the board gives you a million dollars in stocks and options, they can deduct this at a later date when you cash these in, often when they have increased in value, so you can actually deduct more than your initial expense. At the start of the 1960s, with the Federal Williams Act, the rules have generally become more and more friendly towards the directors rather than the stock holders, which has reduced the possibility for hostile takeovers. Thus, it is not as easy to create change if the stock holders think the directors are earning too much. Normally, you would appoint an independent investigation and have them look at how the directors are actually performing and regulate his or her salary after a hostile takeover.

It is not a failure of free market economics or theory, it is a failure cased by government intervention. When government regulation fail, the solution is not more government regulation. It is not peace and voluntary contracts that cause economic instability, it is the central coercive power of an intervening state.

 

[Astronuc]

I find it absurd that you try to blame the failure of government interventions on the free market and then have the audacity to call for further government regulation.

I didn't "blame the failure of government interventions on the free market," so don't say that I did. I simply pointed out that it the 'absence of government regulation', i.e., when the market is left to its own devices, it failed.

Improper/inappropriate government regulation can be just as damaging as corruption/malfeasance in the marketplace.

Free market assumes honest participants.

 

[Mattara]

I didn't "blame the failure of government interventions on the free market," so don't say that I did. I simply pointed out that it the 'absence of government regulation', i.e., when the market is left to its own devices, it failed.

But the free market was not "left to its own devices" in this example.

Free market assumes honest participants.

That would be a perfect market, not a free market. A free market does not assume honest participants. In fact, it assumes that some participants are dishonest, otherwise an entire industry of various private security companies would be out of work.

 

[Astronuc]

But the free market was not "left to its own devices" in this example.

In the absence of government regulation and intervention, yet it was.

That would be a perfect market, not a free market. A free market does not assume honest participants. In fact, it assumes that some participants are dishonest, otherwise an entire industry of various private security companies would be out of work.

Now that is an absurd statement.

A free market describes a market without economic intervention and regulation by government except to regulate against force [coercion] or fraud.

http://en.wikipedia.org/wiki/Free_market - of course that's wikipedia, but I plan to poll some economists and find out the 'official' definition. I believe Adam Smith assumed market participants were honest and likely practiced Christian principles. I'll refer to my library on that.

 

[mheslep]

...That would be a perfect market, not a free market. A free market does not assume honest participants. In fact, it assumes that some participants are dishonest, otherwise an entire industry of various private security companies would be out of work.

.. Now that is an absurd statement.

The security company bit aside, per my reading Mattara is correct about free vs perfect[ly efficient] markets. Free market theory going back to Adam Smith do not assume or require everyone to be 100% honest. The amount of fraud or simply ill-informed decision making relates to the efficiency of the market, it doesn't do away away with them. Granted, high enough fraud or mass delusion will effectively kill market operation.

 

[mheslep]

... I believe Adam Smith assumed market participants were honest and likely practiced Christian principles. I'll refer to my library on that.

Hmm no. For the latter see Theory of Moral Sentiments
http://www.econlib.org/library/Smith/smMS.html

 

[mheslep]

An apropos analogy I just heard:

Saying free markets are responsible for the various economic problems and recessions is like saying gravity is responsible for air plane crashes. Yes that's true, but it also completely misses the point of what went wrong.

 

[turbo]

An apropos analogy I just heard:

Saying free markets are responsible for the various economic problems and recessions is like saying gravity is responsible for air plane crashes. Yes that's true, but it also completely misses the point of what went wrong.

Let's take a breath. Gravity is pretty relentless and consistent. "Free markets" are poorly defined and slippery, depending on who you want to talk to. Our government advances the causes of corporations and large special-interest groups because our elected officials WANT and require money and influence. to stay in power If you think any free-market model can explain the crap that the US economy has been experiencing in the last 10 years, have at it!

 

[edward]

This is one type of market activity that angers me. Legal, yes. Ethical, no way. This was last Dec after the crash.

Dec. 10 (Bloomberg) -- Goldman Sachs Group Inc., one of the top five U.S. municipal bond underwriters, is angering politicians and public-finance officials in New Jersey, Wisconsin, California and Florida by recommending that investors purchase credit-default swaps to bet against 11 states’ debt.

It’s “disturbing” to advise investors to bet against the financial health of a state whose bonds Goldman helps sell, Assemblyman Gary S. Schaer, a Democrat who chairs the Financial Institutions and Insurance Committee, said last week in a letter to Chief Executive Officer Lloyd C. Blankfein.

http://www.bloomberg.com/apps/news?pid=20601109&sid=ac9AV.yzTCNw&refer=home

 

[Mattara]

Regarding my comment on private security companies. Of course it is entirely compatible with a free market to install an alarm or bars on your store when it is closed, for instance. I did not mean to imply anything harsher. If everyone has perfectly honest, then no such things would be needed obviously. Now, I do not know how much large this industry is, but it is most likely not completely negligible.

 

[Mattara]

Let's take a breath. Gravity is pretty relentless and consistent. "Free markets" are poorly defined and slippery, depending on who you want to talk to. Our government advances the causes of corporations and large special-interest groups because our elected officials WANT and require money and influence. to stay in power If you think any free-market model can explain the crap that the US economy has been experiencing in the last 10 years, have at it!

Well, I would like to propose at least two defining characteristics for a free market: the non initiation of violence and the ability to write voluntary contracts. There are probably much more that can be said about it, of course.

 

[bleedblue1234]

I still don't understand why people are confusing cause and effect of the crisis scenario we experienced this past year. It was NOT a failure of the free-market system, rather a failure of government in the sense that they provided the necessary capital to leverage up and to overexpose the financial institutions to toxic assets because they could make the mal-investments.

 

[Astronuc]

. . . . government in the sense that they provided the necessary capital to leverage up and to overexpose the financial institutions to toxic assets because they could make the mal-investments.

Please provide the evidence that the 'government' provided capital.

As far as I can tell, lots of private investors and investment institutions put up the capital, and companies like Bear Stearns, Lehman Bros, Merrill Lynch took the money and bet it on high stakes investments. AIG and others involved in credit default swaps added to the risk by over-extending themselves.

If one is referring to Fannie Mae and Freddie Mac - I believe their capital came from or through Wall Street, and perhaps other exchanges.

The government certainly is responsible for their share of irresponsiblity.

Of course, there are the millions of individuals who mortgaged houses and run up credit debt well beyond their ability to pay. That's why bankruptcies and credit card/mortgage defaults are at record highs. The government did not force any private individual to borrow more than they could afford.

 

[Jasongreat]

Of course, there are the millions of individuals who mortgaged houses and run up credit debt well beyond their ability to pay. That's why bankruptcies and credit card/mortgage defaults are at record highs. The government did not force any private individual to borrow more than they could afford.

They didnt force anyone to borrow more than they could afford, but they did allow them to borrow money at very low interest rates, making it seem like they could afford it(atleast easier justification). Would people be more likely to buy a house that was over priced if they had to pay 10% interest on the overvalued amount or would they be more likely to buy an over priced house if they paid 0% interest on the added value, or easier yet are they more likely to pay more than the actual value if they only have to make interest payments and hoping the market will continue to grow? When after most of the twenties the market started to contract, Hoovers administration decided to lower interest rates to fuel more growth even though the market was trying to say it was over valued and needed to shrink, and as I see it the market is far more powerful than the government could ever hope to be and will always win in the long run. Eventually no matter how much interference the government inserts in the market it will eventually collapse as it did during the great depression. Why would we expect a different outcome when Bush did the same thing, it was government involvement in the market that destroyed the market, then the government said it had to interfere in the market even though that is exactly what caused the problem in the first place(regulated through interests rates not laws), and let's not forget they gave billions of our dollars that they forced us to pay to help stabilize the inflated market(bank bailout).
If we look at AT&T, the government started regulating them with the sherman antitrust act, which wasnt working since the courts decided that mergers did not create a monopoly even though they no longer had any competition as they were all part of the same company. Then came the kingsbery commitment, where the government realized that AT&T was a monoploly but that they would just regulate them better. Then about 60 years later(1984) the government decided they couldn't regulate that big of a company and made them dissolve into a bunch of smaller companies. So IMO the government sponsored their merger and the use of the power of monopoly for about 90 years, before they forced them to return to where they started, as a bunch of smaller companies. Wouldnt it have been easier as well as more logical for the government never to sponsor the mergers in the first place?

 

[Jasongreat]

Free market assumes honest participants.

I think a free market assumes everyone is dis-honest, not until the government starts to regulate would any sane person think that someone trying to sell them a product is completely honest. Remove the regulation and people would no longer trust buisinesses blindly,imo. One example that comes to mind is the drug ads where the spokeperson states that "the drug is completely safe since the FDA has approved it"(i think it was the abilify ad with winonna). It doesn't take a very long search to find numerous instances where the FDA has approved a drug as safe only to find thousand of americans dying from the proper use of that drug(phen-phen, viox, etc). My question is did those thousands die because of regulation or from the lack of regulation? My opinion is that if the regulation didnt exist, they would of had to research more into the drug before making an informed decision, they wouldn't of been able to reason that since the government regulates it, it has to be safe.