Business ethics 88.
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For months I have been resisting the urge to write about the financial crisis and subsequently the bailout plan. While I am an economist by profession, this column is not about economics and this is not the place for me to give my opinion on what's wrong with the US financial system and what fix, if any, is needed. This column is about the ethics of economics, and that angle did not present itself prominently.
However, I do find one salient ethical issue: the issue of greed. Many commentators have asserted that the crisis was driven by the greed of financial firms, and that their thirst for lucre was the source of our downfall. Some even conclude that this proves that an economic system built on greed, as capitalism seems to be, is inherently unstable.
It kind of depends on how you define greed. The market model of capitalism assumes that at least some people are greedy - they have an insatiable desire for more. You can always find a CEO who will have an incentive to make your firm succeed; you just have to offer enough money to draw the outstanding managerial talent. A nationalized firm, according to this logic, can never do this because it will be run by a bureaucrat with little personal interest in the firm's success. Even if the government is empowered to appoint a CEO with competitive benefits, ultimately the appointment is made by a bureaucrat, not by the owners, and so the same problem will arise.
The problem is that people can't be relied on to react to incentives this way. The problem is not too much greed; sometimes, in one sense, the problem is too little. Let me give two examples.
The first example is James Cayne, the former chairman of failed brokerage house Bear Stearns. The standard model assumes that if the CEO of a company has a billion-dollar personal stake in that company, then he will have a powerful incentive to exert himself to keep that company afloat and profitable. But arguably the model was gainsaid by Cayne, who decided that he would rather spend his time playing bridge and golf. I don't know if Nero fiddled while Rome burned, but I think it is plausible that Cayne bidded while Bear Stearns collapsed.
Now I personally think this is perfectly rational. If I were worth a billion dollars and was over 70 years old, I too would want to spend my time at the country club (or some equivalent) instead of running a huge and complex firm. The problem is not just Jimmie Cayne, but also the system based on the assumption that at his stage of life he would be more interested in doubling his billions than in attaining a doubled slam or a double eagle. In real life, generous compensation can be the problem, not the solution, to incentive problems.
The second example is the herd mentality that was behind the astonishingly lax conditions on subprime mortgages. People with little income were given huge mortgages with monthly payments far in excess of what their income could credibly bear. The stated rationale was that the bankers were sure the property would appreciate and so the mortgage would be backed by the asset value - but everybody knows that home values couldn't go up forever. If it could, then the banks should have gotten out of the loan business and gone into real estate. Bubbles are caused by a kind of herd mentality familiar to anyone who knows the first thing about human psychology. Once something becomes widespread, then anyone else doing it can't be faulted for it. He can always cover by saying, "Everybody was doing it."
Again, there's nothing irrational about this. People do want to make money - they are greedy - but they also want acceptance in the workplace and to conform to convention. The problem is not the herd mentality per se; this is part of human nature. The problem arises if the system is predicated on the assumption that people will consistently overcome this trait.
Culturally, we try to deal with this by cultivating the "good" kind of greed. We adulate people like the comparatively frugal multibillionaire Warren Buffet, whom we lionize as the "Sage of Omaha," while condemning the alleged neglect of people out to make a quick buck, or those who actually intend to enjoy their money.
Greed is indeed a powerful motivator, but it is only one of many. I wouldn't consider it a deadly sin, but I don't think it contributes as much to personal happiness as many other personality traits. It is a mistake to cultivate it excessively in the belief that our economy depends on it. If we want markets to serve us well, we have to take into account that they are driven by many factors, only one of which is the "good greed" which is supposedly the engine of progress.