Sunday, October 25, 2009

Why the economy imploded

A lot of well-trained, very smart people made decisions that seemed quite rational at the time. They followed their best training and the collective wisdom of their industry.

Since those decisions lead directly to the current economic crisis, we really need to understand what happened and why it happened so we can try to prevent this kind of global collapse from happening again.

Each of these people has somewhere between 250 and 500 hours of dedicated classroom training in economics, how it works, and how to manage businesses using that knowledge. If only one or two of this huge number of people, worldwide, had made the kind of serious misjudgments that lead to this crisis you might attribute it to their individual misunderstanding or misuse of that schooling or you might simply say they didn’t properly execute the steps that training recommended.

You might, if only a few of them had made those mistakes. That’s not what happened. Far too many of this select group acted in the same way at the same time for it to be simple human error.

Which seems more likely to you, that literally thousands of individuals, spread all over the world made similar mistakes at approximately the same time or that the knowledge gained in those 250 to 500 hours was simply wrong?

The fact the existing tracking systems, created by those same classically trained economists, didn’t catch a lot of people misusing or not properly executing the accepted economic wisdom makes it seem even more likely that the decision makers were doing exactly what that accepted economic wisdom expected them to do.

Without a detailed study of the current recession we can’t be sure, but it is unlikely in the extreme that so many people would all screw up in the same way at the same time. Much more likely that they were filtering the information through the same misguided theories.

I submit that a lot of people following a bad plan is much more likely than a lot of people screwing up in the same way at the same time. I further submit that the fundamental flaw in the underlying theories is that they mistake cause for effect!

There is an old saying that nothing happens until someone sells something, and from the limited perspective of the salesman that’s true. The broader view is really that nothing happens until someone buys something. Using that broader statement leads to other obvious conclusions.

For anyone to buy something they must have money; implying jobs that pay enough to buy that stuff. So any economic theory that does not hold as its keystone the availability of jobs and the income level of those jobs is fundamentally flawed. Yes, the current crop of economic measures and theories do include jobs and salaries, but only peripherally not as the central measure of economic health.

While this may seem simplistic or limited to someone trained in “classic” economic theory it seems obvious to the most casually observer that since one of the most highly trained economists, Alan Greenspan, didn’t see this coming that the training he spent a lifetime acquiring might have blinded him to factors that a lay person in his innocence recognizes as critical.

Benjamin Franklin is quoted as saying “Insanity is doing the same thing the same way and expecting different results”, we got where we are following our current economic theory and only examining and revising those theories stands a chance of charting a course out of our economic morass.