Like a pathologist who examines cells and tissue to determine what ails
the patient, economist Joseph Stiglitz has been dissecting the U.S.
economy to find out what caused its spiral into recession.
The Nobel prize-winning economist admonished regulators and Wall
Street for not paying enough attention to the lessons of history during
a speech before almost 200 students Jan. 22, at the Stanford Graduate
School of Business.
The Great Depression led to new
insights into how periods of unemployment could persist and led to the
conclusion that markets are not self-adjusting, he said.
the idea that something might be wrong with unchecked free markets was
forgotten during the tech bubble and the housing bubble that saw high
employment rates. It raises questions: are markets as efficient and
innovative as market advocates claim?
Stiglitz, now a
professor at Columbia University, in 2001was awarded the Nobel Prize in
economics for his analyses of markets with asymmetric information.
Sharing the honor were former Business School Dean Michael Spence and
George A. Akerlof of the University of California, Berkeley. The
threesome's idea was that the invisible hand of the market cannot
always be relied upon to get prices right.
markets aren't always fully informed. The invisible hand often seems
invisible because it's not there, Stiglitz said. Markets are not
In this recent economic crisis,
financial markets misallocated capital and mismanaged risk, he said.
The notion that allowing people to take on more risk propels the
economy forward didn't work.
Stiglitz excoriated lenders
for selling mortgages that pushed homeowners into taking risks that set
them up for failures, such as negative amortization loans. The more
you borrow the richer you'll be? he asked incredulously. And mortgages
offered to people who clearly couldn't afford them? Giving away money
to low-income individuals is usually not the standard business model
for most banks.
Wall Street and regulators didn't pay
attention to economic fundamentals during the housing boom, he said.
Americans' income was going down as the price of housing was going up.
Eventually you were going to run into problems.
States exported some of its toxic mortgages; had it not sent some of
them to Europe via complex securitization, its downturn would have been
far worse, Stiglitz wrote in Newsweek late last year.
likened bundling bad products (low-rated securities) into good ones to
create profitable products, to turning lead into gold. The problem was
one of intellectual incoherence. They created new products to transform
financial markets yet based the risk assessment on data from before the
creation of new products, he said.
Along with financial
markets that misallocated capital and transferred risk to those less
able to bear it, Stiglitz blamed the economic crisis on the failure of
regulators to act to stem spendthrift patterns. There was a party
going on and no one wanted to be a party pooper. But along with bad
lending and bad monetary policy, there were three other contributory
factors at the corporate level: poorly designed incentives, inadequate
compensation and nontransparency into accounting policies and products.
called for fundamental reform, starting with the banks that have
received federal bailout funds being forced to sell foreclosures that
give homebuyers a fair chance. Changing the current situation where
imports exceed exports is the only way to address reform globally, he
Long-term, he was pessimistic about some of the
steps the U.S. government has taken to stem the downturn, such as
injecting capital into the banking system. It's very worrisome that
some of the ways we are getting out of the crisis is exacerbating the
problem. Making banks bigger should make us uneasy, he said. And
making the Federal Reserve, whose balance sheet has risen to $3
trillion from $800 billion, the lender of first—instead of last—resort
is deeply troubling to our political and economic processes.
recently, Stiglitz has written several opinion pieces arguing that tax
breaks for business —except when closely linked to additional
investment—shouldn't be part of a stimulus package. What's needed, he
told the audience, is regulatory change in incentives so those in the
financial markets don't engage in the same bad behavior.
appearance was as part of the Business School's Global Management
Program's Global Speaker Series. His most recent book is, The Three Trillion Dollar War: The True Cost of the Iraq Conflict, co-authored with Linda Bilmes.